Canada’s oil patch is in for another shock, as energy companies are expected to abandon a record number of aging oil and gas wells over the next year, a move that will weigh heavily on businesses with older oil and gas fields.thomaslenne
Canada's oil patch is in for another shock, as energy companies are expected to abandon a record number of aging oil and gas wells over the next year, a move that will weigh heavily on businesses with older oil and gas fields.
When crude prices plunged from more than $100 (U.S.) a barrel in 2014 to today's $45 levels, energy producers responded by temporarily turning off the tap. Production is currently suspended at 93,000 Western Canadian oil and gas wells, according to a recent study from RBC Dominion Securities Inc.
Mothballed facilities sitting on significant energy reserves will be restarted when commodity prices rebound. But if prices continue at current levels, a temporary shutdown will become permanent. RBC analysts Shailender Randhawa and Michael Harvey said in a report, "Decommissioning activity is expected to rise in Western Canada."
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Abandoning a well means cleaning the wellbore – the hole drilled to get at oil and gas – then plugging it with cement and sanitizing the site, a process that includes ensuring remaining fossil fuels are kept away from groundwater. The cost of walking away from a well is significant. Abandoning wells eats up 2 per cent of an energy company's annual cash flow, on average, and RBC estimates the present value of all future decommissioning projects is $7.3-billion.
However, the timing of these costs varies from one company to the next, depending on the age of their properties and the size of the reserves. For some Canadian producers, decommissioning is a near-term hit to the bottom line, for others, the expense of shutting down properties is decades away.
"Sensitivity to decommissioning liabilities is highest at producers with a high weighting of legacy assets, such as Pengrowth Energy Corp., Petrus Resources Ltd., Northern Blizzard Resources Inc. and Bonavista Energy Corp.," said the RBC analysts. At the other end of the spectrum, companies taking oil and gas out of new, large reserves are years away from paying anything to retire wells; a list of these companies includes Seven Generations Energy Ltd., Tourmaline Oil Corp. and Granite Oil Corp.
There are approximately 200,000 wells in Western Canada currently pumping out oil and gas. Of this total, RBC estimates 75,000 facilities are producing less than five barrels of oil or the equivalent in natural gas each day. These low-production wells are candidates for decommissioning, along with the 93,000 facilities that are currently idle.
To put the numbers into perspective, from 1990 through to 2014, Canadian producers only permanently shut down an average of 2,200 wells a year. When energy prices went south two years ago, producers responded by doubling the number of wells they decommissioned: More than 4,000 were abandoned in both 2014 and 2015. If the oil patch increases the pace at which it is retiring wells, costs will rise, at the expense of cash flow. That would be another strain on a sector that's already struggling with weakness in commodity prices.
The decline in commodity prices already has energy companies shedding properties over the past two years to pay down debt, focus operations and fund exploration. Calgary-based Sayer Energy Advisors calculates Canadian energy companies sold $5.8-billion in the first half of the year.
Taking on unexpected additional costs to shut down old or depleted wells will add to the sector's thirst for capital, and could contribute to more property sales and merger-and-acquisition activity in the oil patch.
Last week, ARC Resources Ltd. raised $700-million by selling its Saskatchewan oil fields to Spartan Energy Corp. ARC plans to plow that money into developing properties in Alberta and British Columbia. However, it is worth noting that ARC has an aging collection of facilities. Prior to last week's asset sale, the RBC analysts estimated that over time, ARC faces $667-million of decommissioning costs on its wells, among the highest costs for any Canadian mid-tier energy company.
Energy is always a cyclical business and at some point, oil and gas prices will rise and attention will shift away from doom and gloom issues such abandoning wells. But by that point, the ranks will be thinned in the Canadian oil patch.
Sayer analyst Alan Tambosso rolled out a presentation last week that showed 10 Canadian energy companies are formally up for sale or in the midst of a "strategic review" that may result in an auction. More ominously, he pointed out that over the long term, an average of eight oil and gas companies file for creditor protection each year. So far in 2016, a record 26 companies have gone into receivership. Mr. Tambosso did note, "It appears that the worst is over, as most of the distressed companies have been dealt with, one way or another."
Andrew Willis