Canada's Oil Firms Pull Back

NEW YORK (WALL STREET JOURNAL via Dow Jones Newswires), November 12, 2008

Canada's major energy companies are tightening their belts after a stellar earnings season, as the stresses in financial and commodity markets presage tougher times ahead.

Surging crude-oil prices buoyed profits for Canada's oil and gas producers during the third quarter, peaking near $150 a barrel in early July. Crude-oil prices started to slide soon afterward but still averaged more than 50% above year-ago levels, bumping up revenue even as output stalled or fell. Two of the country's biggest producers, Canadian Natural Resources Ltd. and Talisman Energy Inc., both saw their profits quadruple.

But companies are now looking to live within their means as executives predict a grimmer outlook for the current quarter and beyond. Oil prices crashed through the $100 level at the start of the quarter, quickly slumping below 2007 levels. Oil is now close to $60 a barrel, a level considered to be the break-even point for a wide spectrum of new oil projects.

Analysts reckon next year will be worse as recession fears crunch into already sluggish oil demand. UBS Securities expects crude-oil prices to average $60 a barrel in 2009, down from $100 a barrel this year.

"I think we've seen peak earnings, at least for a while," said Lanny Pendill, senior analyst at Edward Jones & Co. "Crude oil averaged $90 a barrel [in the fourth quarter of] last year and we're going to be below that -- it's just a question of how much."

Just as commodity prices boosted financial results on their way up, the current slump will likely be punishing for fourth-quarter earnings. And this will slice into the cash flow needed to fund existing operations and new projects, even as tightened credit markets make outside funding more difficult to come by and more expensive. For many companies, the obvious response is to cut spending to save cash.

Canadian Natural has nearly halved its 2009 expenditures to 4 billion Canadian dollars ($3.34 billion) while Suncor Energy Inc., Canada's second-biggest oil-sands producer, has slashed one-third off its budget, to C$6 billion. EnCana Corp., Talisman and Nexen Inc. have indicated they will also rein in spending next year.

Meanwhile, Canadian Oil Sands Trust, majority shareholder in the country's biggest oil-sands producer, has lopped 40% off its monthly distributions, to 75 Canadian cents, in an effort to maintain balance-sheet strength. An income trust, such as Canadian Oil Sands, is a Canadian investment vehicle that pays out most of its income to shareholders as monthly distributions in lieu of corporate taxes.

Others, however, sound more confident. Husky Energy Inc., which is controlled by Hong Kong billionaire Li Ka-shing, is under "no pressure due to liquidity or anything to map out our capital profile," Chief Executive John Lau said last month. ExxonMobil Corp. affiliate Imperial Oil Ltd. is also likely to push ahead with a major oil-sands development (last estimated at C$8 billion) early next year.

Both are virtually debt-free and so have a lot more freedom to funnel free cash to new projects or an opportune acquisition.

Mr. Lau said: "Husky's strong earnings and cash flow . . . [position] the company for further investment opportunities" while it sticks to its capital program and other financial commitments.

Even those with heavier debt burdens, such as Canadian Natural and Nexen, are keeping an eye out for a bargain.

The slide in oil prices could also spark some benefits for oil-sands developers in particular. Capital costs have rocketed in the past few years as companies rushed to build new projects, grappling with a limited and inexperienced labor force and soaring steel costs. Delays will eventually bring back some "normalcy" to Alberta's oil patch, Canadian Natural President Steve Laut said, but he warned: "If everybody then announces a project at the same time, costs will pick up again."

Integrated companies such as EnCana, Imperial and Petro-Canada may get a boost from their refining operations, which will benefit from lower crude-oil prices, Edward Jones's Mr. Pendill said, though refining margins still look weak going into the fourth quarter. Gasoline prices have plunged toward two-year lows on dismal demand forecasts.

EnCana could also be protected by the extensive hedges that hammered its profit earlier this year when oil prices soared.

Copyright (c) 2008 Dow Jones & Company, Inc.

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