11 canadian oil and gas bus 417: group presentation mahmoud houshmand francis santos ian graf...

11Canadian Oil and Gas

BUS 417: Group Presentation

Mahmoud Houshmand Francis Santos

Ian Graf

November 10, 2004

The Canadian Oil and Gas Industry


Presentation Overview

Industry Analysis Industry Analysis and Regulation: Ian Supply and Demand: Mahmoud Oil Extraction and Refining Explained: Francis

Company Analysis and Recommendations Canadian Oil Sands: Mahmoud Petro-Canada: Ian Suncor: Francis


Industry Analysis


Industry Analysis Agenda

Industry Structure Products Regulation Supply and Demand Brief Overview of Oil Extraction and Refining


Industry Analysis

Canadian industry produced $77.5 billion in revenues in 2003

Canada is 3rd largest producer of natural gas in the world 9th largest producer of crude oil

Canadian upstream sector is largest single private investor


Industry Analysis

In 2003, the industry contributed approx. $16 billion to government revenues

Crude oil & natural gas trade surplus responsible for 57% of the country’s 2003 merchandise trade balance

Canada responsible for over 20% of North America’s crude oil and natural gas

However, we only consume 10%

Industry’s total 2003 employment impact was measured at 500,000


Industry Structure

Industry consists mainly of miners & drillers, refiners, and retailers

Many businesses take an integrated approach and are involved in all aspects

Business is done locally and south of the border; utilize cross-border pipeline to distribute oil

Country’s largest source of crude oil is the Canadian Oil Sands

American VP Dick Cheney described Canada’s oil sands as a, ”pillar of North American energy and economic security.”


Industry Structure

Mergers & acquisitions are frequent

Recent growth in royalty trusts (unit trusts)

Highly regulated by Canadian government

Affected by volatile oil prices, interest rate fluctuations, international events


Industry Structure

Largest Canadian Oil & Gas Companies (in alphabetical order): Albian Sands Energy Inc. Canadian Natural Resources Ltd. Canadian Oil Sands EnCana Corporation Husky Energy Inc. Imperial Oil Resources Ltd. Petro-Canada Shell Canada Ltd. Suncor Energy Inc. Syncrude Canada Ltd.


Products

Crude oil Refined to create petroleum gas, gasoline, kerosene, lubricating

oil, industrial fuel, residuals

Natural gas Used commercially, residentially, in fuel cells, building block for methanol

which has many industrial purposes

Ethanol Normally made from fermentation process but is cheaper when

processed from petroleum feedstock

Green Energy Sources Wind energy


Regulation

Four intertwining levels; municipal, provincial, national, & international

Constitution Act 1982 gives jurisdiction to provinces over natural resources

Natural Energy Board (Fed body) has control over movement of oil & gas, taxation, and tariffs

Department of energy collects royalties on behalf of the province Companies must adhere to applicable provincial environmental

acts and involve the public in process Extraction limits OSC requires companies to declare their reserve levels every 90

days Controls to reduce emissions Kyoto Accord Sept 11th called for increasing security of pipelines


Crude Oil : Supply

World Crude Oil Production By Region


Crude Oil : Demand


Crude Oil : Exports

Crude oil exports have been growing in North America


Canadian Crude Oil : Supply

Second largest crude oil reserves after Saudi Arabia Canadian oil sands contains 175 billion barrels of oil reserves 420,000 barrels of crude have been approved off Canada’s east

coast


Canadian Oil Production & Consumption


Natural Gas : Reserves


Natural Gas : Supply


Natural Gas : Demand


Refined Products


Crude Oil Prices


Price of Oil Futures: One Year Chart


Oil Extraction

Canadian Oil Sands

1. Mining: Oil that is near the surface can extracted using traditional

techniques

2. SAGD: Steam Assisted Gravity Drainage Because of the rising prices of natural gas, crude producers are

moving towards using bitumen or high sulphur fuels to generate steam.

Natural Gas Wells are drilled and gas flows under its own pressure.


