OUTLOOK 2004: International
Canadian Outlook

Industry primed for repeat performance after record year

Strong oil and gas prices will fuel another year of high Canadian well totals

Robert Curran, Calgary

A year ago, the signs pointed to a busy 2003, but producers were wary. Their concern proved unnecessary, as strong oil and gas prices enhanced investor interest in energy stocks, and spurred a record-smashing performance that will be tough to match in 2004. 

OVERVIEW

This year, price signals indicate that the bullish atmosphere could well continue, although most experts predict that drilling will not quite reach the heights seen in 2003. Nonetheless, early predictions point to what may be the second-best year on record. 

In January, buoyed by oil prices that were over C$40/bbl for Edmonton Light, and natural gas prices hovering near C$6.50/Mcf at Alberta's AECO-C trading and storage hub, operators began 2004 on an aggressive note, with drilling contractors ahead of 2003's pace. 

Consistent demand for Canadian crude and gas is pushing producers to drill up their prospects while the market is bullish. There are always uncertainties, of course, and an industry burned by overextension in the past appears more determined to prevent it from happening again. But with the war in Iraq over and the Kyoto Accord apparently on the way to imminent demise, the main sources of concern and potential instability during 2003 are significantly lessened, if not eliminated. 

Producers have been pleasantly surprised that oil prices have remained strong following the culmination of the Iraqi war. So, as most indicators remain positive and the cash flow stays high, spending plans look to remain more or less flat over the year ahead. A recent survey by New York-based Lehman Brothers indicates that exploration and production spending will remain more or less flat, at US$13.6 billion, compared to $13.9 billion in 2003. Leading the way in 2004 will be Encana, with plans to spend US$2.3 billion, followed by Canadian Natural Resources ($1.2 billion) and Husky Oil ($1.3 billion). 

Of course, high activity levels can cause problems, such as the continual search by drilling and service companies for enough trained staff. However, high activity levels have created a twist on the age-old problem – employment levels in the service sector are expected to remain flat, so relatively few new jobs will be available. However, competition for the best personnel makes staff retention a bigger ongoing issue, according to the Petroleum Services Association of Canada (PSAC). 

Partially fueling this year's activity are industry's financial results for 2003. Through the third quarter, earnings reached C$13.27 billion, dwarfing the $5.5 billion recorded through nine months in 2002. The industry is on track for a record, $17 billion in earnings for 2003, as projected by the Daily Oil Bulletin.The improved results also came despite two otherwise mitigating factors – the Canadian dollar's increased strength versus the US dollar, and the second straight year of declining gas exports to the US. As the Canadian dollar's value increases relative to its US counterpart, the export market loses money on the exchange rate. 

In addition the National Energy Board said that gas exports declined 4.2% for the contract year ending Oct. 31, 2003, to 3.55 Tcf. The two years of decline follow 15 consecutive years of export growth. The NEB further cautions that extensive drilling should keep gas deliverability near the current 16-Bcfd rate this year. It will likely fall below that mark in 2005. However, better technology and future development of coalbed methane deposits, particularly in Alberta, may help offset the decline. 

Meanwhile, oil exports to the US are surging. In 2003, Canada was on track to set a new record according to the US Energy Information Administration. Exports averaged 1.53 million bpd through October, considerably higher than the 1.44-million-bpd record established in 2002. 

Given the North American demand increases, the commodity price outlook is bullish. Producers are expected to maintain high spending levels in 2004, and energy stocks had their best year in 2003. Energy market indicators are also strong for the next 12 months. 

The Toronto Stock Exchange's energy index closed 2003 at a record high, with oil companies enjoying a 23.6% gain over the year, just behind the gains made on the TSE's composite index, which rose 24.3%. 

The performance of junior oil and gas companies was particularly impressive, with different brokerages showing gains of about 65% for small-cap firms. Income trusts also performed well, garnering an average growth rate of almost 50%, although some industry observers question if that level of performance is sustainable for trusts through 2004. Regardless, most Canadian analysts are predicting a banner year for oil and gas stocks in 2004, as well. 

