Is Canada's Oil Pipeline Bottleneck Choking The Economy?

Oil production is surging in Canada but producers are far from happy as their profit margin is sinking and they are striving to stay competitive with their U.S. counterparts. While upstream companies like Marathon Oil Corporation (NYSE:MRO) , Hess Corporation (NYSE:HES) and others are enjoying the shale boom and rebound in prices in the United States, their Canadian counterparts like Cenovus Energy Inc. (TO:CVE) and others are thinking of reducing production. The primary reason behind this is the shortage of pipelines in the country. In short, pipeline construction in Canada has failed to keep pace with rising domestic oil production – the heavier sour variety churned out of the oil sands – resulting in infrastructural bottlenecks. This has also forced producers to give away their products at a discounted rate.

Price Differences Leading to Lower Revenues

Pipeline capacity constraints mean that Canadian oil explorers are selling their products in the United States – their major market – at highly discounted prices, causing tremendous loss in revenues. In fact, the discounts have led to a huge difference between Alberta’s Western Canada Select and New York-traded West Texas Intermediate oil benchmark. After adjustments made for differences in quality and shipping costs, the Fraser Institute in Canada found the difference between oil prices in the United States and Canada at $26.30 per barrel for 2018. This is expected to land a C$15.8 billion blow to the energy sector’s revenues. Notably, the price difference between the two averaged at $16.54 per barrel during the 2012-17 period, which resulted in lost revenues of C$20.7 billion.

As it is, extraction from oil sands is a high-risk strategy considering the extra costs involved compared with production from conventional oil wells. Add to it limited pipeline capacity and things do not look too promising for Canada’s upstream players.

Now the question is what led to this infrastructural scenario.

Environmental and Political Turmoil

Though several major pipeline projects received the green light from the review agencies in the country, their future is still uncertain due to political turmoil. Moreover, environmental protests are on the rise, thereby further derailing construction. The crusaders believe that the rapidly growing movement of oil around the country is unsafe.

For example, the C$7.4 billion Trans Mountain pipeline expansion project of Kinder Morgan, Inc. (NYSE:KMI) – a Zacks Ranks #3 (Hold) company – faced opposition from British Columbia residents and indigenous communities, who are wary of the potential impact of the project on the environment. The NDP government in British Columbia also opposed the expansion project. Currently, the Canadian government is planning to provide a financial shield to the company from the politically motivated delays.

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Written By: Zacks Investment Research