Oil Refining

Steps

1. Fractional Distillation

2. Conversion

3. Recombination

4. Treatment


Canadian Oil Sands


Company Background Core Business Business Strategy Hedging Strategy Financial Statement Analysis Stock Price Performance Recommendation

Canadian Oil Sands Agenda


Background

Canadian Oil Sands acts as a middleman between oil producers

and pipeline operators. Takes possession of the oil and markets it to pipelines

Generates income from a 35% interest in the Syncrude operation in

the Alberta Oil Sands. Largest pure-play investment opportunity in Oil Sands.

Organized as an Open-Ended Investment Trust.

Currently has approximately 91.1 million units outstanding.

Traded on TSX (Ticker COS.UN)

Market Capitalization of approximately $5.8 Billion

Distributions in 2003 totaled $2.00 per unit


Core Business

Income trusts are equity investments designed to deliver cash flows from operations to shareholders in a tax-efficient manner. Reduces double taxation of income.

Core business is marketing oil from its 31% share of Syncrude oil. Pure-play oil company. Revenues derived solely from selling crude oil.


Business Strategy

Expand Syncrude Production Capacity Expansion began in 2001. Expected to boost current production by 50% to approximately 350,000

barrels per day – 124,000 barrels per day net to Canadian Oil Sands Trust. based on its interest.

Product quality will also be enhanced to Syncrude Sweet Premium (SSP).

The total capital budget for the expansion is estimated at $7.8 billion, or approximately $2.8 billion net to the Trust.

It is expected to be in-service by mid 2006.


Corporate Value Drivers

Increase production capacity from existing assets.

Reduce operating costs of existing assets through economies of scale and by upgrading process technologies.

Increase reserves (asset base) by pursuing new developments.


Reserves

Very long-life reserves compared to industry

average. Thus, disbursements in income trust are quite safe.


Factors That Affect Financials

Ongoing volatility of CDN/US exchange rates Ongoing volatility of global and North American oil markets New introduction of crude oil supply to North America Ongoing variability in refining & retail margins Unscheduled maintenance shutdowns Oils Sands Alberta Crown Royalties Suncor ability to compete for projects Extreme cold weather in 4Q


Hedging Strategy

Value of revenues is dependent on: Price of crude oil

Exchange rate with USD

Interest rate on debt

Crude Oil Hedging Lost $82M in revenues in Q3 2004 ($10.22 per barrel).

YTD 2004 – have incurred a $182M loss.


Hedging Strategy (continued)

Crude Oil Hedging (continued) As the funding requirements for expansion diminish (and balance sheet

becomes stronger due to Stage 3 revenues), they intend to reduce crude

oil hedging

Foreign Exchange Hedging

Q3 2004 made $3M in foreign exchange hedging ($0.39 per barrel).

Interest Rate Hedging Impact cash flows based on amount of floating rate debt that is

outstanding.


Consolidated Balance Sheet


Balance Sheet Analysis

The trust increased its capital assets by $2.5 billion during 2003 (stage 3 expansion).

Capital assets are recorded at cost and include the costs of acquiring the working interest and subsequent additions to property, plant, and equipment.

In February 2003, the trust gained $ 732 million in new equity to finance a significant portion of the 10 percent working interest in Syncrude from EnCanca. In July 2003, an additional $220 million was raised.

The long term debt increased by $ 810 million.


Consolidated Statement of Earnings


Income Statement Analysis

Revenues higher due to increased oil prices. Operating expense increased by $ 200 million mainly because

of an unplanned coker turnaround and expended maintenance work. Coker : Vessels in which bitumen, the molasses-like substance that

comprises up to 18% of oil sand, is cracked into its fractions and from which coke is withdrawn to start the process of converting bitumen to upgraded crude oil.

Coker maintenance resulted in a 24 cent increase in operating cost per barrel in 2003.

The trust lost $135 million as a result of hedging.


Stock-based Compensation

Before Q3 of 2003, Canadian Oil Sands recorded no compensation costs for unit options granted to its employees and directors.

The Canadian Institute of Chartered Accountants modified the rules for stock-based compensation program.

During the third quarter of 2003, Canadian Oil Sands adopted the fair-value method of accounting for stock based compensation.

Compensation costs of $0.6 million have been included as Administration expenses in the company’s net income.


Statement of Cash Flow


Cash Flow Statement Analysis

Free cash flow amount to –2 billion dollars for 2003, due to the acquisition of Syncrude working interest.

