Canada

OIL'S NOT WELL

Even in the new Alberta, the price of fuel exacts a toll

JENNIFER HUNTER February 8 1999
Canada

OIL'S NOT WELL

Even in the new Alberta, the price of fuel exacts a toll

JENNIFER HUNTER February 8 1999

OIL'S NOT WELL

SPECIAL REPORT

Even in the new Alberta, the price of fuel exacts a toll

JENNIFER HUNTER

It’s noon at the stodgy but venerable Petroleum Club in downtown Calgary. The luncheon buffet is splayed across the centre of the dark-panelled McMurray Room: mounds of plump, peeled shrimp and thinly sliced smoked salmon; platters of devilled eggs and chickpea salad; meringue-capped lemon pie and moist turkey roast, carved by the white-hatted chef at the end of the table. The place is three-quarters full, not bad for a Monday, and the buzz among the oil nabobs—mostly men—is about buying assets and doing mergers. There are smiles and boisterous greetings. One would never know there was real trouble in the oilpatch.

‘You can hardly get in here for breakfast,” says Jim Gray, chairman of Canadian Hunter Exploration Ltd., who is ensconced at his usual table right across from the smoked salmon. “The surprising aspect of this story is how little impact it is having in Calgary. In the Sixties, we were a one-horse town, maybe two horses, if you count agriculture. Now, we’re a many-horse town.” Yes, Calgary has diversified, and yes, there is less reliance on oil and natural gas for the city’s prosperity than there was a decade ago. But sustained low prices for crude oil—which have hovered at around $12 (U.S.) per barrel of West Texas interme-

diate crude since last November, far below the $15 considered to be a comfort zone for Canadian oil companies—are exacting a big toll. “Calgary is still fundamentally an oil town,” says Harry English, a partner with Arthur Andersen LLP. “At the end of the day, whether you’re a chiropractor or a realtor, if the oilpatch is down, your revenues are down.” David Manning, president of the Canadian Association of Petroleum Producers, says: “There is no question the industry is struggling. The issue is not how low the price of oil goes, it’s how long it stays there.” The problem is the glut in the supply of oil coupled with a decrease in demand—caused chiefly by increasing production from some Organization of Petroleum Exporting Countries, warmer winters and the crisis in the Asian economies. Every day, there is another announcement from Canadian oil producers of layoffs or cutbacks. Last week, Canadian Occidental Petroleum Ltd. said it was letting 112 people go. Ranger Oil Ltd. recently waved goodbye to five vice-presidents. Amoco Canada Petroleum Co., whose Chicago parent just merged with British Petroleum Co. PLC, announced on Jan. 26 it was cutting 275 jobs. Amoco Canada president Joseph Bryant told Maclean’s the decision was painful. “We had to let go the best of the best,” he acknowledged, but “in a commodity business, the winners are the ones with the lowest cost structure.” More layoffs are likely to come, he concedes. “We’ve already gotten so many costs out of the system. We’ve gone from 5,800 employees to 2,200 and now to 1,900.” The president of Petro-Canada, Jim Stanford, says as his company sells off assets, the number of employees will continue to shrink—it has already moved from a high of more than 10,000 in the early 1990s to just more than 5,000 today.

The layoffs were accelerated by the dismal 1998 year-end results for most oil companies. PanCanadian Petroleum Ltd., one of the largest players in the oilpatch, reported a profit drop of 55 per cent: to $150 million from $330 million in 1997. Petrocan’s profits fell by an astonishing 69 per cent to $95 million from $306 million at the end of 1997. Imperial Oil Ltd. said its earnings had dropped to $554 million, from $847 million the previous year.

Share prices have plunged, too, making it harder for oil companies to raise money on the stock market— the Toronto Stock Exchange oil and gas index has fallen 34 per cent since last April from a high of 6,725.39 to 4,430.04 last week.

