Royalty advice: don't act, talk...

Only threat to Alberta is onset of world peace
David L. Yager, National Post, 18-Sep-2007

Beyond royalty hysteria
Diane Francis, Financial Post, 06-Oct-2007

Wall Street to Alberta: Don't be ‘so stupid'
Shawn McCarthy, Globe and Mail, 05-Oct-2007

Energy giant rages against plan to hike Alberta royalties
CBC News, 05-Oct-2007

An outbreak of world peace and respect for human rights would be disastrous for Alberta. Global happiness would bankrupt this province.

It's not obvious how Alberta prospers by the world's misery. Let's connect the dots.

Alberta has earned the dubious distinction of being one of the most expensive places to develop and produce oil and gas. It's a combination of geology and public policy.

Because of our long history in the conventional-oil business, the cheap stuff is increasingly hard to find. All the big fields have been discovered and largely drained. What conventional-oil explorers do find today is heavy, wet, sour or small.

Sadly, our oilpatch is also over the hill for natural gas. Increasingly, we're drilling "resource plays" (a complimentary term for very tight reservoirs that cost a bundle to stimulate) or "non-conventional" supplies like coal-bed methane. The current rig count illustrates that $5.25 per thousand cubic feet for methane is way too low for this basin.

The future of hydrocarbon production is oil so heavy that is must be mined and separated or heated so it will move. High oil prices and massive reserves have made Alberta's non-conventional oil attractive, but right now this is surely the most expensive petroleum to develop in the world.

Politics don't help. While the public debate about whether Alberta charges enough economic rent through the lease and royalty system will go on forever, there are significant but seldom discussed soft costs that continue to drive up finding and development costs.

As people and production get closer together, the inherent conflict of public ownership of subsurface resources and private ownership on top continues to pressure costs. Expenses for public hearings, environmental protection and surface access continue to rise.

As drilling in Alberta remains flat while activity in the United States is flat out, we can't ignore much lower costs stateside for mineral rights and surface access.

What is saving Alberta's bacon right now is surprisingly high oil prices. Although speculation about whether "peak oil" has arrived continues, this subject cannot be fairly studied without factoring in politics. A look around the world leads me to conclude that current crude prices have nothing to do with geology.

There is no shortage of geologically promising places to drill for oil. What our industry is lacking is oil reserves to develop in places where private companies are welcome and our workers are safe.

There's a long list of awful countries with oil. They all suffer from one ore more of the following negative attributes: dictatorships, insurrection, state ownership, civil war, corruption or repressive governments. Not one of them would be classified as a nice place to live.

Alphabetically they include Azerbaijan, Bolivia, China, Columbia, Ecuador, Iran, Iraq, Kazakhstan, Kuwait, Mexico, Nigeria, Russia, Saudi Arabia, Sudan, Turkmenistan, Uzbekistan and Venezuela. I'm sure this list is not complete.

Each of these countries have two things in common: oil that costs less to develop than Alberta's, and one or more political reasons why Western oil companies aren't actively drilling there.

Everyone professes to support global peace and democracy and an end to human suffering and political corruption. Suppose for a moment these noble improvements to mankind were to miraculously occur.

The start of the world's unprecedented happiness would be accompanied by the end of Alberta's petroleum industry. Multinational oil companies would dump our province in a flash and flock back to Mexico, Russia, Venezuela, Saudi Arabia, Iran or Iraq. The other countries would be close behind.

As Alberta's political leaders discuss public and energy policies, you're not likely to hear them praying for more state ownership of petroleum abroad, or a continuation of the civil wars in places like Sudan, Iraq and Nigeria.

But it's pretty clear what would happen if the world changed. Alberta's oilsands are attractive not because of what they are, but where they are. Oil companies are investing billions in an attempt to make a buck recovering this awful goop simply because there's no place else to go.

Alberta's alleged political stability is brought up frequently by critics of the oil industry. It is used primarily as a reason to further impair development economics by increasing taxes or royalties or introducing more stringent environmental regulations and controls.

Nobody ever acknowledges that much of the so-called "Alberta advantage" is by default. It's not that this province is good, but that the rest of the world is so awful.

Luckily for all of us, an outbreak of world peace and tranquility is highly unlikely.

