A Close-Up on Canada's Energy Challenges

Canada plays an important role in most politicians' plans for North American energy independence. The country is one of the world's richest when it comes to natural resources, and it is hard not to take that for granted sometimes. But, Canada has plenty of issues surrounding its energy development, some that are unique to its resources, and others that highlight the present and future challenges of many regions worldwide. Today, I'll take a look at what those challenges are, and what investors should be aware of going forward.

Basic facts and stats
Canada is the world's sixth-largest oil producer, churning out 3.7 million barrels of oil per day last year. At 175.2 billion barrels, Canada has the third-largest proven reserves in the world, behind only Venezuela and Saudi Arabia. All this is great news for the U.S., because nearly 30% of our foreign oil imports come from our neighbor to the north. Canada is just as glad to have us, mind you, as we buy 99% of the oil it exports.

Canada has pretty significant natural gas reserves as well. According to the Energy Information Administration, it is the third-largest dry gas producer in the world.

There are three main issues facing Canadian oil and gas production right now: the rapid growth of U.S. production, dependence on foreign capital, and public opposition to development.

Pesky neighbors
The seemingly overnight explosion of U.S. natural gas production has had a negative effect on some Canadian companies, but perhaps none has suffered as much as TransCanada (NYSE: TRP  ) . The company's most important asset is its Mainline pipeline, which stretches 8,762 miles from Alberta east to Ontario. The Mainline represents a whopping 15% of TransCanada's assets, and right now it's sitting half empty.

As U.S. gas supplies push into markets traditionally dominated by TransCanada, volumes on the Mainline are falling -- a death knell in the midstream business. Shipments have plummeted 70% over the last five years, and analysts expect that without some sort of drastic measure, the pipe will be running at one-third its capacity by 2014.

The U.S. also buys a fair bit of Canadian natural gas, but those orders are expected to decline significantly in the coming years, forcing Canada to find and lock down other markets for its exports.

More pesky neighbors
TransCanada isn't the only pipeline company having trouble these days. Enbridge (NYSE: ENB  ) , the company responsible for transporting about 70% of Canadian oil exports into the U.S., is facing extreme opposition to its Northern Gateway pipeline project.

Right now, Kinder Morgan (NYSE: KMI  ) is the only company with a pipeline that runs west from Alberta's oil sands to the coast of British Columbia. Enbridge's pipeline project has customer commitments, but is opposed by environmentalists, First Nation indigenous groups, and many Canadian politicians. Complicating things for the company is its recent public relations nightmare surrounding a 2010 major oil spill in Michigan.

At the heart of the matter is an intense opposition to the development of Alberta's bitumen oil sands. Roughly half of all Canadian crude produced comes from the oil sands. Bitumen is heavier and more viscous than other types of crude, necessitating complicated extraction methods -- methods that are far from environmentally friendly. There is also concern that if and when this type of crude spills from a pipeline or oil tanker, it will be nearly impossible to clean up. There may be some truth to this, as more than two years later, clean-up efforts in Michigan are not complete.

A foreign affair
Despite all the hooting and hollering about North American energy independence that comes with every election cycle, Canada is heavily dependent on foreign capital for its energy development.

Last week Canadian Natural Resources Minister Joe Oliver was in the news discussing China's CNOOC (NYSE: CEO  ) attempted buyout of Nexen (NYSE: NXY  ) . Oliver basically laid out the reality that the potential for resource development in Canada is so great, there is no way the country can go it alone. Roughly $660 billion will be poured into more than 600 Canadian energy projects over the next 10 years, and Oliver expects that number to climb.

The one thing that remains unseen is how Canada will react as more state-owned companies show up on its doorstep looking for access to energy. Currently, the country employs vague standards about joint ventures and mergers and acquisitions, governed by the Canada Investment Act. As long as there is a "net benefit" to Canada, a deal is allowed to proceed. But, in a world increasingly full of worries about energy security, countries have to be careful about which deals they let proceed.

Canadian Prime Minister Stephen Harper is expected to revise the act as Ottawa rules on the CNOOC/Nexen merger.

Investor attention
Ultimately, Canadian provinces rank high on the list of best places to invest in oil and gas worldwide. Although Canada has its share of hurdles to clear, relatively speaking it still presents one of the best opportunities for energy investors.

In the near term, investors should keep an eye on the changes that Prime Minister Harper makes to the Canada Investment Act. Clarifying the rules that dictate foreign investment in the country may have a significant effect on the rate of resource development, as well as the obvious impact on mergers and acquisitions. Investors looking for more energy ideas should check out the Fool's most recent analyst report "The One Energy Stock You Must Own Before 2014."

Fool contributor Aimee Duffy holds no position in any company mentioned. Click here to see her holdings and a short bio. If you have the energy, check out what she's keeping an eye on by following her on Twitter, where she goes by @TMFDuffy.

Motley Fool newsletter services have recommended buying shares of Kinder Morgan. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


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