Income trusts also figured prominently in the increased value of Canadian initial public offerings in 2003, with a total of C$575 million, up substantially from the $88 million collected through IPOs in 2002, according to PricewaterhouseCoopers. 

With the oil and gas sector's strong market performance in 2003, Canadian officials have once again begun musing about the possibility of selling a stake in Petro-Canada. However, there seems to be more conviction in Ottawa this time about spinning off their remaining 19% of the former Crown corporation. Petro-Canada began its life as Canada's national oil company in the late 1970s, formed as a protectionist measure to ensure that Canadians had enough energy, and that domestic oil and gas development decisions were being made in Canada. 

Petro-Canada's share prices rose about 35% in 2003, and hit an all-time high in early January, valuing the government's stake at well over C$3 billion. However, the bullish outlook has analysts projecting a share price that could increase another 20% or more in 2004. This could entice officials to hang on to their stake even longer. 

There were a number of large acquisitions in 2003, highlighted by EnCana's sale of its 13.75% stake in the Syncrude Oil Sands Project to Calgary-based Canadian Oil Sands Trust in two stages, worth a combined C$1.5 billion. In October, Husky Energy acquired Marathon Canada Ltd. and the western Canadian assets of Marathon International Petroleum for US$590 million, then sold some of these holdings to EOG Resources for US$320 million. 

On the mergers and acquisitions horizon for 2004 is an announcement by ChevronTexaco that it plans to sell certain US assets, and it has not discounted the possibility that some Canadian assets (with production of 35,000 boed) might also be divested. 

As takeover speculation and rumors swirl around Calgary's office towers, the field is dealing with another hectic winter drilling season. Although most industry observers agree that 2004 is not likely to surpass last year's record drilling pace, it may come close. 

Last year, there were just under 20,000 wells drilled in Canada, according to Daily Oil Bulletin records, up 37% from the 14,562 wells drilled in 2002, and 11% higher than the former record of 17,983, established in 2001. Reflecting North America's high gas prices during 2003, there were 14,050 gas wells drilled (70.4% of total wells), representing both the highest number of gas wells ever drilled and the highest ratio of gas well drilling in more than 30 years. There were also 4,473 oil wells (22.4%). In 2002, there were 9,121 gas wells and 3,856 oil wells. 

The Canadian Association of Oilwell Drilling Contractors (CAODC) forecasts a 9.7% decrease in drilling activity during 2004, to 18,023 wells – still making it the second-best year on record. The CAODC based its forecast on an average WTI price of US$27/bbl, and an average spot gas price of C$4.75/Mcf at Alberta's AECO-C hub. 

What 30 Canadian drillers plan for 2004

Meanwhile, PSAC has forecast a more modest decrease, projecting 18,965 

wells will be drilled (down 5%). PSAC believes that shallow, gas well drilling in southeastern Alberta, southwestern Saskatchewan, and northeastern British Columbia will be the focus of much of this year's activity. 

In late 2003 and early 2004, World Oil conducted its annual survey of Canadian producers. The outlook mirrors last year's bullish results, with producers indicating they would drill 7,988 wells in 2004, up 3% from the 7,758 wells they drilled in 2003. This would roughly translate to a projected industry-wide total of 20,180 wells for 2004. In the past, World Oil's survey numbers have usually demonstrated a more bullish outlook than other forecasts. 

Reflecting the ongoing demand for gas across North America, gas drilling is expected to comprise 83% of the total (6,612 wells). The survey also shows less exploratory drilling will occur, with just 8.4% of the wells (668) slated as wildcats. In 2003, the percentage of wildcats drilled by survey participants was 10.0% (779). Activity should increase 4% in Alberta and 31% in British Columbia, and decrease by just over 14% in Saskatchewan. 

