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Shipping crude oil by rail has ballooned in popularity because railroads reach places pipelines do not.DARRYL DY

The collapse in oil prices that has hammered producer profits is also casting doubt on the business case for moving crude by rail.

Railways are reducing their expected oil volumes after a 56-per-cent plunge in the benchmark price of crude since the summer that has consumed the profit margins crude producers and shippers once enjoyed.

The cost of shipping a barrel of oil by train can be as much as $22 (U.S.), depending on the destination, double that of pipelines and often exceeding the profits traders count on by buying oil in Alberta and selling it for a higher price to a refinery on the U.S. East Coast or Gulf Coast.

Some industry groups say crude-by-rail volumes are still expected to climb sharply. The Canadian Association of Petroleum Producers (CAPP) has estimated the amount of Canadian oil moving by rail could reach 700,000 barrels a day by 2016, from about 200,000 today, as oil sands projects near completion and wells drilled last year begin producing. But the forecast, made last June, could prove aggressive, given the recent big cuts to oil producers' budgets, which will restrain future production growth.

And it is unclear if high costs make shipping by rail a money-making mode of transport for producers.

"That's the real question. We haven't seen anybody as of yet shut any production as a result of that, so that means they're making some [money] but it would be a very small amount," said Greg Stringham, vice-president at industry group CAPP. "But I think they're looking at it and saying, if it meets my operating costs, I'm going to continue to produce. I may not be getting the capital return – in fact they are not getting the capital return they expected at these prices – but it hasn't caused anyone to go into shut-in mode yet."

In just a few years, the amount of crude moving by rail has grown from almost nothing to become railways' fastest-growing business sectors, accounting for as much as 10 per cent of railway revenues and 5 per cent of Canadian oil exports by volume.

The business soared as the oil industry faced lengthy delays in approvals for major new pipelines. It gained steam even after the deadly Lac Mégantic, Que., oil-by-rail disaster in 2013, an incident that prompted regulators to tighten rules about inspection and safety throughout the continent.

Oil producers and traders make money on the higher prices oil fetches in other markets. They buy Western Canadian Select – a benchmark heavy crude blend – in Alberta and pay to have it carried by train to a refinery or hub in the United States, where oil prices are higher.

But the collapse in oil prices has been accompanied by a narrowing of the price spread. On Friday, WCS oil sold for $13.15 a barrel less than WTI. In the Gulf Coast, the crude competes with Latin American grades such as Mexican Maya. Last week, Maya sold in the Gulf Coast for $9.95 a barrel more than WCS in Alberta.

Meanwhile, it costs $15 to $22 to move a Canadian barrel to Texas by train. The same trip in a pipeline costs less than $12 a barrel.

Canadian Pacific Railway Ltd. saw a dip in volumes in the final three months of 2014, and has slashed its expected volumes for 2015 to 140,000 carloads from 200,000, blaming the collapse in crude prices.

CP and its Montreal-based rival Canadian National Railway Co. expect strong growth in the segment as new oil terminals are built, and as approval processes drag on for such major pipelines as TransCanada Corp.'s Keystone XL and Enbridge Inc.'s Northern Gateway.

Shipping crude by rail has ballooned in popularity because the railroads reach places pipelines do not. Using heated tank cars, heavy oil or bitumen requires less – or no – diluting fluid than if it were to flow by pipeline, a cost saving for shippers.

John Zahary, chief executive of oil-by-rail company Altex Energy Ltd., said he expects volumes this year to be stable despite the shrinking commodity price spreads. Altex, an early entrant into the resurgent transport option, runs several loading terminals in Alberta and Saskatchewan. Much of that is due to the contractual nature of the business, where companies must deliver volumes or pay a fee.

"If you're a long-term player, like a refiner, you've got to keep your refinery full, or a producer, you've got to keep selling your oil," Mr. Zahary said.

FirstEnergy Capital Corp. analyst Steven Paget said it is hard to say which shippers are making money moving by rail, "but we know it's tight."

He said the plunge in oil prices has shippers and producers looking more carefully at the costs of moving oil to markets. But with several new terminals expected to open this year, overall volumes should rise.

Executives with Valero Energy Corp., a major refiner with plants in Texas, Quebec and elsewhere, said last week that the company was just breaking even on Canadian crude-by-rail volumes delivered to the Gulf Coast versus waterborne Latin American alternatives.

MEG Energy Corp. is still moving oil by train from the Canexus terminal in Edmonton to reach higher-priced markets and overcome pipeline constraints. The oil producer – which has announced deep budget cuts for 2015 – shares a pipeline with Devon Energy Corp. that runs from Fort McMurray to Edmonton, which offers access as well as terminals that connect with both major railways.

"We're absolutely moving by rail. For us it's all about flexibility. You look at the cost of transportation versus the price that you can receive at high-priced markets and you just work that equation," Mr. Bellows said.

Imperial Oil, meanwhile, said the drop in oil prices has not changed its plans to open a rail terminal in partnership with Kinder Morgan in Edmonton. "Our long-term growth strategy is not significantly affected by near-term crude prices. And the plans have to be tested to accommodate price swings," said Imperial's Leanne Dohy. "It's important to keep in mind that these are decades-long investment decisions. You take them with the view that they have to be able to perform across a broad range of pricing."

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Tickers mentioned in this story

Study and track financial data on any traded entity: click to open the full quote page. Data updated as of 15/04/24 4:00pm EDT.

SymbolName% changeLast
Canadian National Railway
Canadian National Railway Co.
Canadian Pacific Kansas City Ltd
Canadian Pacific Kansas City Ltd
Devon Energy Corp
Enbridge Inc
Enbridge Inc
Imperial Oil Ltd
Imperial Oil
Kinder Morgan
Meg Energy Corp
TC Energy Corp
TC Energy Corp
Valero Energy Corp

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