MARKET ACTIVITY/ WEEKEND EDITION OF TRADING NOTES JULY 5, 1998 (7)
WEEK'S TOP STORIES
Energy Earnings Predicted To Drop As Much As 78%
The Financial Post
Earnings of more than 100 Canadian energy explorers and producers will probably fall 78% to $500 million this year, pulled down by low oil prices and investments in heavy oil, says a leading analyst.
Martin Molyneaux, managing director of institutional research at FirstEnergy Capital Corp. in Calgary, said the freefall from the $2.25 billion the sector earned in 1997 could be even worse if crude prices stay less than US$15 a barrel until yearend and there are asset writedowns.
"The impact on reserve additions will be hugely negative. There's going to be all kinds of uneconomic reserves in Western Canada," he said yesterday discussing a report that looked at 106 firms. "The threat of ceiling test writedowns is very substantial, very real."
Ceiling tests measure the value of reserves against their expected costs. Seven firms took ceiling test writedowns totalling $201.3 million last year.
The companies in Molyneaux's study were responsible for about 80% of Canada's daily conventional oil and gas output in 1997. FirstEnergy's three-month analysis, which excluded oilsands and most East Coast offshore projects, found proved reserves were added at an average cost of $6.56 a barrel of oil equivalent, down from $6.86 in 1996. Reserves of oil and natural gas liquids were replaced by 395% and gas supplies were topped up by 261%.
Last year's high price for oil and low differential (the discount applied to heavy and medium crudes) influenced the numbers by allowing more marginal fields to be included in company calculations, Molyneaux said. The skewing could range between $1.50 and $2 a BOE.
Heavy oil accounted for up to $9 billion of the $10-billion increase in capital spending last year from 1996, with the total reaching $23.57 billion, a high for the decade.
FirstEnergy expects finding costs for proved reserves to hover at $8.50 a BOE this year. Oil and gas liquids volumes are estimated to fall by 120,000 barrels a day from last year's 1.7 million b/d average, with shut-in heavy oil totalling more than 80,000 b/d. Gas production is forecast to stay flat for both years at 11.3 billion cubic feet a day.
Gas for delivery next winter is now selling for close to $3 a thousand cubic feet, making gas plays attractive.
"Producers are all sitting in the starting block wanting to get after that golden goose. The problem is that they've got an 80-pound anvil tied around their right ankle and it's called a US$15 oil price," said Molyneaux.
Another problem facing companies is that big rigs needed to drill the more prospective deep formations in western Alberta and northeast B.C. are scarce and expensive.
Molyneaux said oil and gas managers need to cut costs and improve earnings. With international investors playing a larger role in the sector, the industry's 3.5% return on invested capital in 1997 is not an appealing figure.
Another Calgary investment house had different numbers for finding and development costs. Peters & Co. Ltd. looked at 74 firms and concluded average costs were $7.28 a BOE in 1997, up 11% from the 1996 average of $6.56. The 1995 average was $7.39 a BOE. Analysts from the firm were not available for comment.
Canadian Energy Firms To Suffer Heavy Oil Hangover
Canadian energy companies are set to pump out less than 25 percent of last year's profits in 1998 and could be forced to write down the value of their oil reserves by billions of dollars, an industry analyst said on Thursday.
Much of the financial carnage expected to hit the sector was a result of the industry's focus in 1997 on drilling for heavy oil, which caused an overabundance of the tar-like crude and severe drop in prices, Calgary based FirstEnergy Capital Corp.'s Martin Molyneaux said.
Now, a shift away from heavy oil to targeting natural gas, which has a strong price outlook, was expected to mean higher unit costs in 1998 for adding reserves and slashed profits.
"In the 11 years I've been in this business, I've never seen the executive teams sweating as much as they are now," he told reporters in a briefing to explain his just-released report on 1997 industry finding and development costs.
The report tallied company records for earnings, cash flow, reserve additions, production and costs. It excluded refining and marketing as well as synthetic oil production, but included exploration and production operations outside Canada.
Its numbers point to the weakest combined results since 1991. The group, which includes 106 firms with market values over C$10 million, reported combined net earnings of C$2.3 billion in 1997, about flat with the previous year.
In 1998, profits for the group could fall to as low as C$500 million, assuming West Texas Intermediate oil prices average C$16.50 a barrel for the year, Molyneaux said.
He said investors would be well-advised to start looking to 1999 results, which would improve on the back of natural gas prices forecast to average over C$2.50 per thousand cubic feet, up from a projected C$2.20 this year. Earnings could climb back to the C$2 billion range next year, he said.
But for 1998, "large investments into medium and heavy oil projects will likely result in major asset write-downs if oil prices persist at these levels," the report said.
Estimates vary as to the amount of Canadian heavy oil production that is currently shut in due to low prices, but Molyneaux said he expected total Canadian oil production in 1998 to be 120,000 less than in 1997.
The group's conventional crude output last year averaged 1.7 billion barrels a day, a dramatic increase from 1.4 billion the year before, with much of the boost from heavy volumes.