On February 28, 2003, Canadian Oil Sands closed the acquisition With EnCana Corporation to purchase an indirect 10 percent working interest in Suncrude for approximately $1.05 billion cash

On July 10, 2003, Canadian Oil Sands purchased EnCana’s remaining 3.75 percent interest in Syncrude for $430 million cash

The acquisition is treated as a purchase of asset under GAAP

Cash flow from operating activities decreased due to a $147 million foreign exchange loss on long-term debt


Canadian Oil Sands

Present Day

Industry Average

Present Day

Price to Earnings 11.20 21.90

Dividend Yield 3.58% 2.10%

Price to Book 2.01 2.10

Debt to Equity 0.69 0.89

Financial Strength Ratios


Stock Price Summary

Traded on TSX Symbol: COS.UN

Current Price $55.79 CDN

91.1 million units outstanding

Market Capitalization of approximately $5.1 Billion

Current Price:

55.79

Change:

-0.61

Open: 56.38

High: 56.38

Low: 55.40

Volume: 311,590

Percent Change: -1.08%

Yield: 3.58%

P/E Ratio: 11.23

52 Week Range: 38.65 to 65.65


Stock Price Performance: One Year Chart


Stock Price Performance: Five Year Chart


Stock Price Performance Vs. Oil & Gas Index: One Year Chart


Recommendation

BUY


Petro-Canada


Petro-Canada Agenda

Company Background Management Team and Executive Compensation Core Business Units Business Strategy Corporate Value Drivers Reserves Hedging Strategy Financial Statement Analysis Stock Price Performance Recommendation


Company Background

Petro-Canada was established in 1975 as a Crown Corporation Privatized in 1991; final government stake sold in September 2004

One of Canada’s largest integrated oil and gas companies Produces 464,500 barrels of oil equivalent per day (2003) Earnings from operations (2003): $1.6 Billion More than 4,500 employees across Canada and internationally

Publicly traded on TSX (PCA) and NYSE (PCZ) Stock price of $63.60 (Friday close) 262,100,000 shares outstanding Net capitalization exceeding $16 Billion

Headquartered in Calgary, Alberta *All dollar figures in CDN dollars


Management Team

Ron A. Brenneman, President & CEO. CEO since 2000. Over 30 years of experience in the oil industry. Past

CEO of Esso Benelux and past president of Imperial Oil.

Harry Roberts, Senior VP & CFO. 15 years experience with Petro-Canada and 15 years experience

working in the financial industry.

Kathleen E. Sendall, Senior VP for North American Gas. Over 25 years experience with Petro-Canada.

Gordon Carrick, VP for East Coast Oil. Over 25 years experience in the oil industry; 23 with Petro-Canada.

Brant Sangster, Senior VP for Oil Sands. Over 35 years experience in the oil industry; over 20 with Petro-Canada.


Management Team (continued)

Peter S. Kallos, Executive VP for International. Over 20 years experience in the oil industry. Joined Petro-Canada in

2003.

Boris Jackman, Executive VP for Downstream. Over 10 years experience with Petro-Canada.

Common thread amongst senior management is their extensive experience with the company.

Philip Fisher’s Four Dimensions - The “People Factor” “Attention must be paid to attracting competent managers at lower levels

and to training them for larger responsibilities. Succession should largely be from the available talent pool.” (p. 379)


Executive Compensation

Base salary Competitive pay based on comparator group of companies.

Annual performance incentives Based on degree of achievement of specific predetermined corporate,

business unit, and individual objectives. Executives may choose to receive all or part of incentive in stock.

Stock options Annual awards of stock options link compensation to creation of

shareholder value.

“During the fourth quarter of 2003, the Company elected to begin prospectively expensing, effective January 1, 2003, the value of stock options pursuant to transitional accounting provisions. As a result, the fair value of stock options granted during 2003 is being charged to earnings over the vesting period with a corresponding increase in contributed surplus. The effect of this change for the year ended December 31, 2003 was a decrease in net earnings of $9 million.”