As the search for oil and gas becomes increasingly difficult in the Canadian Western Sedimentary basin, producers are changing their focus. Oil sands development, enhanced oil and gas recovery in mature fields, deep gas, and offshore developments are more prevalent than ever before. And the continuous rise in North American energy demand has sparked interest in more difficult, higher-cost activities, such as coalbed methane development and the massive oil and gas deposits in Canada's hard-to-access Arctic areas. 

On the oil sands front, activity is steady, and the status of a variety of projects ranges from proposed to proceeding. Between them all, it is sometimes difficult to assess the overall scope of development, particularly in northwestern Alberta's Athabasca area. 

According to the Alberta government, oil sands output is 40% of provincial oil production, and about one-third of Canadian output. By 2005, oil sands production should be 50% of Canadian oil output, and 10% of North American production. Since 1996, C$23 billion have been invested in Alberta's oil sands. There is C$7 billion in construction underway, and industry has earmarked another C$30 billion to be spent over the next decade. 

A number of noteworthy projects reached significant milestones in 2003, while a few others are expected to be reached in early 2004. Two proposed projects await approval from federal and provincial regulators. One is Canadian Natural Resources C$8.5-billion Horizon project, which is scheduled to produce 110,000 bopd by 2008 and 232,000 bopd by 2012. The other item is the C$2-billion Jackpine project (proposed by Shell Canada, Chevron Canada and Western Oil Sands), which is designed to produce 200,000 bopd, although the partners have not established a firm in-service date. 

In addition, Canadian Natural Resources has continued work on its 42,000-bopd, Primrose/Wolf Lake project, which should see first production sometime this year, and is expecting to reach 90,000 b/d by 2008. 

One planned project, a C$3.2-billion in situ operation proposed by Nexen Canada and OPTI Canada, received regulatory approval late last summer. The project, which is awaiting approval from the companies' boards of directors, would produce 70,000 bopd by 2006. OPTI is trying to raise C$1.7 billion (half debt and half equity) to fund its portion of the project. An IPO from the company is expected early this year. 

At Suncor's oil sands operation north of Fort McMurray, the first Voyageur expansion program phase, the C$600-million Firebag in situ project, is now operational and will produce 35,000 bopd by 2005. Overall, the company plans to increase plant production from its current level of 225,000 bopd to 330,000 bopd by 2007. Up the road at the Syncrude Canada facility, the Aurora pit mine expansion's second phase is almost complete, and construction continues on a new, $5-billion upgrader. Syncrude projects that production of 285,000 bopd will jump to 425,000 bopd by 2005. 

And at one of Alberta's most enduring projects, Imperial Oil's Cold Lake heavy oil recovery scheme (producing 116,000 bopd from its 13 phases) may expand further, with three new phases planned. To the west, EnCana has a C$400-million expansion plan in place for its 22,000-bopd insitu project at Foster Creek. This should raise output to 35,000 bopd this year and to 120,000 bopd by 2007. 

Sometime this year, an application to provincial regulators is expected from Synenco Energy Inc. for its Northern Lights project, a C$4.5-billion mining and upgrading facility about 60 mi north of Fort McMurray. It would produce 100,000 bopd by 2007. 

The East Coast features mixed messages once again, as each step forward is matched by a half-step backward. A variety of activity continues onshore and offshore, but it is tempered by EnCana's decision to withdraw the Deep Panuke gas project's application, not far from the Sable Island development, and pursue a longer-term, less ambitious development plan. 

DRILLING/LAND SALES

These are heady times for drilling and service rig contractors in Western Canada. Coming off the best drilling year in Canadian history, all early indicators point to another busy 12 months to come. In 2003, the 19,957 wells drilled (CAODC's figure) generated a rig utilization rate of 62%, with an average 418 rigs working out of the total fleet of 672. In 2002, with 14,562 wells drilled, utilization was 50%. 

In 2004, the CAODC is projecting a slight decrease from 2003 drilling levels, to 18,023 wells, which still exceeds the previous all-time high, set in 2001. At the same time, the fleet is forecast to average 681 rigs this year with 394 active, resulting in an average utilization of 58%. By comparison, the Canadian Association of Petroleum Producers has estimated 2003's well total at 19,622. The association predicts 18,500 wells during 2004. 

