The price of oil reached historic highs in March 2022 on the heels of geopolitical unrest between Russia—the world’s top exporter of oil and crude products—and Ukraine, breaching $126 USD per barrel at one point before dropping back. Historically, the Canadian dollar should have risen along with the barrel price, but this time around the loonie showed little to no impact—even as markets eyed Canadian oil and gas with more interest.
The lackluster response of the loonie to a surge in oil prices is a powerful statement for what has been described as a petrodollar. And, a strong indicator the era of oil and gas booms is over. For energy companies, paying down debt and delivering returns to shareholders continues to be the mantra of choice, particularly in light of volatile commodity prices.
Little interest in exploration and development
Market fundamentals of supply and demand have supported a welcome rise in energy prices over the past two years. But while oil prices and the loonie have gained strength since a low of $35 per barrel in early 2020, the trend has not seen a corresponding investment boost in the Canadian oilpatch.
Most producers have put the additional cash flow brought on by higher prices back into their company, to shareholders through dividend increases, or have been paying down debt. Capital expenditures have increased but not proportionate to the rise in crude oil prices. Companies have not increased budgets, bumped up drilling, or invested in land sales (which have been negligeable on lower demand, higher costs and transportation bottlenecks).
Technology also has played a strong role in dampening oil and gas activity in Canada. The number of rigs used to extract oil and gas has dropped significantly over the past decade, with one deeper, longer horizontal well producing more volume than several wells drilled with old technology.
And even though the rig count in Canada doubled in March 2022 from a year prior, to 217 rigs, numbers are still low. In western Canada, the uptick in service rig activity has been driven primarily by higher commodity prices, but also by $1.4 billion in grants and loans targeting oil and gas well site rehabilitation from 2020 to 2023.
What is brightening the horizon for the service industry in particular is technology; drilling and service rigs are being pulled in for geothermal exploration. Tapping into the heat of the earth’s core to create electricity is one driver, extracting lithium, a key component of electrical batteries, from the vast amounts of water produced with geothermal is another.
However, a poor investment climate is making it harder to get financing from banks or to raise new equity. At the same time, the Bank of Canada has started raising its interest rate after siting at historic lows for two years, with an eye on dampening inflation.
The tight financial market appears to be entrenched, making frugality an even more valuable trait for energy company executives and managers. Rising interest rates will see debt servicing costs increase at the same time, creating an environment where cleaning up balance sheets becomes even more important to sustaining operations. Stronger cash flow can also be used to buy back shares, bring back or increase dividends to keep or attract more investors—or tap into opportunities to sell the business.
David Hammermeister, CPA, CA, is a Partner with national accounting and business consulting firm MNP. For almost 30 years, David has delivered effective business solutions to clients in the oilfield services and agriculture sectors, helping them overcome challenges and seize opportunities. For more information, contact David at 306.637.2310 or at email@example.com