High oil prices tend to increase the urge to tax or nationalize. Islamic fundamentalist governments in oil-producing countries are on the rise. These regimes have agendas that rarely include producing more oil. Fortunately, both trends decrease investment and depress production.

But all this unhappiness is a questionable foundation for Alberta's energy industry.

David L. Yager is chairman and chief executive of HSE Integrated Ltd. in Calgary and a columnist with Oilweek. © 2007, Oilweek

© National Post 2007

The best suggestion during the Alberta royalty debate has come from Houston-based ConocoPhillips Co. -- that the province not throw its weight around, but rather create a commission of government and oil experts to examine the issues carefully.

On the table is a proposal by a government panel to raise royalties collectively by 20%, and there's screaming and threats from the industry.

But the crux of the royalty issue is whether Alberta is getting as much for its non-renewable resources as oil companies are willing to pay elsewhere.

The panel relied on Pedro van Meurs, a Dutch-born expert who ran an oil company and was a consultant with Alaska. I interviewed him this week.

"What governments around the world do is try to be competitive with one another, taking into consideration cost. They watch each other carefully," he said. "What's important all the time is to make sure a government doesn't overplay its hand. If it does, activity significantly declines. If governments get too greedy, they are punished by the market of course."

He said 20 governments have raised royalties.

"Alaska increased 10% overall and Ireland last week increased the government take by 25%, along with Denmark. The U.S. Gulf of Mexico increased by 10%," he said. "The panel is not being too aggressive."

Here is Van Meurs' comparisons with other jurisdictions: - Alberta versus Texas conventional natural gas: Small wells in Alberta now pay 12% (based on current low prices); medium-sized wells producing 650,000 cubic feet a day pay 24% and big wells of several million feet day are at 29%. In Texas, royalties vary depending upon the landowner, but Dallas experts hired to consult said the average was 25%.

"The proposal would match 25% for smaller wells and raise it to 34% for big ones," he said.

Deep gas, expensive to produce, will still get a royalty holiday of $500,000. "The proposal was silent on this, but I assume it's going to continue, which should protect these wells." - Alberta oilsands versus Alaska heavy oil: "The panel is proposing 64% for the oilsands after they get all their money out, which matches what Alaska gets. The big difference is that oil companies in Alberta pay only 1% until they get all their investment out, plus a good rate of return. In Alaska, oil companies pay a royalty right from the start," he said. "This is important to understand and makes the oil sands is far more favourable than the Alaska jurisdiction. I negotiated the Alaska terms with the oil industry, so I'm extremely familiar with them."

Van Meurs also addressed the hysteria in the United States and elsewhere over raising royalties.

"What Americans don't understand is that the two systems are very different. In the U.S. system, the royalty rate is written in your lease; it's a contractual agreement. In Alberta, that is not the case. An Alberta lease says you shall pay whatever royalty the government decides from time to time."

"Statoil, Shell, Total have good lawyers and know perfectly well that Alberta's royalties can change," he said. "Leases are loud and clear. The province doesn't even have to consult."

Of course, that's all very well and good, but the oil companies also have the right to not do business in Alberta either. That's why an industry-government commission must arbitrate a fair deal.

dfrancis@nationalpost.com

© National Post 2007

After years of carefully cultivating an image as an investors' paradise, the Alberta government is getting a rough ride on Wall Street over proposed royalty changes that would significantly reduce profits for oil companies that invest in the province.

Accustomed to dealing with political risk in places like Russia and Venezuela, investors and analysts are stunned that Alberta – which has sold itself as Texas North – has apparently taken such an aggressive approach to the industry that has spawned so much wealth there.

“The Alberta government is doing a classic ‘shoot yourself in the foot' strategy,” said Fadel Gheit, an influential New York-based analyst with Oppenheimer & Co.

“It's tried and true: If you really want to hurt your economy, start raising taxes on industries that are really basic to the lifeblood of your economy … It's so stupid – I thought these people were more sophisticated than that.”

Mr. Gheit said energy investors will be wary about Alberta, at least until there is some reassurance that the province is not looking to drive down expected returns on investment through higher taxes.

“They should attract investors, not repel investors. They should put out the welcome mat to bring more money into the province, and market themselves as the friendly, open-for-business place.”