Besides reducing their workforces, companies are slashing their exploration and development budgets and their capital expenditures. Ranger Oil is cutting capital spending by 34 per cent to $220 million. Amoco’s cuts “will be very large,” says president Bryant, who was reluctant to be more specific until year-end results are reported in February. Petro-Canada is lowering its capital spending by $300 million over the next two years. Like the others, Petrocan is busy selling off assets—in the early 1990s, it owned 550 properties in Western Canada, and today it holds 150. Drilling for oil has slackened off considerably throughout the industry, even though winter is traditionally the busiest time of the year. The Canadian Association of Oilwell Drilling Contractors says 395 rigs are working today out of a fleet of 582. “There could be 100 more rigs running right now if oil prices were at $15,” says Don Herring, managing director of the association. ‘With 25 workers on each rig and 50 workers in related services, that means 7,500 do not have work.”

They cannot hope to be rehired anytime soon. Craig Lang-

pap, an energy analyst with Peters & Co. Ltd., says his firm forecasts 7,900 holes will be drilled this year, compared with just under 10,000 in 1998. Oil prices are expected to stay low at least until the fourth quarter, so spending cutbacks will continue—even though there is little left that can be chopped from companies’ budgets. As David Tuer, president and chief executive officer of PanCanadian, notes: “Oil companies cut so much in the late 1980s and 1990s that today there are fewer cuts left to make. There is less elasticity.”

It is true that this period of prolonged oil price decline— from an average of $20.59 (U.S.) per barrel in 1997 to below $15 last year—has been a little easier to cope with than the downturn in the 1980s, when oil prices were knocked from $28 a barrel in 1985 to less than $10 the next year. Then the price of gas was low, too, and companies, which were highly leveraged, began to downsize radically. “In those days, we were feeling really besieged,” recalls Stanford of Petrocan. Notes Calgary Mayor Al Duerr: “At that time, we weren’t ready for the collapse. We were predicting $60-a-barrel oil prices and there was a construction boom like you’d never seen. When prices collapsed, everything collapsed. Buildings weren’t completed, people left town.” That 5 period, said Manning of the producid ers association, “was a wakeup call

1 for the industry. It contracted sub-

2 stantially. This time, we were better § prepared for the tough price envi§ ronment.” Tuer of PanCanadian ° added that “this time no one is using

the word ‘bust.’ ”

After the last oil price collapse, companies such as PanCanadian, Petro-Canada and dozens of others began an intensive restructuring process. In Petrocan’s case, the goal was to whittle down a massive 1990 debt of $2.3 billion. “In those days, we had a debt to cash flow ratio of 6:1,” Stanford said. Besides selling assets and shrinking its workforce, Petrocan has begun to shift more of its focus to gas, where profits are now easier to come by. (The average fieldgate or selling price in 1998 was $2 per thousand cubic feet and is expected to go higher this year.) ‘We have to keep re-evaluating what our business is,” Stanford says. At PanCanadian, which has the largest oil and gas holdings in Western Canada and whose majority shareholder is Canadian Pacific Ltd., the company broke itself down into nine smaller units. Tuer explained that managing such a large entity had become unwieldy. About 150 people were laid off as PanCanadian slowed down its exploration projects in Western Canada and upped its gas production (the company used to produce one-third gas, two-thirds oil; now the split is 40-60).

Tuer and other oil executives say the problem of low oil prices is mitigated by a low Canadian dollar, improved technology—which makes it cheaper to recover oil—and reasonable gas prices. “The brightest spot certainly has been the Canadian gas business,” remarks Bryant of Amoco. “That’s the good news. The bad news is that while Canadian gas prices are stronger than they were, they still are not what you would dream about. They still have upward price potential that would make us feel better.” Warm winters and a slight gas glut are preventing a longed-for rise in prices. Those factors, coupled with continuing low oil prices, will continue to depress oil company revenues and will have a major impact on junior firms. “Certainly if you’re producing under 500 barrels a day and you have debt, the outlook isn’t very rosy,” said Rick Roberge, senior vice-president and energy analyst at PricewaterhouseCoopers. “The key is, what are the banks going to do? At this stage, nobody knows. Are they going to stick with the industry or are they going to force things to happen? We won’t know for a couple of months.” Says another observer, who asked not to be named: “The banks are horrified that they’ve been sucked into lending to these guys. Each of them has $20 million to $30 million worth of debt. The banks are just trying to give these guys time to merge or sell their assets.”