Executive Compensation (continued)


Core Businesses Units

North American Gas Explores for, produces, and markets natural gas. Exploration operations in Western Canada (Alberta, Northeastern BC). Produces 132,300 BOE per day (28% of company total)

East Coast Oil Explores for, produces, and markets oil from offshore Newfoundland

(Terra Nova, Hibernia). Produces 86,100 BOE per day (19%)

Oil Sands Heavily involved in Alberta’s oil sands. 100% interest in the MacKay River operation and 12% interest in

Syncrude operation. Produces 36,100 BOE per day (8%)


Core Businesses Units (continued)

International Explores for, produces, and markets oil and natural gas from Northwest

Europe, North Africa/Near East, and Northern Latin America. Produces 210,000 BOE per day (45%)

Downstream Operations Refining

Converts crude oil into refined products (gas, diesel, lubricants). Controls 17% of Canada’s refining capacity.

Marketing Markets petroleum products and services nationwide in Petro-Canada service

stations. Second largest marketer of refined petroleum in Canada (17% market share).


Contribution of Business Units (Production - BOE/d)

International45%

North American Natural Gas

28%

East Coast Oil19%

Oil Sands8%


Contribution of Business Units (Earnings)

East Coast Oil36%

North American Natural Gas

31%

International18%

Downstream Operations

15%

*In 2003 the Oil Sands business earned a loss of 50M (–3%)


Business Strategy

North American Gas: Strategic Goals Maximize profitability in Western Canadian properties by increasing

exploration and drilling in core areas. Future Action: Focus exploration and drilling in core areas.

Pursue high-potential exploration plays such as the Mackenzie Delta, Alaska, and offshore Nova Scotia. Future Action: Continue to evaluate Mackenzie Delta and Alaska properties in

preparation for future pipeline construction. Pursue market expansion into liquefied natural gas (LNG)

Future Action: Commence construction on LNG facility in Cacouna, PQ; agreement to import LNG from Russia


Business Strategy (continued)

East Coast Oil: Strategic Goals Expand oil production base in offshore Newfoundland.

Future Action: Continue evaluating growth opportunities in Terra Nova and Hibernia.

Pursue high-potential exploration plays Future Action: Continue White Rose development, targeting start-up in early

2006.



Oil Sands: Strategic Goals Continue developing reserves as market condition evolve. Expand Syncrude operations.

Future Action: Continue third phase of Syncrude expansion. Expand and upgrade refining capabilities.

Future Action: Commence improvement of Edmonton refinery from conventional crude oil refinery to bitumen refinery.

International: Strategic Goals Continue developing existing International reserves.

Future Action: Continue exploration in the U.K./Netherlands North Sea. Target new theatres of operations.

Future Action: Where attractive, bid on Middle East developments.

Downstream Operations: Strategic Goals Focus on generating superior returns by leveraging brand strength


Reserves

Evaluating natural resource companies must

take into account their ability to replenish

their assets.

Petro-Canada boasts 1.220 Billion BOE in

proven reserves. At current production this will last 7 years.


Ongoing volatility of CDN/US exchange rates Ongoing volatility of global and North American oil markets New introduction of crude oil supply to North America Ongoing variability in refining & retail margins Unscheduled maintenance shutdowns Oil Sands Alberta Crown Royalties Ability to compete for projects Extreme cold weather in 4Q

Cannot produce in very cold temperature

Factors that Affect Financials


Hedging Strategy

Commodity Prices Significant risk exposure to price of crude oil and natural gas. Petro-Canada typically does not hedge this exposure.

Foreign Exchange Petro-Canada’s expense and revenue streams are highly affected by the

CDN/USD exchange rate Partially offset because of integrated business; however, earnings are

negatively affected by the strengthening CDN dollar. Petro-Canada does not hedge this currency exposure.


Balance Sheet


Balance Sheet (continued)

Assets Increase in cash on hand by $400M; sign that company is not rushing into

imprudent investments.

Property, plant, and equipment form more than two-thirds of asset value. Very capital intensive.

Goodwill increased due to the acquisition of International oil and gas produced Veba Oil & Gas GmbH.



Liabilities Current portion of long-term debt decreased by $350 million Overall long-term debt decreased by $500 million

Cancelled loans outstanding to provide acquisition credit for Veba Oil & Gas GmbH.

Also, this is a sign that the company is plowing exceptional earnings into actively recalling debt.



