₪ David Pescod's Late Edition April 27, 2007
CONNACHER OIL & GAS (T-CLL) $3.83 +0.06
OUCH!
We’ve been following Connacher Oil & Gas for a while and it still looks like it could be one of the more intriguing oil sands operations, particularly after having viewed it firsthand a month or so ago.
However, this little tidbit earlier this week of cost overruns was definitely not good news and the decision to cancel their financing because of that tidbit, also raised a few questions.
We went to Dick Gusella with a few questions…
1) After talking to you several times over the last few months, there was no mention of a potential of dramatic increase in costs - what would you say that has delivered this surprise bit of bad news?
Dick: Let's not get too negative about this change. It is a modest percentage increase in relation to a budget which, by the way, also included sunk costs which are not normally part of the equation but were included in the context of how we calculated our equity contribution when negotiating the Term Loan B facility.
Since we started building after the added costs of plant site preparation, which while using a lot of contingency is critical to having a stable site for your 25 year plant - it is not there for five years or something and could be there 40 years - we remained within budget. Frankly, our focus has been on delivering on timetable. This was the case throughout the first quarter while we were also drilling 81 core holes, shooting 3D seismic, drilling a bunch of successful wells, finalizing year end results, reserve reports etc. plus building a big new asphalt storage tank in Montana and coping with weather.
While we were dipping into the contingency portion for the civil work, when all added up it was within our original estimate, including provision for capitalized items.
As the financing unfolded, our assessment had to crystallize as always occurs under the circumstances and we had to take into account new factors - scope changes, increased costs for steel, the fact that original building estimates were under budgeted - (we are human - I just found out from a reno that estimates are one thing, costs are another) - and when things change in the oil sands they change by hundreds of thousands or millions.
For example our building costs will be up about $5 million in total but we think better buildings means more op costs savings down the road by reducing other capital costs for insulation and heat tracers and keeping things running more smoothly over time.
Also regrettably earlier estimates did not include, for example, an inventory or parts. Now because we are only in Pod One now, we charge all these to it and the project even though they will undoubtedly service other pods over time.
If we got $30 netback at the wellhead for our bitumen this will extend payout (the $34 million estimate) by about 3 months. At $20 at the wellhead it is five months. It is a blip on the project's rate of return.
We only crystallized these amounts over the weekend and the kick-off for doing an update was last Wednesday with indications about the building costs so there was lots of midnight oil to evaluate all aspects of the project before Monday.
Such is the way life goes and while we take it seriously and wish it had not happened there is no point in going on about it. No one did anything wrong - it just is the way it is and we will deal with it and still have the cheapest current on-stream cost of anyone! And on time as we said! We will do everything we can to mitigate without compromising the integrity of the plant, wells and procedures.
2) The company is still probably going to need a financing correct or incorrect? And what alternatives are you looking at?
Dick: We are going to need capital if we want to invest at levels above our cash flow and so we will examine all our options.
They include debt, equity, sale of assets, slowdown of future capital outlays for Pod Two for example, although we will have to assess whether this will be self-defeating as if we lose our people and suppliers to others our future costs could go up by a lot as a result - deferral of new core holes for a year - bringing in a partner which we don't want to do - etc. it all boils down to the availability of funds at what price or cost of capital. We will assess our options and make a decision and move on in life as we have always done, Dave. |