Government land sale bonuses surged in 2003, almost doubling the amount collected across Canada the year before. Overall, between land sale revenue and work commitments, operators spent and pledged over $2.4 billion to provincial authorities. 

From British Columbia to Ontario, land sale bonuses totaled C$1.71 billion, up 91.5% from 2002's C$893.1 million. Producers picked up 4.95 million hectares, or an average per-hectare price of C$345.20. This compares to 4.29 million hectares (C$208 per ha) in 2002, according to DOB statistics. 

Alberta took in C$904 million for 3.14 million hectares ($287.62/ha), up 80.3% from 2002's C$501.5 million (C$181/ha). British Columbia jumped more than 124% to a record C$646.7 million for 733,487 hectares (C$881.65/ha), compared to 2002's $288.5 million (C$340/ha). The jump in B.C. revenue was due to a September land sale that raised C$418 million, spurred by the Cutbank Ridge play. 

Saskatchewan's 2003 bonus revenue was C$158.7 million for 1.06 million hectares (C$149.17/ha), up 54.2% from 2002's C$102.9 million (C$157/ha). Meanwhile, Manitoba and Ontario took in C$294,000 and C$323,000, respectively. The C$706.3 million in work commitments were dominated by a single, C$672-million bid, made jointly by Chevron Canada, ExxonMobil Canada, and Imperial Oil for rights in Newfoundland's offshore Orphan basin. 

PRODUCTION

Despite the record drilling rate and high commodity prices that were enjoyed in 2003, production levels have not yet caught up to the frenzied pace. Nonetheless, the decline in oil output seems to have abated in the short term, a trend that may improve as more oil sands projects and offshore developments go into commercial production. However, the declines forecasted on the gas side may be more difficult to address in the near future and in years to come. Crude oil and equivalent production was virtually identical to 2002's level, at 2.36 million bopd. Gains on the East Coast offset declines across the prairie provinces. British Columbian production dropped 22%, to 46,700 bopd. Output decreased 2.5% in Alberta, to 1.53 million bopd. There was a 3% drop in Saskatchewan, to 416,300 bopd, while East Coast production increased 18%, to 340,000 bopd. On the natural gas side, production fell 1.1%, to 17 Bcfd. 

OFFSHORE

As usual, there are positives and negatives for the burgeoning oil and gas industry on Canada's rugged East Coast. However, companies that can afford the high drilling costs seem convinced that the potential reserves are worth the heavy investment. 

Nova Scotia got a boost in December, when ExxonMobil announced that it had initiated production at Alma field, an extension of the Sable Island development. The company estimated output at 120 MMcfgd, plus 3,000 bpd of condensate and NGLs. The additional production boosts Sable's output to 500 MMcfgd and 20,000 bpd of NGLs and condensate. Production from an additional field, South Venture, should begin late this year. 

However, EnCana is rethinking its approach on the moribund, $1.1-billion Deep Panuke gas project offshore Nova Scotia. The company withdrew its original application and is considering other options, such as constructing a smaller production facility and extending the project's productive life. Encana has also said that it does not expect to see production from Deep Panuke prior to 2007. 

Meanwhile, Husky's FPSO vessel, constructed for its 92,000-bopd White Rose oil development off the coast of Newfoundland, was dubbed Sea Rose at a South Korean shipyard. The FPSO was set to begin its 55-day voyage to Newfoundland in late January. 

Future development hinges on such prospects as the Orphan basin, offshore Newfoundland, which is rumored to potentially rival some of the largest oil fields in North America, and dwarf the deposits at the existing Hibernia and Terra Nova fields. Interest in its potential sparked the massive $672-million work commitment made last year by Chevron Canada (50% interest), ExxonMobil Canada (25%) and Imperial (25%).  

Mr. Curran is a Calgary-based freelance writer.