Value in the Canadian oil patch will spark more deals, says Bennett Jones energy co-lead

Dealmaking in the Canadian energy sector is expected to be on a recovery path, as the country emerges from the Covid-19 pandemic and sluggish economy, says Vivek Warrier, partner with Bennett Jones in Calgary, with foreign capital taking another look at Canadian assets and seeing value.

“We are definitely seeing signs of life and taking more calls about interest in the energy sector,” says Warrier, who is co-lead of Bennett Jones’ national energy industry team. He was recently part of a Bennet Jones podcast looking at what is needed to take the energy sector forward in Canada.

He says he anticipates a “profusion of economic activity in the last two quarters of this year, as we hopefully start to emerge from the pandemic,” and the Canadian energy sector will be one of the beneficiaries.

So far, despite the pandemic, there has still been interest in developing areas of the sector such as petrochemical facilities and Alberta LNG facilities, driven by cheap feedstock, Warrier says. “What we haven’t seen is a lot of M&A and transactional activity, but I see that starting to change.”

He points to ConocoPhillips agreement to acquire acreage in the Montney Shale from Kelt Exploration, for $510 million cash and taking over $41 million in financing obligations, as one example of capital being deployed into Canada’s oil patch. That deal is expected to close later in August.

Warrier acknowledges, that there have been so few transactions done recently, it’s still “no real frame of reference” for what any future deals should be valued at. But he says the ConocoPhillips acquisition from Kelt, at C$510/flowing barrel, is an encouraging sign.

Warrier predicts that the initial wave of interest will be in upstream assets, most likely Montney or Duvernay shale assets rather than bitumen, given the current price of oil and the cost of extraction. One other factor operating in favour of Canadian shale assets is that the “bloom has come off the rose” in the Permian shale basin in Texas. 

Data from IHS Markit shows that the “base decline rate” of the more than 150,000 producing oil and gas in the Permian has “increased dramatically” since 2010. It says the surge in shale drilling and output in recent years has been accelerating the decline because newer, younger wells decline much faster than older wells. The result is that base production in the Permian declined by 40 per cent, to 1.5 million barrels/day between January and December 2019 (“Base decline” is calculated by identifying the actual or forecasted production of all the wells on stream at the start of the year, then tracking their cumulative decline by the end of the year).

Warrier says that this decline in the Permian has meant capital that had been earmarked for investment in the Permian is now looking for other opportunities, which could mean turning an eye towards Canada.

Private equity and pension funds will likely be among strategic investors who will probably be dipping their toes into the energy sector, he says, as well as strategic international and U.S. investors. In the case of the private equity and pension funds, Warrier says their investment criteria will start to recognize the value of Canadian energy assets as they look to put capital to use, while strategic investors will also be more willing to return to Canada.

“They are starting to see huge value, and some very potentially lucrative assets,” he says, though they are being cautious right now as they see how the pandemic plays out.

Warrier says that there is still a perception that the Canadian energy sector is marked by egress issues — getting oil to market — and relations with Indigenous groups when it comes to development in the sector. But that is starting to change. “I think we are well on our way to solving many of those issues,” he says, with the TransMountain Pipeline project “hopefully” having overcome its last legal hurdle.

In early July, the Supreme Court of Canada decided it would not hear an appeal from a group of First Nations in British Columbia — the Squamish Nation, Tsleil-Waututh Nation and Coldwater Indian Band — that had challenged the adequacy of Indigenous consultation around the federal government's approval of the pipeline.

This ruling is seen as a major win for the province and for the project, Warrier says, as it will nearly triple the amount of oil flowing from Alberta to the West Coast, and allow Canada to diversify its oil markets and increase exports to Asia. This would likely bring a better price for Canadian oil because right now, the vast majority of Canada’s it goes to U.S. refiners, where capacity limits mean it sells at a discount.

On the point of working with Indigenous groups, Warrier says there has been great progress in getting support for projects like TransMountain. In its decision, the Supreme Court noted that of the 129 Indigenous groups potentially affected by the project, 120 either support it or do not oppose it, and 43 have signed benefit agreements.

“We are trending in the right direction on these relations,” Warrier says, something that should spark greater interest in Canada’s oil sector.

Even more promising, Warrier says, there is increasing interest from Indigenous groups wanting to take an equity interest in energy projects, with several First Nations consortiums looking to buy TransMountain from the federal government.

He also pointed to the Alberta government’s new Alberta Indigenous Opportunities Corporation, which is designed to assist First Nations groups to invest directly as equity participants. Warrier says he is involved in one such transaction and sees the program as providing Indigenous investors with a long term source of revenue from the energy sector. “The Alberta government coming up with an agency to provide [First Nations] with access to capital has the potential to be transformational,” he says.

Other government initiatives to help energize the oil and gas sector include the government of Alberta’s program to provide royalty holidays to producers who are selling gas to a petrochemical facility that is developed in Alberta. This helps promote “value-added projects that provide long-term, sustainable jobs,” he says.

But Warrier says there is still much more room for government policy to help the oil patch recover. The federal government, could, for example, pull tax levers that would give companies a better ability to write off capital investment for high-cost technology investments, such as LNG facilities. “These types of investments would be incredibly helpful to stimulate investment in the sector.”

As for lawyers who are involved in M&A in the energy sector, Warrier says they need to be ready for the anticipated increase in activity and keep paying attention to what is happening in other markets. He adds that as more foreign capital comes back into the Canadian market, “we need to expect there will be modifications to how things have traditionally been done,” he says.

“We shouldn’t expect that incoming investors will just accept Western Canadian market practices. They will have their own views and they will have the leverage to put those views into action.”