Also, of the total 12,454 net wells drilled by the group, an estimated 7,000 targeted medium and heavy gravity oil. Virtually no heavy oil drilling was expected this year.
The big price slide was expected force companies to remove a spate of heavy oil reserves from their "proven and probable" categories after accounting tests deemed them not producible at current prices.
"The threat of ceiling test write-downs is very substantial and very real," Molyneaux said.
The report showed an emphasis on low-cost heavy oil drilling in 1997 resulted in a drop in the cost of adding proven reserves to C$6.56 per barrel of oil equivalent from C$6.86 in 1996. The lower per-barrel cost was achieved despite a C$10-billion increase in capital spending.
Low-cost leaders included Pacalta Resources Ltd. , Shell Canada Ltd. , Hurricane Hydrocarbons Ltd. and Canadian 88 Energy Corp .
The figures differ from a recent study prepared by analysts at Peters & Co. Ltd., which reported proven reserves were added by 74 companies last year at an average cost of C$7.28 per barrel, up from C$6.56 in 1996 when 81 firms were surveyed.
Leaders in the Peters study included Canadian 88, Baytex Energy Ltd. , Post Energy Ltd. and Amber Energy Inc.
Rain Puts Damper On Canada 2nd Quarter Oil And Gas Drilling
Rainy weather and slumping crude oil prices were responsible for a slowdown in Canadian oil and natural gas drilling levels in this year's second quarter, a drilling industry official said on Thursday.
"The crude oil price is playing a role, but most of the current problems are weather-related," said Don Herring, president of the Canadian Association of Oilwell Drilling Contractors. "We can't get on to drilling locations because of rain."
Drilling contractors are unable to reach certain areas during periods of extended rainfall, as their equipment is too heavy for the rain-soaked roads and ground.
CAODC figures show that an average of 200 rigs were drilling each week in Western Canada during this year's second quarter, versus an average of 299 rigs in the same period of 1997.
The reduction means about 7,400 fewer jobs were available at drilling sites during the second quarter of 1998, Herring said.
On June 30, 217 rigs were drilling in western Canadian provinces, representing 38 percent of the total 572-unit onshore drilling fleet.
That compared with 384 rigs drilling, or 75 percent of the 509-rig fleet at the same time last year.
Activity was expected to surge once the weather improved as oil and gas producers try to make up the lost time, Herring said.
The drillers forecast 13,500 wells will be drilled in western Canada in 1998, the second-highest total after 1997's record-breaking 16,500 wells drilled, he said.
The CAODC is scheduled to review its 1998 forecast in late July.
U.S. Draws Exploration Dollars For High-Cost Oil
Oil and gas firms are spending a growing share of the money they set aside to acquire new reserves in the U.S., even though it is cheaper to find reserves elsewhere, according to a report published on Wednesday.
Global upstream capital spending by the 131 publicly traded oil and gas companies covered by the report rose 30 percent to a record $91.6 billion in 1997, with the slice spent in the U.S. rising 42 percent to $37.1 billion.
However, with oil prices subdued this year, the Global Upstream Performance Trends report from Arthur Andersen and John S. Herold Inc, warns that capital spending this year may show the first year-on-year decline since 1992.
''Contrary to popular belief, the U.S. has been the industry's region of choice and has seen its proportional share of capital spending increase over the past five years,'' Arthur Andersen's Victor Burk said at a press presentation of the report.
In 1997 upstream capital spending in the United States by large independent companies came to $16.6 billion, exceeding the equivalent figure for major oil firms of $15.8 billion for the first time. Small independents spent $4.7 billion.
Capital spending, as defined in the report, comprises both exploration and development -- reserves acquired ''through the drillbit'' -- and the purchase of proven reserves.
Brian Lidsky of John S. Herold said the United States' rising share of total capital spending over the last five years was particularly impressive goven the common perception that other regions of the world offered better opportunities.
''The increased level of domestic spending suggests that the stability, infrastructure and market size in the U.S. remain highly attractive to the world's oil companies,'' he said.
The big jump in 1997 was partly due to rising investment in the deep waters of the U.S. Gulf of Mexico, he said.
Herold expects production from the deepwater Gulf to grow by at least 25 percent per year over the next five years.
The report said average reserve replacement costs -- the costs of acquiring new reserves by any means -- rose 16 percent to $6.10 per barrel of oil equivalent (BOE) in the U.S. in 1997 while the average cost outside the U.S. fell slightly to $3.77.
Among major oil companies Exxon Corp(XON) had the lowest average three-year reserve replacement cost in the U.S. while Amoco Corp(AN) had the lowest average cost outside the U.S.
The report said average finding and development costs rose 16 percent to $6.83 per BOE in the U.S. and rose three percent to $4.12 in the rest of the world.
Among the majors Exxon had the lowest average finding and development cost in the United States while Royal Dutch/Shell (RD.AS)(UK & Ireland: SHEL.L) led the pack in the rest of the world.
