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2 Canadian Oil Sands Stocks to Watch

By Chad Fraser on June 18, 2014

Canada’s oil sands span about 55,000 square miles in the northern part of the province of Alberta and account for the vast majority of the country’s roughly 175 billion barrels of total oil reserves.

In 2013, Canada produced about 1.9 million barrels per day (bpd) from the oil sands. According to a new report from the Canadian Association of Petroleum Producers, that will rise to 4.8 million bpd by 2030.

Below, we’ll look at two companies at the center of the area’s continued growth. But first, here’s a brief rundown on how oil sands projects work, as well as a few ways they differ from conventional crude production.

New Techniques Give Reserves a Boost

The oil sands are a mixture of sand, water, clay and bitumen—or oil that is too thick to flow or be pumped out of a well without being diluted or heated.

The Sun Oil Company started the first oil sands project in 1967. In 1979, Sun Oil merged with Great Canadian Oil Sands to become Suncor Energy, which is currently the largest player in the oil sands. (More on Suncor below.)

There are two main recovery methods: surface mining, which is feasible when oil sands are relatively close to the surface, and in situ production. Mining involves scooping oil sands from an open pit into huge dump trucks. It’s then dropped into a crusher, mixed with hot water, piped to a plant and separated. Only about 20% of the oil sands are recoverable through this method.

The remaining 80% must be accessed through in situ production, which involves injecting steam into the ground to let the oil flow more freely. A relatively new form of in situ production is steam-assisted gravity drainage (SAGD), which was first used commercially at Cenovus Energy’s Foster Creek project in 2001.

SAGD involves drilling a pair of horizontal wells, one above the other, and injecting steam into one well to heat up the bitumen, which is then pumped to the surface using the second well.

“The technique has had a dramatic impact on Canada’s oil reserves by enabling the production of oil sands that were formerly too expensive to produce,” wrote Robert Rapier, chief investment strategist of our Energy Strategist newsletter, after visiting the oil sands in November. “One might say that Canada is experiencing a ‘SAGD revolution’ analogous to the fracking revolution in the U.S.”

Two Oil Sands Stalwarts

At Investing Daily, we mainly cover oil sands producers in our Energy Strategist and Canadian Edge advisories.

Here’s a look at two such companies. We keep both under close watch in Canadian Edge’s How They Rate universe, which keeps over 150 Canadian stocks under continuous review, while one—Suncor Energy—is a recommendation of the Energy Strategist: 

  • Suncor Energy (NYSE: SU, TSX: SU) attracted attention last summer when Warren Buffett’s Berkshire Hathaway (NYSE: BRK.B) revealed a 17.8-million-share stake in the company. Buffett has since pared back his interest somewhat, though he still owns nearly 1% of Suncor.

    Oil sands projects are notoriously expensive and prone to delays and cost overruns. To try to mitigate some of that risk, the company enters into joint ventures with other producers. For example, it owns a 12% stake in the Syncrude oil sands operation, as well as 40.8% of the development-stage Fort Hills project.

    In addition, it operates the MacKay River and Firebag SAGD projects, as well as conventional production in the North Sea, four refineries and 1,500 gas stations.

    In the first quarter, Suncor’s oil sands output rose 8.8% from a year earlier, to 389,300 bpd, on higher production from Firebag and Syncrude.

    The company posted record operating earnings of C$1.22 a share, up from C$0.90 and well ahead of the C$0.93 analysts were expecting. Cash flow from operations also set a record at C$2.88 billion, or C$1.96 a share, up from C$2.28 billion, or C$1.50 ($1 Canadian = $0.92 U.S.).
  • Cenovus Energy (NYSE: CVE, TSX: CVE) was formed on December 1, 2009, when EnCana Corp. split into two companies: oil producer Cenovus and natural gas firm Encana Corp. (NYSE: ECA, TSX: ECA).

    Cenovus operates two SAGD projects: Foster Creek and Christina Lake, both of which are 50% owned by ConocoPhilips (NYSE: COP). Cenovus also holds 50% of two refineries in the U.S. as part of a joint venture with Phillips 66 (NYSE: PSX), as well as other oil sands, conventional oil and gas projects in Western Canada.

    In the first quarter, Cenovus’s oil sands production rose 20% from a year earlier, to 120,444 bpd, on a 48% increase at Christina Lake. Output at Foster Creek, where the company continues to bring in new techniques to optimize its steam use, declined 2%.

    Cenovus posted operating earnings of C$0.50 a share, down slightly from C$0.52 a year ago but still ahead of the consensus forecast of $0.48. Operating cash flow slipped 4%, to C$1.19 billion, due to lower refining margins.