That's exactly the message the provincial government has tried to convey over the years, as former premier Ralph Klein and a parade of ministers visited the North American financial capital to prospect for investment in the oil sands.

Two years ago, Mr. Klein and representatives from several Alberta-based companies brought horses and riders from the Calgary Stampede to perform in front of the New York Stock Exchange.

Mr. Klein met with The Wall Street Journal and BusinessWeek and Forbes magazines to tout the potential of the oil sands and the welcoming investment climate in Alberta. He also participated in a conference call with clients and investors at JPMorgan investment bank in which he promoted the “very attractive investment opportunity” that existed in Alberta.

This past May, provincial Finance Minister Lyle Oberg returned to the city to assure analysts and investors that the new government of Premier Ed Stelmach was equally committed to a business-friendly investment climate. “There was never any indication there would be a move like this,” said one American Canada-watcher who was at the lunch.

In an effort to reassure investors, Alberta Energy Minister Mel Knight is scheduled to visit New York and Boston early next month – after the government has responded to the royalty report.

At a Lehman Brothers' energy conference last month, Canadian companies like EnCana Corp., Petro-Canada and Canadian Natural Resources Ltd. presented their rosy prospects to a room full of investors at the Sheraton Hotel in mid-town Manhattan. They gave no indication of the bombshell that would be dropped less than three weeks later.

Several money managers said in interviews that they are re-evaluating their view of Alberta in light of the proposed royalty changes, which comes a year after investors were hammered by the federal government's decision to end tax advantages for income trusts.

“Any time somebody changes the tax regime or the regulatory regime in a meaningful way, it's a negative,” said one fund manager, who spoke on the condition he not be named. “They have pitched themselves as investor friendly, and have sought out investment, and this isn't really the best way to do it.”

The province has yet to decide on a course of action following the review committee's recommendations. And the committee insists the industry will remain highly profitable under the recommended changes, that Alberta is now out of sync with other major jurisdictions on the tax take from its resources sector.

Another oil and gas giant has joined the parade of companies warning the Alberta government not to raise royalty rates for gas and oil.

ConocoPhillips President Kevin Meyers said he has written to Premier Ed Stelmach warning that boosting royalties by 20 per cent, as recommended in a recent report, would cost his company an oilsands project worth $500 million next year.

He also said a further $8 billion in projects planned for the next three years would have to be postponed.

A panel appointed by the Alberta government released a report in September that said Albertans are not getting their fair share of energy revenues, and it recommended raising royalty rates by 20 per cent, or $2 billion a year.

A series of oil and gas companies have been coming forward to criticize the suggestion, saying an increase would hurt the province's investment and growth potential.

Last week, EnCana threatened to cut $1 billion from its 2008 investments if recommendations in the report are adopted.
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The company said it will cut 30 to 40 per cent of the $2.5 billion to $3 billion it plans to spend next year on Alberta-based activity.

On Tuesday, Crescent Point Energy Trust said it would shift about $150 million in investment from Alberta to Saskatchewan if royalties are raised.

Then, on Wednesday, the former chief executive of Talisman Energy warned Alberta that the company would likely cut around $500 million from its capital program if the proposed royalty hike is approved.

"At current gas prices, I believe it will be difficult for anyone to grow their natural gas production in Alberta, and if you implement these proposals we will see a significant loss of investment, jobs, taxes and the loss of world-class technical expertise," Jim Buckee wrote in an open letter to Stelmach.

The cut would be on top of Talisman's current plan to trim $500 million from its spending in the province due to low prices for natural gas.

Also on Wednesday, Petro-Canada weighed in, saying that royalty rates should increase only for oil and gas prices that rise above current levels. The company also said any royalty changes should be phased in, so producers and investors have time to adjust.

"We want to continue to invest here, so it's important that we find a solution that works for everyone," said Ron Brenneman, Petro-Canada's CEO and president.

Stelmach has promised to consult with the oil and gas companies before making his decision, which is expected later in October.

"No one should be surprised that firms are making noises that they will invest less or build less if royalties increase," energy policy expert Joseph Doucet said Thursday.

"The real question for the government to look at is by how much that might change, in order to make the best decision."

Doucet said the government should be able to strike a balance between increasing rates and maintaining the industry.

"Although there will be a hit on the industrial sector, it won't necessarily be as large as people are predicting," he said.