Equity Increased by $2 Billion in 2003; almost all attributable to increase in retained

earnings Retained earnings increased by $1.5 Billion dollars per quarter. Since dividends increased as well (from $0.10 to $0.15 per share), we know

that the increase in retained earnings is due to higher profits


Income Statement


Income Statement (continued)

Revenue Dramatic increase in revenues from 2002 to 2003.

Expanded operations Higher oil prices

YTD 2004 revenues are $10,880M.

Expenses Crude oil purchases (sell their own crude oil, buyback crude oil for

refining closer to distribution points). Exploration expense decreased slightly year-over-year.

Earnings Increase in net earnings and EPS is a function of high oil prices in

conjunction with the fact that Petro-Canada does not hedge commodity prices.


Statement of Cash Flows


Statement of Cash Flows (continued)

Property, Plant, and Equipment Spent $500M on PPE during 2003 – large increase in International

investment



Free Cash Flow: CFO – CFI

YTD 2004 FCF negative due to acquisition of Prima Energy Corporation ($644M).

2002 FCF negative due to acquisition of Veba Oil & Gas GmbH (spent $2.2 Billion) Growth of acquisition helped fuel high cash flow in 2003

YTD 2004 2003 2002 2001

Free Cash Flow -$239 $1,005 -$2,107 $275


Petro-Canada

Present Day

Industry Average

Present Day





Earnings per Share 5.63 4.30



Stock Price Summary

Stock Price (Friday Close) $63.60 CDN (TSX) $53.10 USD (NYSE)

TSX Data for Friday, November 5th

Last Traded: $63.60 Net Change: -$0.74 (-1.15%) Volume: 1,858,222 52 Week High: $70.40 52 Week Low: $54.50


Volume 1,913,600 P/E 11.90

52-Week High 70.400 IndicatedAnnual Div.

0.60

52-Week Low 53.800 Yield 0.94

C$ 63.600 Net Change: C$ -1.150 % Change: -1.15%

Stock Price Summary (continued)


Stock Price Performance: One Year Chart

*Based on TSX Data (CDN dollars)


Stock Price Performance: Five Year Chart

*Based on TSX Data (CDN dollars)


Stock Price Performance Vs. Oil & Gas Index: One Year Chart

*Based on NYSE Data (PCZ and Oil & Gas Index)


Stock Price Performance Vs. S&P 500: One Year Chart

*Based on NYSE Data (PCZ and S&P 500)


Recommendation

BUY


Suncor Energy


SunCor Agenda

Company Background Management Team Core Business Segments Business Strategy Corporate Value Drivers Reserves Hedging Strategy Financial Statement Analysis Stock Price Performance Recommendation


Company Background

Suncor Energy is an integrated energy company. Formed in 1979 as a result of an amalgamation of several

operations.

Focused on developing the Athabasca Oil Sands: one of the world’s largest petroleum resource basins. 2004 YTD earnings are $337 million. Produces 264,900 barrels of oil per day 4,000 employees

Listed on both the TSX and NYSE (Ticker SU). $39.88 CDN per share (Tues close) 453,420,617 shares outstanding Net capitalization exceeding $18 Billion CDN

Headquartered in Calgary, Alberta.


Management Team

Richard L. George, President and CEO 23 years experience at Suncor; 13 years as CEO.

J. Kenneth Alley, Sr. VP and CFO 19 years experience at Suncor.

Steven W. Williams, Exec. VP, Oil Sands Over 20 years of international energy industry experience.

David W. Byler, Exec. VP, Natural Gas & Renewable Energy 24 years experience at Suncor.

Thomas L. Ryley, Exec. VP, Energy Marketing and Refining 20 years experience at Suncor.

M. (Mike) Ashar, Exec. VP, Refining and Marketing USA 16 years experience at Suncor. Previous experience with Petro-Canada.


Management Compensation


Core Business Segments

Oil Sands Operating in Canada’s Athabasca Oil Sands, Alberta Oil is part of bitumen; can be extracted by mining and by in-situ (onsite) Surface mines produce majority of crude oil but in-situ processes are

expanding

Natural Gas Extracted through pressurized wells

Energy Marketing & Refining (Canada) Refine bitumen feedstock and natural gas and market it to customers in

Ontario, Quebec, Northeastern USA Sunoco chain of service stations in Ontario Refinery based in Sarnia, Ontario


Core Business Segments (continued)

Energy Marketing & Refining (USA) In August 2003, Suncor acquired a Denver refinery and 43 Phillips 66

service stations. Expansion gives Suncor greater ability to move oil products to

American markets.

