The Fuse

Outlook in Doubt for Canada’s Oil Sands Beyond 2020

by R. Kress | October 20, 2015

Canada’s oil-rich Alberta province has seen an energy boom during the past decade, but over the last year or so, the outlook for oil production has turned grim as a result of a boom in global supply and OPEC deciding not to cut production. The outlook could remain grim: The International Energy Administration (IEA) recently said that oil demand growth will continue to slow and supply will remain high through 2016.

Despite the bleak picture for producers, oil sands output in Alberta is still expected to grow by .8 mbd between now and 2020.

So, despite the bleak picture for producers, why is output for oil sands in Alberta still expected to grow by .8 million barrels per day between now and 2020? The main reason is that long lead times make oil sands different from conventional crude projects. Oil sands projects that are currently under construction will still go forward as capital has already been invested in them.

Since 2005, oil sands production has climbed to about 2.3 million barrels per day, making Canada third in the world for oil supply growth. The outlook is not only threatened by lower prices; the new Liberal Party elected on Monday could also undermine the industry’s goal. The Conservative government of Steven Harper, who was prime minister since 2006, was generally friendly to the oil industry’s interests.

Oil sands output still rising, but growth slowing

Even with large amounts of oil sands production currently under construction, it’s unclear how durable growth is. While the .8 mbd increase is still impressive given the current oil price outlook, it does mark the beginning of a production slowdown for the Alberta oil sands. Prior forecasts showed growth of closer to 1.1 million barrels per day over this timeframe.

While the .8 mbd increase is still impressive given the current oil price outlook, it does mark the beginning of a production slowdown for the Alberta oil sands.

“The oil sands, in their developments, are between 30- and 50-year projects—and they take between five to 10 years to ramp up to getting the first barrel of oil from the ground,” explained Greg Stringham, Vice President of Oil Sands and Markets for the Canadian Association of Petroleum Producers (CAPP). “With this reduced price scenario, a lot of future projects have been shelved, but the projects that are under construction are still continuing because there’s enough capital invested to be worth going on.”

While Stringham acknowledged that the 35,000 layoffs and the sharp declines in conventional oil production are signs of the downturn’s impact, he underscored the fact that oil sands projects are different than most conventional crudes. The difference between the oil sands and other types of crude is critical to understanding Alberta’s—and Canada’s—economic outlook.

“It’s a tale of two types of crude,” Kevin Birn, the Director of Canadian Oil Sands Dialogue and North American Crude Oil Markets for HIS, told The Fuse. “With oil sands, it takes a lot longer to turn the ship. Conventional is far more price responsive. You can see the impact within months. Oil sands are insulated. They’re slow to respond to low prices but also slow to respond to high prices.”

Birn also explained that with conventional oil, a producer can cut output relatively quickly, and when prices rise, putting drilling sites back online can be done quite rapidly. By contrast, with oil sands projects, the entire process is much slower.

“These are projects with large, up-front capital and long lead times. You have production from existing facilities with little to no declines,” Birn said. As for projects under construction: “The most optimal thing to do is to bring them online as fast as possible to bring in any revenue they can. They’ll continue to grow through 2020 driven by these long lead projects. However, this has implications for the economy writ large…The total extent of lower prices on the Canadian economy is being blunted by these projects.”

The beginning of next decade will be a critical inflection point for oil sands.

The point is echoed by CAPP’s Stringham, who also points to 2020 as a critical inflection point for oil sands: “After [2020] there is a real change in the growth profile because the projects that were planned have been put on the shelf. While the momentum doesn’t slow very easily, it doesn’t speed back up very quickly either.”

With oil and gas making up more than a quarter of Canada’s GDP, and the bulk of it coming from Alberta, the impact on the national economy is huge.

“There’s no doubt that [continued growth in oil sands productions] has made a significant impact on the economy, on government revenues, on employment availability,” Stringham said. “[Oil and gas] is going to continue to be a part of our future because industries that have built on top if it are expanding as well.”

Oil sands beyond 2020

The most important factor in determining future growth will be price volatility.

Looking beyond 2020, oil sands growth will depend on a number of factors. For one, Birn notes, the scuttling of the Keystone XL Pipeline will make it more costly to move crude produced in the oil sands. He estimates the cost will be an additional eight to 10 dollars more per barrel to move the oil by rail in lieu of a pipeline. He also notes that climate policy—which could change under the new government— and its subsequent regulations will play a role in addition to the overall global price recovery. However, the most important factor in determining future growth will be price volatility.

“Volatility impairs decision making: it’s hard to make a choice about a multi-million dollar project when you don’t know if you’re in a peak or in a trough,” Birn said. “We expect growth will continue but an array of factors will shape the trajectory of that growth.”

CAPP estimates that even with slowed growth, the oil sands will reach production of 4 mbd by 2030, making it clear that many projects will weather the storm of the low price environment. Workers, however, may not. While some work will continue on oil sands projects both under construction and in production, this situation will not go on indefinitely.

“The reality that the price recovery is going to be measured in years not months has sunk in,” Birn says, noting that there’s no sign of relief in sight. While the majority of the estimated 35,000 workers now unemployed come from the conventional oil sites, it remains to be seen how oil sands production will fare in several years. Birn advises restraint in coming to any firm conclusions, pointing to a long history of price volatility in Canada.

“We get caught up in the moment. A year or two ago, the idea of these prices falling seemed far flung. Now, people are painting a world where this is going to happen forever. It’s just a question of how and when companies will reengage and how those individual sources of supply will respond,” Birn said.

It’s also possible that the labor force will be decimated by the current downturn. “It’s a concern that the oil sands producers have lived with: when you reduce activity, your workers go somewhere else. Will they deflate their capacity for future growth by cutting too deep in this period?”

CAPP’s Stringham has a more optimistic outlook, pointing out that the most vital employees will be retained since these companies have been through price fluctuations before.

“Each company has their own specific strategy,” Stringham said. “Having been through the ups and downs of oil pricing before, companies are keen to retain the best employee they can because they’re looking at success in the long term.”