Get 40% Off
🤯 This Tech Portfolio is up 29% YTD! Join Now to Get April’s Top PicksGet The Picks – Just 99 USD

Is Canada's Oil Pipeline Bottleneck Choking The Economy?

Published 05/21/2018, 08:56 AM
Updated 07/09/2023, 06:31 AM

Oil production is surging in Canada but producers are far from happy as their profit margin is sinking and they are striving to stay competitive with their U.S. counterparts. While upstream companies like Marathon Oil Corporation (NYSE:MRO) , Hess Corporation (NYSE:HES) and others are enjoying the shale boom and rebound in prices in the United States, their Canadian counterparts like Cenovus Energy Inc. (TO:CVE) and others are thinking of reducing production. The primary reason behind this is the shortage of pipelines in the country. In short, pipeline construction in Canada has failed to keep pace with rising domestic oil production – the heavier sour variety churned out of the oil sands – resulting in infrastructural bottlenecks. This has also forced producers to give away their products at a discounted rate.

Price Differences Leading to Lower Revenues

Pipeline capacity constraints mean that Canadian oil explorers are selling their products in the United States – their major market – at highly discounted prices, causing tremendous loss in revenues. In fact, the discounts have led to a huge difference between Alberta’s Western Canada Select and New York-traded West Texas Intermediate oil benchmark. After adjustments made for differences in quality and shipping costs, the Fraser Institute in Canada found the difference between oil prices in the United States and Canada at $26.30 per barrel for 2018. This is expected to land a C$15.8 billion blow to the energy sector’s revenues. Notably, the price difference between the two averaged at $16.54 per barrel during the 2012-17 period, which resulted in lost revenues of C$20.7 billion.

As it is, extraction from oil sands is a high-risk strategy considering the extra costs involved compared with production from conventional oil wells. Add to it limited pipeline capacity and things do not look too promising for Canada’s upstream players.

Now the question is what led to this infrastructural scenario.

Environmental and Political Turmoil

Though several major pipeline projects received the green light from the review agencies in the country, their future is still uncertain due to political turmoil. Moreover, environmental protests are on the rise, thereby further derailing construction. The crusaders believe that the rapidly growing movement of oil around the country is unsafe.

For example, the C$7.4 billion Trans Mountain pipeline expansion project of Kinder Morgan, Inc. (NYSE:KMI) – a Zacks Ranks #3 (Hold) company – faced opposition from British Columbia residents and indigenous communities, who are wary of the potential impact of the project on the environment. The NDP government in British Columbia also opposed the expansion project. Currently, the Canadian government is planning to provide a financial shield to the company from the politically motivated delays.

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Moreover, TransCanada Corporation’s (TO:TRP) $8 billion Keystone XL pipeline – expected to carry heavy crude from Alberta to refineries in the United States – is yet to get a final investment decision. The midstream company had secured 20 years commitment for 500 thousand barrels per day for the pipeline and received Alberta government’s support. However, the Nebraska government sanctioned the Mainline Alternative Route for the controversial project, which is longer than the company’s preferred route and has forced it to review the alternative route keeping the final decision on hold.

Enbridge Inc.’s (NYSE:ENB) Canada-United States connecting Line 3 replacement project faced criticism from the Ojibwe communities. The capital cost of the project in Canada is estimated to be C$5.3 billion while the portion in the United States will cost $2.9 billion. The preferred route of the company goes against the interests of the Native Americans. The fate of the project is expected to be decided by Jun 27, 2018. The situation has become discouraging for investors in the oil energy space in Canada.

Related Problems

Apart from Canadian oil’s massive discount relative to WTI, the pipeline shortage created another problem for the energy sector, as crude shippers increased their dependence on railway and trucks, which is costlier than pipelines as well as less safe. Carrying oil by railways and roads makes crude transportation more prone to spills, which is ironically the primary concern for environmentalists. Hence, it can be said that the pipeline shortage is causing both economic and environmental problems for Canada.

Additionally, the farmers who ship their grains via railroads are experiencing difficulties as they are left with stranded cargos and cash crunch. Rise in demand for shipping crudes by rail is pushing other cargoes off the rail. It created grain backlog due to lack of lower availability of crop cars. In short, the pipeline bottleneck is slowly squeezing Canada’s two most important sectors and giving investors a hard time. It has also put the government in a tough spot.

Conclusion

Even if implementation of the pipeline policies accelerates, it will take considerable time to actually finish the projects. Until then, the economy is likely to take a blow on two fronts, energy and agriculture. In case of Trans Mountain, the government’s plan to provide financial assurance, taking the burden of politically-motivated delays, will further create a hole in tax payers’ fund. Hence, a sound regulatory and environmental policy framework is the need of the hour. The sooner it is devised, the better it is for the Canadian economy. Otherwise, it will become increasingly difficult for energy companies to find new routes to take the country's landlocked oil to foreign markets.

Looking for Stocks with Skyrocketing Upside?

Zacks has just released a Special Report on the booming investment opportunities of legal marijuana.

Ignited by new referendums and legislation, this industry is expected to blast from an already robust $6.7 billion to $20.2 billion in 2021. Early investors stand to make a killing, but you have to be ready to act and know just where to look.

See the pot trades we're targeting>>



Cenovus Energy Inc (CVE): Free Stock Analysis Report

Enbridge Inc (ENB): Free Stock Analysis Report

Kinder Morgan, Inc. (KMI): Free Stock Analysis Report

TransCanada Corporation (TRP): Free Stock Analysis Report

Hess Corporation (HES): Free Stock Analysis Report

Marathon Oil Corporation (MRO): Free Stock Analysis Report

Original post

Zacks Investment Research

Latest comments

Risk Disclosure: Trading in financial instruments and/or cryptocurrencies involves high risks including the risk of losing some, or all, of your investment amount, and may not be suitable for all investors. Prices of cryptocurrencies are extremely volatile and may be affected by external factors such as financial, regulatory or political events. Trading on margin increases the financial risks.
Before deciding to trade in financial instrument or cryptocurrencies you should be fully informed of the risks and costs associated with trading the financial markets, carefully consider your investment objectives, level of experience, and risk appetite, and seek professional advice where needed.
Fusion Media would like to remind you that the data contained in this website is not necessarily real-time nor accurate. The data and prices on the website are not necessarily provided by any market or exchange, but may be provided by market makers, and so prices may not be accurate and may differ from the actual price at any given market, meaning prices are indicative and not appropriate for trading purposes. Fusion Media and any provider of the data contained in this website will not accept liability for any loss or damage as a result of your trading, or your reliance on the information contained within this website.
It is prohibited to use, store, reproduce, display, modify, transmit or distribute the data contained in this website without the explicit prior written permission of Fusion Media and/or the data provider. All intellectual property rights are reserved by the providers and/or the exchange providing the data contained in this website.
Fusion Media may be compensated by the advertisers that appear on the website, based on your interaction with the advertisements or advertisers.
© 2007-2024 - Fusion Media Limited. All Rights Reserved.