Renewable Energy Two projects in Canada


Contribution of Business Units (Earnings)

Oil Sands81%

Natural Gas & Renewable Energy

12%

Energy Marketing & Refining (Canada)

5%

Energy Marketing & Refining (USA)

2%


Business Strategy

Athabasca Oil Sands Next major goal is a targeted production capacity of 260,000 bpd by

late 2005 Focus on efficient operations and management to maintain low crude

oil production costs Suncor continually will pursue new technology that will reduce operating

costs and environmental impact- Expanding oil sands operation is a priority- Planned 2007 expansion of Steepbank Mine, Fort McMurray, Alberta- Expansion of the second upgrader along with a third one on 2010- Maintain oil sands cash operating costs at an annual average of $10.75 to $11.75 per barrel



Natural Gas Suncor has found a solution to deal with high natural gas prices Strategy is to exceed natural gas purchases for internal consumption Functions as a price hedge

Energy Marketing & Refining (Canada) Project Genesis: Sarnia refinery is investing in equipment to produce

lower sulphur diesel Helps to increase company’s ability to manufacture

environmentally friendlier products to meet demand

Energy Marketing & Refining (USA) Looking to further integrate products and services within the

US, branching out from Denver, Colorado.






Be a first-mover in new energy technologies such as wind.


Reserves

Company has an estimated 12 billion barrels of crude on hand that can be refined to produce approximately 10 billion barrels of oil. At current production this will last 10 years.


Factors That Affect Financials

Ongoing volatility of CDN/US exchange rates Ongoing volatility of global and North American oil markets New introduction of crude oil supply to North America Ongoing variability in refining & retail margins Unscheduled maintenance shutdowns Oils Sands Alberta Crown Royalties Ability to compete for projects Extreme cold weather in 4Q


Hedging Strategy

Commodity Hedging Activities Company utilizes commodity based forwards, futures, swaps and

options. Board authorized the hedging of 35% of crude oil volume in 2004 and

up to 30% for 2005-2007. In 2003, hedging reduced net earnings by $155 million. As of Q1, 2004, the BoD suspended the crude oil hedging program and

no new contracts were entered in Q2 or Q3.

Financial Hedging Activities Employs interest rate and cross-currency swaps Interest rate swaps involve the exchange of floating rate and fixed rate

interest payments Cross-currency swaps involve the exchange of CDN dollar interest

payments and US dollar interest payments, and an exchange of the principal amounts at the maturity date of the underlying security.


Hedging Strategy


Income Statement


Income Statement (continued)


Balance Sheet



$1 Billion increase in PPE during 2003 due to acquisitions



Retained earnings went up by $ 1 billion and dividends have remained fairly stable

We can infer that Suncor is pumping most of their money back into the company


Statement of Cashflows



Free Cash Flow: CFO – CFI

2003 FCF fell from 2002 due to investment in new refinery and new retail stations & business

2001 FCF negative due to a large restructuring of natural gas business

YTD 2004 FCF was not as drastically improved by high oil prices because Suncor invested a large amount in upgrading and expanding their extraction and refining operations as well as opening a new wind power facility

YTD 2004 2003 2002 2001

Free Cash Flow $338 $516 $595 -$868



SunCor

Present Day

Industry Average

Present Day





Earnings per Share 2.42 4.30


Income Statement YTD


Balance Sheet YTD


Statement of Cashflows YTD


Volume 617, 100 P/E 16.40

52-Week High 44.49 IndicatedAnnual Div.

0.24

52-Week Low 27.00 Yield 0.60

C$ 39.68 Net Change: C$ -0.02 % Change: -0.5%

Stock Price Summary (continued)


Stock Price Performance: One Year Chart (TSX)


Stock Price Performance: Five Year Chart (TSX)


Recommendation

BUY


Summary


Summary

BUYBUYBUY


Questions

11 canadian oil and gas bus 417: group presentation mahmoud houshmand francis santos ian graf...

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