Canadian Oil Companies
The Six Ways to
Play Canada’s Oil Sector
With oil finally trading back above the $50-a-barrel level, it's time to recognize
that crude prices are probably not going to remain low for very long, and may end up fluctuating in the $50-$80
range - regardless of what happens to the prices of other commodities.
After all, the economies in both China and India are apparently continuing to grow
at a fairly rapid pace, and those countries' demand for transportation and other forms of energy are thus likely to
keep pace. For some minerals, the period of high prices from 2005 to 2008 has produced a surplus. But no such
effect has been seen in the oil market, as large new discoveries are hard to find.
If we've learned anything in the last few years, it's that political risk is very
important in oil investments. It's not just a question of outright nationalization - as is true in Venezuela. Other
greedy countries, like Nigeria, boosted the royalties payable when oil prices were high, and have shown little
willingness to reduce them again now that they have declined.
Hence, it's once again time to look at investments in the one important energy
source whose friendliness to the United States and decent quality of governance can be assured.
I'm speaking, of course, about Canada.
Canadian oil-and-gas investments are attractive for three reasons.
- Canada's political stability makes it a buffer against turmoil from
less-stable oil sources.
- The country's conventional oil-and-gas sources add substantial capacity at
reasonable prices to U.S. domestic oil production; these sources are profitable at almost any plausible oil
- And Canada's tar sands in the Athabasca region represent a potential
source of oil, with approximately 1.6 trillion barrels of theoretically recoverable reserves. That's
potentially larger than the Middle East, but with two major problems: The cost of production is high and the
environmental impact could be substantial.
That last point - and the two major problems it identifies - is key. At low oil
prices, both factors make tar sands problematic; it is politically more difficult to overcome environmentalist
objections if secure oil sources do not appear a priority. However, at high prices, environmentalist problems go
away, although they may add to extraction costs. However, if prices escalate rapidly, extraction costs also tend to
escalate, so oil-shale-producers reaped less of a bonanza than they might have in 2007-2008.
Now that oil prices have stabilized, the cost increase has slowed, so that (for
example) Suncor Energy Inc.'s (NYSE: SU) tar-sands-production costs in this year's first quarter rose only 6% from
the previous year, hitting $28 per barrel. Since oil prices are currently around $58 a barrel, that leaves plenty
of profit margin.
The Canadian oil business is still rather more entrepreneurial than the
international majors - Calgary is that kind of place. I remember an instance when I was working as a banker back in
the 1980s. I'd spent the weekend in New York with my girlfriend, and then turned up for a scheduled Monday lunch
with some oilmen at the Ranchmen's Club. Not thinking, I'd ordered my normal urban cocktail, an Apricot Sour. This
was quite rightly treated with great derision, and I was firmly presented with a bullshot (vodka and beef bouillon) - in a pint beer mug!
Got the deal, I'm proud to say, but was pretty worthless for the rest of the day.
The message: Investing in Calgary oil is a little like dining at the Ranchmen's
Club; you have to have certain qualities of fortitude and stamina!
Six Canadian Oil
Canadian oil companies you might look at include the following (when looking at
earnings, the first quarter of 2009 is a good guide; 2008 is all over the place because of the bizarre behavior of
Canadian Natural Resources Ltd. (NYSE: CNQ): Primarily a conventional oil producer, this company's operations are centered on Western
Canada, the North Sea and offshore West Africa (Gabon), though it is also building an oil sands plant north of Fort
McMurray, Alberta. It is trading at about 14 times earnings when you strip out misguided risk management, and about
80% above book value. It's over-leveraged, too. Conclusion: A decent company, but
(NYSE: ECA): North
America's largest natural gas producer and conventional oil producer, with operations in Western Canada, offshore
Nova Scotia and the Western United States. It is a leader in oil recovery through steam-assisted natural drainage.
Based on first-quarter earnings, its Price/Earnings (P/E) ratio is about 9, and its Price/Book (P/B) ratio is about
1.7. It has only moderate leverage. Conclusion: This one looks like a decent value;
it even pays a semi-respectable dividend, yielding 2.8%.
Imperial Oil Ltd. (NYSE: IMO): Majority-owned by ExxonMobil Corp.
(NYSE: XOM). Even though it's now
headquartered in Calgary, Imperial is the least Calgary-ish of Canada's oil majors. It owns 25% of
Syncrude Canada Ltd., the oldest tar sands
project, and also explores for and produces conventional oil in Western Canada and in the offshore Atlantic
provinces. Imperial also refines and markets petroleum, owning a chain of service stations and convenience stores,
and produces petrochemicals. It experienced a sharp drop in first-quarter earnings, its P/E based on the lower
first-quarter results is about 40, with the stock trading at four times book value.
Nexen Inc. (NYSE: NXY): The former Canadian arm of Occidental Petroleum Corp. (NYSE: OXY), it owns 7% of Syncrude and
another (Long Lake) start-up tar sands project, and has oil producing operations in Yemen, the North Sea, the Gulf
of Mexico, Colombia and offshore West Africa. Its P/E is about 20 based on first-quarter results and it is very
over-leveraged. Conclusion: Given the non-Canada risk, not very attractive.
Suncor Energy Inc.
(NYSE: SU): A major tar sands
play, Suncor has now agreed to merge with Petro Canada (NYSE: PCZ), a deal that's expected to close in the third
quarter. Suncor also produces natural gas in Western Canada and operates refineries. Petro Canada has tar sands,
natural gas, pipeline and retail operations. It is priced at about 30 times annualized first-quarter operating
earnings, but oil prices are up about $10 since then (which should boost its earnings), and its tar sands
production is ramping up. Conclusion: At 2.3 times book value, with a
respectable balance sheet, it's a decent bet on oil's growth sector.
Talisman Energy Inc.
(NYSE: TLM): The former BP
Canada (NYSE ADR: BP), it was spun off in 1992, grew through acquisitions, and now has a diversified portfolio of
holdings. It's active in Western Canada, the Western United States, the United Kingdom (including a wind-farm
operation), Norway, Colombia, Peru, Algeria, Tunisia, Indonesia, Malaysia, Vietnam, Australia and Qatar. It has
sold $2.5 billion worth of operations to raise cash. Talisman has a P/E ratio of about 8, based on its first
quarter, or 11, based on continuing operations in that quarter. It has a P/B ratio of about 1.4, and only moderate
leverage. Conclusion: An iffy company in terms of quality, but cheap, and is thus worth a look.