United States and China are after oil sands

Sep 24, 2005 02:00 AM

Chinese President Hu Jintao arrived in Ottawa for a four-day visit to Canada. Hu's visit came on the heels of US Treasury Secretary John Snow's survey of Alberta's oil-producing regions. Those visits by representatives of the world's two largest energy consumers highlighted Canada's emerging position as a key "low risk" oil and gas supplier.
Since Canada's oil sands reserves were officially recognized in 2003, international interest in these assets has gathered momentum. Estimated at 180 bn barrels, Canadian oil resources are second only to Saudi Arabia. Development that was begun timidly decades ago by Great Canadian Oil Sands (now Suncor Energy) today includes dozens of players.

This enormous resource is located on the North American continent, in a politically stable country and reaches the market via a fully integrated infrastructure of pipelines and refineries. From a risk management perspective, these elements make including Canadian oil sands assets in a company's global portfolio very attractive. However, the number of players involved hides the fact that production from oil sands tends to be concentrated.
There are two methods of oil sand production: mining and "in situ." The mining approach excavates the oil sand, removes it by truck and separates the bitumen from the sand by adding warm water and agitating it. In contrast, the in situ process removes the oil from the sand underground through a variety of methods, such as cyclic steam stimulation or steam-assisted gravity drainage. Once the bitumen has been extracted it is either diluted and refined or upgraded into synthetic crude oil. These production methods are extremely resource- and manpower-intensive -- and consequently expensive.

Investment in "unconventional" production and Canadian oil sands has the potential to change the North American supply curve. To date, most oil production has come from conventional sources. In contrast, unconventional supply will come in very large increments. This trend is positive from an investment and production perspective. However, the short-term supply curve may encounter significant interruptions while new production comes on stream.
Given the potential for a relatively stable and high-volume supply, it is not surprising that the United States and China have significantly increased their interest in Canada's oil sands. However, Washington and Beijing have adopted different approaches:

China.
Despite talk in 2004 of massive Chinese investment, what has actually materialized is a very measured and careful approach to the entire value chain. This strategy developed in response to the adverse reaction China encountered when it attempted to take control of large resource companies.
China's new strategy involves taking minority positions in private companies. As minority owners, Chinese companies can tap business expertise and technology without causing controversy or undesirable government interference. In 2005, there have been three major Chinese investments in the sector.

United States.
High-ranking US officials have only recently shown interest in oil sands. However, US companies have long been major players and are increasing their stakes. ExxonMobil and its subsidiary Imperial Oil have the most prominent presence in the sector. Recently, more US companies have bought into the sector.
Canada's potentially immense resources give it the upper hand in the North American energy market. Given the importance of energy supply for the stability of the world economy, this advantage could translate from economic benefit into political power.

However, competition for the fruits of this growing wealth has the potential to destabilize the Canadian political system:

Provincial power.
Ottawa may have a difficult time leveraging its oil wealth in foreign policy, because provincial governments own the resources.

Uneven growth.
Economic gains from the oil sands boom are concentrated in the Canadian west. The negative impact of increasing energy costs and a slowdownin the automotive sector will be mostly felt in the Canadian east, particularly Ontario.

Canada is set to gain from its position as North America's premier oil supplier and one of the world's most stable exporters.
However, federal-provincial relations will need to be expertly managed in order to avoid an increase in political acrimony over oil revenues and, consequently, in investor risk perception.

Source: Oxford Analytica
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