Can Canada’s Oil Sands Overcome This Huge Hurdle?

While it's easy to get caught up in the euphoria surrounding America's shale oil and gas revolution, let's not forget that our neighbors to the north have also been blessed with massive reserves of unconventional oil and gas.

Though Canada might be better known for producing another sticky, brownish commodity – maple syrup – its province of Alberta lays claim to one of the largest reserves of recoverable oil sands anywhere in the world.

In addition to being plentiful, crude oil derived from Canada's oil sands is as cheap as the dirt it's separated from. It's also denser and has higher sulfur content than crude produced in U.S. shale oil plays, which makes it attractive as a feedstock for many U.S. Gulf Coast oil refineries.

But Texas is a long way from Alberta and pipelines are few and far between, leaving energy producers with few options. While many refiners are making do with alternative forms of transportation, there should be pipeline relief on the way.

Limited transport options for Canadian crude
With new production of up to 250,000 barrels per day expected from Western Canada this year, new pipeline capacity is in high demand. But unfortunately, existing pipeline infrastructure transporting Western Canadian crude to American markets is bursting at the seams. As a result, Western Canadian crude is trading at a massive discount to the main American crude oil benchmark, West Texas Intermediate.

While transport via rail and barge is serving as a temporary solution to deliver Canadian crude to Gulf Coast refiners, pipelines are still the most efficient and most economical long-term solution. Currently, U.S. companies use the Keystone XL pipeline, operated by TransCanada (NYSE: TRP  ) , to transport crude from Canada's oil sands to a limited number of destinations in the U.S.

For instance, ConocoPhillips (NYSE: COP  ) uses Keystone to move oil sands production to its Wood River refinery in Roxana, Ill. – about 15 miles northeast of St. Louis. The first delivery of crude to Wood River started in July 2010 and provides the refinery with greater flexibility in processing heavier grades of crude.

However, even with the expansion of the Seaway pipeline, operated jointly by Enbridge (NYSE: ENB  ) and Enterprise Products Partners (NYSE: EPD  ) , the volumes of crude from Canadian oil sands being shipped to the U.S. are relatively insignificant. As it stands, Canadian crude is finding its way to coastal Texas refineries at a rate of some 100,000 barrels per day – a relative trickle compared to the quantities of oil being shipped from the Eagle Ford and the Permian Basin, two prolific oil plays in Texas.

But in the years ahead, two projects are aiming to change all that. Let's take a look at both.

Proposed new pipeline to St. James
On Feb. 15, Enbridge and Energy Transfer Partners (NYSE: ETP  ) announced that they have agreed to jointly develop a project that will allow pipeline access to eastern Gulf Coast refiners from a hub located in Patoka, Ill.  

The Patoka hub receives crude from both Canadian and domestic sources, including North Dakota's Bakken play, via a number of existing pipelines, including Enbridge's Southern Access Extension Pipeline, which is currently being developed.

The new project, expected to go into service by 2015, entails the conversion of certain segments of pipeline from natural gas service to crude oil service. These segments are currently part of the natural gas system of pipelines operated by Trunkline Gas Company, a subsidiary of Energy Transfer Partners and Energy Transfer Equity (NYSE: ETE  ) , a master limited partnership that owns the general partner of ETP, as well as 100% of its incentive distribution rights.

The converted pipeline is expected to have a capacity ranging from 420,000-660,000 barrels per day, subject to the composition of the crude slate and the number of subscriptions demanded in an open season that will be carried out at some point in the near future. It will be the first pipeline link connecting a midwestern hub to the eastern Gulf Coast hub in St. James, La. – a major refining center with strong demand for new sources of crude.

Enbridge's CEO Al Monaco explained: "Connecting the Patoka hub to the St. James hub is an important component of our broader plans to open up access to the eastern Gulf Coast crude oil market and responds to significant interest from both producers and refineries ...Together with our western Gulf Coast Access program, which includes the expanded Seaway Pipeline, this new project would provide western Canadian and Bakken producers with access to the largest refining center in the world with approximately nine million bpd of crude oil processing capacity."

Keystone XL expansion project
And finally – and more importantly – there's the proposed northern leg of the controversial Keystone XL pipeline, operated by TransCanada (NYSE: TRP  ) . If the project receives approval from the U.S. State Department, it would move crude from Canada's oil sands to Steele City, Neb., from where it could be transported to Gulf Coast refiners.

The pipeline has an expected capacity of 830,000 barrels per day, which is nearly six times the quantity of oil currently being transported via Canadian railroads. If constructed, it would completely change the dynamics of crude oil transport to the U.S., though it faces significant environmental hurdles.

A new state department study, however, concluded that Keystone's environmental impact would not be nearly as severe as many environmentalists believe and that its construction would only minimally raise greenhouse gas emissions.

The study's results may be just the catalyst needed for the Keystone project to push forward, though I would be cautious not to underestimate environmentalist opposition to the project and its impact on delaying or stopping construction.

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