Let's talk barrel half full, instead of half empty.
To this point, the discourse around deeply discounted Canadian oil prices has, justifiably, been negative. Nobody likes losing money. But there are unintended, upbeat consequences that have arisen from the prevailing commodity price malaise. For one thing, Canada's oil industry is kicking the pants of competitive suppliers to the U.S.
In the aggressive world of business, a well-established strategy is to undercut the price of a competitor. The intent is simple: increase sales volumes by elbowing out the competition. Taking market share away from others, and being crowned the dominant supplier, yields many benefits over the long run. Just ask Amazon.com, the bookseller extraordinaire, about the benefits of being the biggest player: economies of scale, pricing power, and expanded distribution channels to name a few. Achieving the pole position in a market strengthens and solidifies a competitor's turf. Success allows for the realization of higher prices later, amplifying revenues on greater volumes. "Big box" retail stores have been the masters of this strategy over the past couple of decades, especially by peddling low-cost goods made in China; a symbiotic relationship that speaks more to China's national strategy of undercutting OECD manufacturers to become the "world's factory."
Lower product prices mean customers want more, especially if they can switch away from a higher-priced source. The grin of the buyer widens if the lower-priced supplier is more reliable too. Although cutting prices was not part of any premeditated strategic grand plan, Canada's discounted oil products – being offered anywhere from 15-per-cent to 30-per-cent lower than other exporters to the U.S. – are taking market share away from competitive foreign suppliers to the American market, notably Mexico, Venezuela, Nigeria, Angola and Algeria.
Figure 1 shows oil exporting countries and their net volume gains and losses to the U.S. The big winners over the past two years are Saudi Arabia and Canada. However, the collective snapshot in Figure 1 is not representative of what's really happening. Saudi Arabia has just recently clawed its way back to where it was on the eve of the financial crisis. Canada, on the other hand, has been a steady gainer.
Contrary to popular belief, Figure 2 shows that Canada's export growth has not yet been impeded by pipeline constraints. Over the past two years, the period over which the price discounts have been especially deep, U.S. imports from Canada have increased by 440,000 barrels per day, or 22 per cent. Why should we be surprised? Who wants to pay more when they can pay less; grey lines in Figure 2 represent all the high-priced losers' market share in the prior chart.
Undercutting oil prices was not part of some cleverly conceived strategy around Canadian boardroom tables or in the backrooms of government policy makers. Discounts have materialized because output of all grades of oil, from Canada and other prolific parts of the United States, has been growing too fast to be absorbed by demand at the end of antiquated pipeline systems. The result has been transportation bottlenecks and price discounts, both of which have triggered a major shift in domestic, North American supply chains and U.S. foreign oil imports.
Yet another artifact of today's low price environment is the radical construction binge in North American pipelines and rail systems that haul oil. This retooling of infrastructure will take several years yet, but once completed will present dominant suppliers like Canada with far greater optionality, and wider exposure to higher-paying buyers than in the past. Ironically, that's the desired, positive outcome from consciously undertaking an aggressive price-cutting strategy.
Companies, entire industries, and even countries that intentionally seek to grow their market share at the expense of others also know that once the endgame is achieved, the resulting fray remains fiercely competitive. Like shark bait, market share is always up for grabs. That's not a bad thing with the right mindset. For those who know that, the barrel is always half full.