The Canadian oil sands produced an average of 1.9 million barrels per day (mmbpd) in 2012. This equates to a little more than 10% of America's 2012 oil consumption. Not only do the oil sands produce large amounts of oil, in 2013 their full cycle breakeven costs with a 9% after tax return were in the $60 to $65 per barrel range. If you look at investing as more of a marathon than a sprint, then it is hard to ignore the steady profits found in the oil sands.
The majors are already invested in the oil sands
Total (TOT +0.00%) has partnered with the experienced oil sands operator Suncor (SU +0.71%) to help develop the Fort Hills project. The project is expected to start-up in 2017, eventually ramping up to 180 thousand barrels per day (mbpd) or 7.8% of Total's current production. Total also owns half of the Surmont 25 mbpd project with its production expected to increase to 136 mbpd in 2015.
Growing at a slow and steady pace will eventually pay off for Total. These projects, combined with existing production, are an important part of Total's plan to boost its total production from 2.3 million barrels of oil equivalent per day (mmboepd) in 2013 to close to 3 mmboepd in 2017. Beyond simply increasing volumes it is also on track to bring its capex down from 2013 levels and boost its annual free cash flow to $15 billion by 2017.
Suncor is not a supermajor, but it is a major oil sands player with the oil sands expected to provide 76% of its 2014 upstream production. It has recently cancelled some big projects to maintain cost controls and make a more rational growth trajectory. Even with this new direction it plans to boost its oil sands output from 305 mbpd in 2011 to around 500 mbpd by 2019. Suncor is profitable with a net income of $3.7 billion and a return on capital employed (ROCE) excluding major projects in progress of 11.5% in 2013, and it hopes to boost its ROCE up to 15% in the coming years.
Royal Dutch Shell (NYSE: RDS-A) and Chevron (CVX 0.40%) are also big investors in Alberta, even if the oil sands are small portion of their overall production. The Athabasca Oil Sands Project produces 255 mbpd with Shell owning 40% and Chevron owning 20%. In absolute terms the Athabasca Oil Sands Project is big, but Shell's equity production works out to be 3.2% of its 2013 upstream production, and Chevron's portion of productions is 2% of its total 2013 upstream production.
Chevron is doing better than Shell, thanks in part to the fact that Chevron is a smaller and more nimble company. In 2013 Chevron's total net income only fell 18% while Shell's profits fell 23%. Shell's new CEO is trying to transform the company into a leaner organization with $15 billion in asset sales planned for the 2014 to 2015 period, but he faces big challenges as upstream asset sales mean fewer reserves.
Take growth plans with a grain of salt
Oil sands mining requires big capital investment followed by steady production. This means that existing facilities can be very cost effective with breakeven costs below some U.S. fields, but new oil sands developments are expensive. Recent estimations from Scotiabank peg existing oil sands mining full cycle breakeven costs around $60 to $65 per barrel, but new oil sands mining around $100 per barrel.
This big cost differential between existing and new facilities means that investing in companies with significant existing production is a good idea. Suncor is the perfect example as its oil sands operations are expected to produce 400 mbpd to 430 mbpd in 2014 and provide the majority of its production.
There are transportation constraints, but the situation is not dire
Lack of pipeline capacity is not a death sentence for Canadian oil. As U.S. midstream capacity keeps expanding, Canadian oil can be shipped via rail across the border and then sent down to refiners in pipelines or ships. Canadian producers have higher transportation costs, but with existing production's breakeven costs around $60 to $65 per barrel there is room to spare.
Follow the money
The oil sands have big upfront costs, but once construction is completed the profits roll in. Given the high decline rates of shale oil it is a safe bet that Suncor and Total's oil sands developments will be around long after the Bakken has peaked. With full cycle breakeven costs for existing oil sands facilities comparable to other North American plays, ignoring Suncor would be an expensive choice.
