Alberta's royalty regime to take steep hit as oil prices sputter, energy minister warns

The steep price discount facing Alberta crude is jeopardizing the Redford government’s projection of collecting $10 billion in bitumen revenue by 2014-15, as fewer oilsands projects are expected to graduate into paying higher royalties in the short term, says Energy Minister Ken Hughes.

In last spring’s budget, the Tory government predicted it would collect a gusher from the province’s 108 oilsands projects, with bitumen royalties hitting $5.7 billion this year and climbing by an average of 32 per cent in each of the following two years — driven by rising production and expectations of higher commodity prices.

Rising prices would mean more oilsands projects would move from paying an initial lower levy to the government — known as a pre-payout royalty rate — to a higher tier of payments, as producers recoup their total development costs for such large-scale projects.

Today, however, Alberta bitumen faces a huge discount compared to the price for benchmark West Texas Intermediate crude, with the differential near $37 a barrel on Friday.

In an interview, Hughes said the number of oilsands operations now expected to reach payout quickly — bumping them into the higher royalty tier — is smaller.

“In my estimate, we’d probably see maybe half as many projects reach payout in the next four years, compared to what we might’ve thought would happen even a year ago,” he said.

“The impact of the price pressure on bitumen means payout will not come as quickly for as many projects. So that also has an impact on the revenues of the province of Alberta over time.

As for the government’s target last spring of garnering almost $10 billion in bitumen royalties in 2014-15 — propelling the province into an overall $5.2-billion surplus — Hughes urged caution.

“I cannot foresee anything like that happening, and our job as the government of Alberta is to be prudent, cautious and conservative in our assumptions about revenues to the provincial coffers, so we can continue to have choices that we do today about how we manage our way through these issues.”

According to provincial statistics, 49 oilsands projects in northern Alberta are currently in the pre-payout phase as of Dec. 31, 2012, paying royalty rates that top out at nine per cent of gross revenues.

Another 59 are in the higher category, paying royalties of up to 40 per cent of net revenues, depending on oil prices.

When the budget was released last February, the Energy Department expected 13 oilsands projects would graduate to the higher post-payout levels by 2014-15. (An updated number won’t be released until the new budget is released in March.)

Greg Stringham, vice-president of the Canadian Association of Petroleum Producers, notes some U.S. refineries are converting to handle heavier grades of crude, which should increase markets for Alberta bitumen.

As well, another pricing issue — the gap between North American and global oil prices — is expected to narrow.

Project payout is largely determined by the total cost of a development and commodity prices, he said.

“Lower prices means in most cases longer payouts, higher prices means faster payout — because payout is just how much revenue goes against the cost,” Stringham said.

“But a lot of the major projects that have been started up for several years now are already past their payout point. So it’s not like you swing all of the projects, it would (affect) only the newer production that comes on.”

At the heart of the government’s problem is the difficulty forecasting volatile prices for Alberta’s most important energy commodity.

West Texas Intermediate has averaged $91.40 a barrel during this fiscal year — compared with last spring’s budget estimate of $99.25 — and every $1-a-barrel drop over the course of the year costs the treasury $233 million.

The price for a Western Canadian Select, which reflects a blend of conventional heavy oil and bitumen produced in Alberta, has averaged only $70 a barrel since April — closing at $58.71 a barrel on Friday — sharply off the budget forecast of $83.

And every $1 difference in Western Canadian Select over an entire year will cut bitumen royalties to the province by $239 million, according to Alberta Energy.

Energy economist Joseph Doucet, a professor at the University of Alberta, noted the province remains a relatively high-cost environment in which to build large energy projects.

Meanwhile petroleum producers and the province are currently collecting less money for a heavily discounted product.

“It’s a very serious problem and it’s something that wasn’t anticipated — or fully anticipated — until fairly recently,” Doucet said of the price discount.

But Wildrose MLA Rob Anderson said the government’s prediction of bitumen royalties jumping by a third in each of the next two years was “total insanity.”

Oilsands projects will move into a higher payout rate, but not at the aggressive pace the Redford government was banking on, he added.

“Any rational human being thinking there would be a 32 per cent increase in bitumen royalties in two years needs their head examined. I don’t want to use the word impossible, but that’s essentially what it is,” Anderson said.

Part of the broader issue facing Alberta stems from rising oil production in the United States — where volumes hit a 14-year high last fall — and limited pipeline capacity.

Hughes noted the industry is still strong, and employment levels are growing because of the huge opportunities in the oilsands.

While last year’s budget projected some pressure on bitumen prices, “what nobody anticipated was how quickly and how deeply the impact would come upon the Alberta economy — and upon the industry,” he added.

“All this speaks to is the fact, within the oil industry, there will not be as much revenue, which means there may be slowing down of a few projects. But we’re still amongst the luckiest people in the world.”

Dilemma for Alberta’s finances: Should your taxes go up? (with poll)

...policy wonks and civil servants leans forward at the Shaw Conference Centre as Ascah lays out Alberta’s fiscal dilemma — “an anti-tax environment” and “high expectations for quality public services,” and a looming $3-billion deficit.

It’s time to ask, how are we going to pay for those services and save for the future? says Ascah, who runs the University of Alberta Institute for Public Economics and organized Thursday’s seminar on provincial budgeting.

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