Better Days Ahead?

Oil sands companies have faced challenges in the past few years, partly because Canadian crude has been crowded out of pipelines to key American refineries by competition from booming U.S. shale regions.

The result has been a supply glut that has contributed to a discount on heavy oil sands crude (as measured by the Western Canada Select price) to West Texas Intermediate (WTI) light crude. In late 2012, that differential widened to over $40.

However, it has since narrowed to around $20. An increase in crude-by-rail shipments has helped. As well, BP plc’s (NYSE: BP) Whiting refinery in Indiana, which has been upgraded to process heavy crude, has reopened after numerous delays and continues to ramp up to full capacity.

A lower Canadian dollar has also helped the sector. “So you have an industry where you’re getting revenues in U.S. dollars and paying expenses in the lower Canadian currency, so you’re making a spread there,”said John Stephenson, portfolio manager at First Asset Funds, in an April 29 Canadian Press article.

Pipeline Concerns Overwrought: Rapier

Concerns about whether TransCanada Corp.’s (NYSE: TRP, TSX: TRP) controversial Keystone XL pipeline, which would carry 830,000 bpd of oil sands crude from Alberta to the Gulf Coast, would be approved have long hung over the sector. The Obama administration recently announced that it would delay a final decision until late this year or early 2015.

However, Rapier feels the oil sands’ growth will continue either way, due to a number of other projects on the drawing board. These include a proposed expansion of Kinder Morgan Energy Partners’ (NYSE: KMP) existing Trans Mountain pipeline, which connects Alberta to the British Columbia coast. The project would nearly triple the line’s capacity to 890,000 bpd from 300,000 now.

Meanwhile, another proposed TransCanada pipeline, called Energy East, would carry 1.1 million bpd to refineries in Eastern Canada. Like Trans Mountain, much of Energy East would involve existing pipelines—changing them over from carrying natural gas, in this case.

There is also Enbridge Inc.’s (NYSE ENB) proposed 525,000-barrel-a-day Northern Gateway pipeline, which just received conditional approval from the Canadian government, though it still faces further legal and regulatory hurdles, as well as political opposition in British Columbia.

“The rail projects on the drawing board would push the rail capacity up to over 900,000 bpd,” Rapier wrote in a November Investing Daily article. “Along with the announced pipeline projects, the total capacity would cover expected oil sands production increases for several more years—even without Keystone XL.”

Get instant access to all of Robert Rapier’s insights on the oil sands—as well as his crucial buy-under target on Suncor—when you take a no-risk trial subscription to the Energy Strategist today. Click here to start yours now.

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Stock Talk

  1. Jim Pearce
    Jim Pearce Reply July 15, 2014 at 1:08 PM EDT

    That detailed of a list is beyond the scope of this publication. For more information on Canadian energy companies you may want to consider Canadian Edge, written by David Dittman and Ari Charney: Thank you.

  2. avatar
    Robert Erber Reply July 12, 2014 at 8:01 PM EDT

    What are the top ten Canandian energy companies ?

  3. avatar
    George E Short Reply July 10, 2014 at 6:31 PM EDT

    I believe I read a recent article by David Dittman in which he discussed the creation of power “on-site”, using different types of renewable energy. If this is a significant development does it not pose a threat to power plants, natural gas and coal?

    • avatar
      Chad Fraser Reply July 11, 2014 at 11:33 AM EDT

      Hi, George,

      Renewable power (including on-site systems like rooftop solar panels) continues to grow globally, though fossil fuels still hold key advantages when it comes to power generation, such as scalability and the fact that they offer “firm power” that can be called upon as needed.

      Moreover, not all locations are suitable for on-site power generation (i.e., insufficient wind speeds or sunlight).

      Our Energy Strategist advisory recently featured an article that looked at the relationship between renewables and fossil fuels like natural gas and coal, including where opportunities lie in the renewable sector today. If you’re an Energy Strategist subscriber, you can check it out here:

  4. avatar
    Derrick Samuelson Reply June 18, 2014 at 4:35 PM EDT

    How does Kinder Morgan’s plan to ramp up its marine business, including ordering new tankers, affect its existing businesses and that of its competitors? For example, will the marine business be run separately, or in conjunction with its pipelines, for the transporting of petroleum and other products? Will the marine business help KM to avoid loss of business to railroads, where existing pipelines are not available?

    • Igor Greenwald
      Igor Greenwald Reply June 23, 2014 at 2:11 PM EDT

      I’d expect Kinder Morgan to seek any synergies it can find between its various assets, but also for tankers to be managed separately from pipelines and for them to have modest if any effect on other operations given the small slice of Kinder Morgan’s value represented by the acquisition.