Refine it where you mine it! Don't rip-it-and-ship-it! The idea that we would all be better off if we shipped higher value refined products rather than "shipping the jobs down the pipeline" is a constant refrain. While I agree we should maximize the value of the resource, that's not best done by encouraging processing by discounting it.
Albertans own the resource. Given how the cost of oil sands production has increased over the past decade, most economists would agree that we're likely dissipating rents through a too-rapid pace of development. For projects such as Imperial Oil's Kearl, the impact of multibillion-dollar cost-overruns will be softened by lower future tax and royalty payments. Others, such as Suncor, paid only 7.4 per cent of gross revenues from oil sands operations in royalties to the province in 2014. Albertans should ask whether we are taking on more risk than we should and whether we're giving away our bitumen to drive economic activity.
We could slow the pace of development and increase the effective charges on oil sands by requiring companies to build refineries or upgraders, or we could charge them more for access to the resource. It's the preference for the former which I've never understood: Why tax via demands to build refineries companies would otherwise not build? Why not simply take a larger share in cash, and deploy the cash toward the construction of things we'd likely value more – such as hospitals and schools, or toward rebuilding the Alberta Heritage Fund?
Alberta has, in effect, already made the decision to do the opposite – to use government revenues to build a refinery. The government estimates that it will pay $26-billion over 30 years to have 37,500 barrels a day of provincially owned bitumen processed at the new Northwest Refinery – for an average of $63 a barrel. The problem? The value of refined products is unlikely to be $63 a barrel more than the value of bitumen; over the past five years, the premium on the Gulf Coast between heavy crudes and the diesel and naphtha yield expected from the Northwest Refinery has been about $22 a barrel. Perhaps local price implications will be slightly better for the refinery, but not $40 a barrel better.
The Northwest Refinery is a special case – it's small, built in an expensive labour market, and equipped with carbon capture technology. The project is likely to lose money, but it's hardly representative of all potential refinery builds.
Pacific Futures, which held a briefing Wednesday, claims to be able to build a 200,000-barrel-a-day bitumen refinery on the B.C. coast for $10-billion. If so, they'd need to return about $12 a barrel after taxes to recoup an 8-per-cent return on its capital. Is this possible? Perhaps. Over the past five years, the average difference in value between a barrel of bitumen shipped to the coast and the refined products a bitumen refinery would yield has been about $30 a barrel. If Pacific Futures could secure that type of pricing, they'd make a healthy 12 per cent rate of return, even if it costs them $10 a barrel to operate and maintain the refinery.
Here, though, is where you see the wedge between value-added and value-transfer. Much of its return would be the result of Alberta bitumen being priced well-below comparable global crude streams. If Canadian diluted bitumen is assumed to be comparable to other global heavy crudes such as Mexican Maya, that expected margin drops to an average of about $24.90 a barrel, and refinery returns would drop well below 10 per cent assuming the same costs of operation. Perhaps a viable business venture, but a much less attractive one when not supported by hundreds of millions of dollars a year in discounted bitumen.
Don't spend bitumen where you wouldn't spend money. If we're going to spend hundreds of millions a year, why spend it subsidizing a refinery?
Andrew Leach is the Enbridge Professor of Energy Policy at the University of Alberta.