Calgary learned from woes of the past

That explains all the buzz about mergers and acquisitions at the Petroleum Club. “Networks and contacts are really important in this business,” says Jim Gray. It makes it much easier to find a buyer for a debt-heavy company. For the first nine months of 1998, there was $18.3 billion worth of merger activity in the oilpatch—$2 billion more than all of 1997. And it is likely to increase, says Roberge, as companies look for ways to cut costs and keep growing. “Even the big companies will see some action, maybe more mergers.”

But it is not only the big players like Exxon and Mobil or BP and Amoco marching down the aisle.

At the Petroleum Club, Gray stops to greet Bill Davis, who is sitting at a table in the corner of the McMurray Room. Davis is the president of a four-year-old junior oil company, Search Energy Corp., and he says Search Energy, with its healthy balance sheet,

is on the prowl to acquire other companies—ones having a tough time coping with debt. Davis calls these companies “sick puppies” and adds that Search Energy is eager to effect a cure through a merger. “I believe that crisis equals opportunity,” Davis says. “We’ve worked hard to get our own company into a position where we will be among the hunters, not the hunted.” Gray adds: “It’s the little guys who are the most resilient of all. They’ve been up and down and up and down, but they’ll be back.”

That kind of optimism seems to characterize the mood in Calgary and throughout Alberta, even in these days of paltry oil prices. “People don’t seem to be worried,” says liston Plant, mayor of Lloydminster, a community of 20,000 about 254 km east of Edmonton on the Saskatchewan border. “They say they are used to the oilpatch now going up and down.” Lloydminster, in fact, is experiencing a small building boom with two new schools and a Wal-Mart going up. “Before Christmas, the manager of the local mall was all doom and gloom,” Plant says. “But they had a very good month. Revenues were up 29 per cent. Unbelievable!” In Cold Lake, 240 km northeast of Edmonton, Mayor Hansa Thaleshvar says having an air base in her community of 12,700 “kind of balances the impact of falling oil prices.” A new hotel has been built, a car dealership is opening and so is a grocery store.

“Falling oil prices are significant, but they won’t be the body blow to us that they were in 1986,” says Alberta Treasurer Stockwell Day. In 1986, he notes, 60 per cent of all the province’s corporate income tax was gleaned from oil and gas. Today that has slipped to about 22 per cent because of diversification: Calgary has encouraged a hightech industry and become an important transportation hub; a town near Lethbridge will be home to a McCain Foods Ltd. potato processing plant; Edmonton has attracted companies such as Finning (Canada), a heavy equipment firm. “There is a broad base of new industry and manufacturing and high tech,” Day says, “so we are able to weather the slowdown.”

The Alberta economy is expected to grow by about two per cent this year, and while oil revenues will be lower than predicted at about $480 million for the 1998-1999 budget year, gas revenues will increase to $1.5 billion from the forecasted $1.2 billion, Day explains. The government has also allowed a $420-million cushion to balance any falling revenues. “In the late 1980s,” Day recalls, “when the oil and gas sector was going through rough times, there used to be a bumper sticker that read, ‘Please God let there be another oil boom and I promise not to pee it all away this time.’ We all chuckled at that, but the private sector and the government did learn some lessons.”

Still, executives such as David Tuer and Jim Stanford say the prolonged low oil prices and merger activity will radically change the nature of the oil and gas business in Alberta. “Who will the new players be?” Tuer asks, then refers to the proposed Exxon-Mobil merger. “Mobil is a big East Coast player. Exxon/Imperial is a heavy oil player in Western Canada. Will the new company see its future in the tar sands and the further exploration of Cold Lake or will it focus on offshore exploration?” Stanford uses the word metamorphosis to explain what is happening. “It changes who you define as your competitor,” he explains. “It will change the dynamics and the focus of the industry.” Tuer allows that these are indeed interesting times, but cutbacks and corporate reorganization have been very trying. “Having gone through a year and a half of interesting times, I am beginning to think of it as more of a curse,” he muses. He and the others can only hope the hex of low oil prices will be cast away soon. Meanwhile, they can always find a sympathetic ear at the Petroleum Club. □