Oil Fight Ultimatum - Companies Given August Deadline
The Financial Post
The federal government is threatening to step in and resolve a dispute be-tween Newfoundland and Nova Scotia over the ownership of a potentially rich offshore oil and gas site.
Natural Resources Minister Ralph Goodale has written to the provinces telling them to resolve a boundary dispute in the Laurentian Channel by August.
If there is no deal by then, Goodale said, he will invoke offshore oil management agreements -- the Atlantic Accord Implementation Act -- with the two provinces to appoint a mediator and use binding arbitration.
"The first preference is for the provinces to settle it themselves, but if not, there is a mechanism to resolving it and the minister has said he will appoint a mediator," a spokesman for Goodale said yesterday.
Goodale's office has not yet received a reply from Chuck Furey, Newfoundland's mines and energy minister, or Nova Scotia Premier Russell MacLellan, who is also the province's energy minister.
The disputed site is estimated to contain one-billion barrels of oil and nine-trillion cu. ft. of natural gas, according to Suzanne McCarron of Mobil Oil Canada Ltd.
"We've only done some preliminary technical work. But it's certainly an area of interest," McCarron said.
Mobil is also involved in other East Coast developments, such as Hibernia, Terra Nova and the Sable Island oil and gas project.
"Once this boundary issue is resolved, we would probably run some modern seismic [tests] on the area and get some more definitive data," McCarron said.
In addition to Mobil, Gulf Canada Re-sources Inc., Imperial Oil Ltd. and French oil interests are keen to explore and develop the site.
The companies haven't moved beyond exploratory work due to the dispute.
The offshore zone has been the centre of a dispute for about 25 years and Goodale has said it is time to clear up the issue and allow companies an opportunity to develop the offshore site.
Trade Battle Brewing Over Canadian Sulphur
The Financial Post
The U.S.'s last sulphur mining company is blaming the shutdown of one of its two mines on Canada's oil and natural gas industry, which it accuses of dumping in the U.S.
Freeport-McMoRan Sulphur Inc. said it was forced to close its 30-year-old mine in Culberson County, Tex., and has asked the U.S. government to hit Canadian energy companies with anti-dumping duties.
"Sulphur prices have been driven down to a level at which it is no longer economically feasible to operate the mine," said Freeport president Robert Wohleber.
Freeport-McMoRan Sulphur is part of Freeport-McMoRan Inc., former owner of a nickel operation in Cuba, where Sherritt International Corp. is now mining. Sherritt executives were barred from entering the U.S. because, under the U.S. Helms-Burton law, it is illegally operating on property confiscated from Freeport-McMoRan.
The New Orleans-based company and chairman Jim Bob Moffett drew a lot of attention in Canada last year when they exposed the Bre-X Minerals Ltd. debacle. The Indonesian government picked Freeport-McMoRan to be Bre-X's partner, but the company found no gold at the Busang site.
Freeport-McMoRan and the U.S. sulphur industry have been complaining about Canadian sulphur imports since 1973. Between 1991 and 1995, the U.S. International Trade Council imposed duties of up to 40.8% on such companies as Mobil Oil Canada Ltd.
Gas producers Shell Canada Ltd. and Amoco Canada Petroleum Ltd. are the top two sources in Alberta of the byproduct of oil and gas refining.
Amoco produces about 600,000 tonnes a year but has not faced anti-dumping duties in years, a spokesman said.
Still, the U.S. industry is convinced Canadian sulphur is being dumped on the market, said Joyce Ober, a sulphur specialist with the U.S. Geological Survey.
"There's a constant investigation into whether Canada is dumping sulphur in the U.S.," she said.
Ken Ellzey, vice-president of marketing for Freeport-McMoRan Sulphur, said the company expects duties will be imposed on Canadian sulphur for 1996 and 1997. It has also asked for an investigation for this year.
The problem may be even more serious than the U.S. government believes, Ober added.
The current ITC investigation is based on estimates that about one million tonnes of sulphur was imported from Canada last year, she said.
But the Alberta oil and gas industry exported at least 1.5 million tonnes last year alone. The oil industry is the major source of Canadian sulphur.
"ITC is missing a lot of data so it's going to be very hard to make a determination."
Industry sources said yesterday that Freeport-McMoRan may be looking for a foreign scapegoat to blame for its mine closing.
More sulphur is being produced at U.S. oil refineries than in previous years because of tougher environmental laws. As well, Freeport-McMoRan's Texas mine is far from the nearest port, boosting transportation costs.
The company said it will continue to mine sulphur at its Gulf of Mexico mine off the Louisiana coast. It will also buy sulphur elsewhere to meet its commitments while the Culberson mine is shut over the next three months.
The U.S. produces only about 2.7 million tonnes of sulphur a year, with Freeport-McMoRan contributing up to 900,000 tonnes at a price of about US$60 a tonne.
U.S. demand is hovering at about seven million tonnes. Much of that is converted into phosphate-based fertilizer in Florida and North Carolina.
Besides Canada, Venezuela and Mexico are major exporters of sulphur to the U.S. There is enough sulphur in the world to meet demand for the next 400 years.
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