The capital spending drought in the Canadian oil patch looks headed for a second successive year, as weak commodity prices, shrinking cash flows and an uncertain future have oil executives set to tighten budgets again in 2013.
An analysis of expected cash flow trends, provided to The Globe and Mail by energy-focused asset manager ARC Financial Corp. of Calgary, points to a 15-per-cent decline in cash flows for the Canadian oil and natural gas sector next year, based on the market's price expectations next year. Since capital expenditure budgets have historically moved proportionately with cash flow changes, the outlook suggests a "10 to 15 per cent" decline in capital spending is likely, said Peter Tertzakian, ARC's chief energy economist.
That's on top of a decline of nearly 20 per cent in 2012, which left the sector's capital spending at its lowest levels since 2005. If the forecast is accurate, capital spending could be as low as $42-billion next year – about $20-billion less than the industry spent as recently as 2011.
The slowdown has already begun, as some of last week's earnings reports from senior oil companies showed. Suncor Energy Inc. slashed 11 per cent, or $850-million, from its 2012 budget, while Talisman Energy Inc. reduced its 2013 capital budget by 25 per cent, or about $1-billion, from 2012 levels. This could prove just the tip of the iceberg, as most oil and gas companies won't unveil their 2013 budgets until December and January.
The slowdown in spending is also wearing on the broader Canadian economy – where up until this year the energy sector was considered a key driver of the post-recession growth recovery. Oil and gas accounts for roughly 13 per cent of all Canadian capital expenditures. A slowdown in oil and gas extraction was a major contributor to last week's disappointing Canadian gross domestic product report for August, which showed that GDP fell 0.1 per cent in the month. Monday's reported 13-per-cent slump in September building permits was also coloured by the drop in oil and gas spending; industrial permits tumbled 52 per cent, driven largely by the component of that measure that includes oil and gas processing facilities.
Douglas Porter, deputy chief economist at BMO Nesbitt Burns, said the resource sector's contribution to GDP growth in recent years had more to do with strong commodity prices than with actual output growth. Now, with those prices generally weakening for most commodities (including oil), output constraints are moving to the forefront. Resource output is down nearly 4 per cent over the past 12 months.
"We've seen both output and capital spending decline hand-in-hand," he said.
Mr. Tertzakian said the spending slowdown goes beyond weak commodity prices. It is also an extension of the profound "changing of the fundamentals in the industry," which he called the most significant "in 50 years" – changes that are making energy executives think long and hard about spending commitments on major projects.
Over the past several years, the meteoric rise of shale gas has rewritten the economics of the natural gas industry. Now, oil may now be embarking on a similarly dramatic surge, from unconventional light oil development – which, like shale gas, involves using advanced technologies to unlock oil from shale and similar difficult-to-access rock formations. For Canadian oil sands projects in particular, the advent of so-called "light tight oil" plays raises a major alternative to the high cost and long time lines of oil sands – and will force many companies to re-evaluate their long-term strategies.
Toss in the growing debate over such issues as revolutionary new pipeline options, Asian markets and the potential of liquefied natural gas plants, and the landscape of the industry could look drastically different over the next few years, Mr. Tertzakian said. And 2013 "is going to be a pivotal year" in this process, he argued.
Mr. Porter predicted that underlying commodity prices should recover in 2013 as the global economy finds better footing, but he's not convinced capital spending will bounce back along with prices.
"It might take longer before we see a turn in capital spending. This won't turn on a dime," he said. "[Companies] have to be convinced that the global economy has turned the corner for good."