The long-term outlook for Canadian natural gas prices is ugly. Yet there remains a large pack of small- to medium-size gas producers, most just scraping by.
This is when consolidation should shift into high gear, especially as the industry struggles to be relevant to major investors. In great numbers they've moved on, turning their attention to the sexy parts of the domestic market, such as cannabis and blockchain technology, or seeking the stability of big banks.
In the absence of a sustained lift in gas prices – and few are expecting one beyond standard seasonal bumps due to cold weather – the industry looks in need of reinvention. Seeking size and cost savings through mergers would be a start.
The companies' stories are a very tough sell, even as their industry makes impressive technical strides unlocking huge reserves in the Montney and Deep Basin regions of Alberta and British Columbia, respectively.
In a gloomy assessment in its third-quarter results, Bonavista Energy Corp. explained the struggle: "Clearly, continued pricing at these levels would paralyze much of the natural gas development activity taking place in Western Canada today ... At these natural gas prices, value creation via production growth is obscure."
Investors need little convincing. The Toronto Stock Exchange's energy group has lagged all other sectors this year, sinking 16 per cent despite a 5-per-cent increase in oil prices. There is a list of reasons, from U.S. shale producers stealing the limelight to delays in increasing Canadian pipeline capacity for crude oil exports. The gas rout gets far less attention, perhaps because the fuel has experienced only sporadic gains since the shale revolution began in the last decade.
The summer was downright brutal for the sector, as extensive pipeline maintenance in Alberta restricted the movement of supplies, at times leaving some wholesale gas in the province with no bids. Now, Alberta gas futures are priced in a tight range between $1.41 and $2.48 per gigajoule through the next four years, suggesting a lengthy era of muted, and at times non-existent, returns for producers.
There remains hope that a Royal Dutch Shell PLC.-led liquefied natural gas project on the West Coast could proceed, boosting demand. But it still looks like a distant prospect at best.
Producers such as Bonavista, Birchcliff Energy Ltd., Painted Pony Energy Ltd., Crew Energy Inc. and Seven Generations Energy Ltd. are trading at half of what they were at the start of this year – in some cases, far less. Even darlings known for efficient operations in good times and bad, such as Tourmaline Oil Corp. and Peyto Exploration & Development Corp. have suffered steep drops. Private companies operating in the region with initial public offering plans have had to put those off.
Is the industry well served with a few very big domestic producers – such as Encana Corp. and Canadian Natural Resources Ltd. – and lots of smaller ones that often lack the power to influence the market for drilling and other oil field services? Something's gotta give.
The crowded gas field can't buy its way out of its problems. Using hard-earned cash or loading up debt to buy rivals would only worsen their plight as cash flow remains static. But mergers of equals through share swaps and similar arrangements could help rekindle interest in the sector, as it would offer the prospects of scale and the ability to root out savings through lower overall general and administrative expenses.
Banding together to increase geographic diversification and win better access to processing and transport could also offer rewards, especially when operational problems plague parts of the gas network and returns are slim.
Obviously, some management teams in the gas patch will hate this suggestion. These are dyed-in-the-wool entrepreneurs, many of whose glory days involved starting up small companies, scaring up up exciting new plays, selling out to bigger rivals for hefty multiples of their expected cash flow, then starting the process up again.
One big puzzle is how to agree on asset values, including undeveloped land, when the industry's prospects for drilling large numbers of new wells are currently so uncertain. In addition, consolidation is bad news on the employment front in an industry that has already shed thousands of workers through three years of downturn.
But, if weak conditions in gas markets and declining investor interest persist, that may happen anyway.