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Executives

Ken Hall – Sr. Director IR

Ron Brenneman – President & CEO

Harry Roberts – EVP & CFO

Analysts

Brian Dutton - Credit Suisse

Arjun Murti – Goldman Sachs

Barbara Betanski – UBS

Terry Tait – The National Post

Nathan Vanderklippe – The Globe and Mail

Dina O’Meara – The Calgary Herald

Linda Swain – VOCM

Petro-Canada (PCZ) Q2 2009 Earnings Call July 30, 2009 9:00 AM ET

Operator

Welcome to Petro-Canada's second quarter earnings release conference call. Please note today's comments contain forward-looking information so actual results may differ materially from expected results because of various risk factors. These factors are described in Petro-Canada's quarterly release and annual filings which are available on CEDAR, EDGAR, and the company's web site.

I would now like to turn the meeting over to Mr. Ken Hall, Senior Director of Investor Relations. Please go ahead Mr. Hall.

Ken Hall

Good morning everyone and thanks for joining us. On the call this morning are our President and CEO, Ron Brenneman and our Executive Vice President and Chief Financial Officer, Harry Roberts. The format for our call will that Ron and Harry will provide their perspectives and then we will open up the lines for questions first to analyst and then to the media.

With that, I will turn it over to you Ron.

Ron Brenneman

Thank you Ken and good morning. Well we’re now on the final leg to completing our merger with Suncor and I know that your interest and ours is as well, is probably more focused on the future right now then on the past so I do want to thank you all for joining us for this last quarterly call.

Not surprisingly our strategy for this quarter has been to stay the course that we chartered for ourselves at the beginning of this year so that we’re in a strong position heading into the merger.

Our first priority was to achieve operational excellence in our base business. Strong reliability at our major upstream facilities in Q2 kept our production on track with guidance. MacKay River operations remained excellent in the second quarter with reliability at 96%, production averaging over 28,000 barrels a day.

Terra Nova reliability was 93% and reliability at our natural gas operations in Western Canada continued in the 99% range. Our second priority was to maximize cash flow in order to preserver our strong liquidity position and we were also able to achieve this in the second quarter.

Our East Coast, international and downstream businesses all generated reasonable cash flow in Q2 despite the current downdraft in the economy. This together with reductions in our capital spending below what we indicated in April, has us in a strong liquidity position going into the merger.

Our third priority was to maintain growth by appropriately pacing our three sanctioned projects; the White Rose extensions, the Libya EPSAs, and the Syria gas project. White Rose drilling has been slightly delayed because of weather, it’s been a late iceberg season off the East Coast.

And we’ve curtailed some spending in Libya because of OPEC cutbacks. But the Syria gas project remains on track for start up in the middle of next year. I’m going to pass it over to Harry now for a word about our financial status and an update on merger planning.

Harry Roberts

Thanks Ron, Petro-Canada was able to maintain its strong liquidity position during the second quarter. We did not draw on our committed bank lines in the second quarter and our unused credit facility totaled about $4.7 billion.

With a strong balance sheet, low debt ratios and diverse businesses able to generate stable cash flows we’re in a good financial position heading into our merger with Suncor. Before moving on I wanted to give you a quick merger update.

I’ve had the opportunity to co-lead the integration planning needed to bring Petro-Canada and Suncor together when the merger becomes effective August 1. I am pleased to report that plans are proceeding well. We are on track to ensure safe, reliable operations on the first business day immediately following merger close.

Moreover we are working on the 100 day plan as we call it for the merged company which includes planning for capture of merger synergies. Back to you Ron.

Ron Brenneman

Thanks Harry. We’re now intending that the merger will become effective on August 1, which is this Saturday and as Harry mentioned a lot of planning work has been done to enable the new company to move very quickly after the deal is completed.

Petro-Canada’s track record of reliable and safe operations has led to this terrific value creating opportunity. Underpinning it all is our successful strategy which focused on first improving base business profitability and driving for first quartile performance. Second taking a disciplined approach to profitable growth by accessing new opportunities with a focus on long-life assets, and third by maintaining a very strong balance sheet through a range of business environments.

I want to thank employees for executing this strategy successfully. They have exhibited the operational and financial discipline on the company that has led to this next step in Petro-Canada’s evolution.

The merger announcement clearly unlocks some of the value the market was not attributing to Petro-Canada shares and there’s more value to be realized for shareholders who choose to stay with this new premier company.

Just before we go to questions, I would like to say how much I have appreciated our relationship over the past nine and a half years, with our shareholders for your support, and with analysts and media for your coverage.

We didn’t always agree but we were listening and your comments were certainly helpful in providing an external perspective. Back to you Ken.

Ken Hall

Thanks Ron, I’d like to ask callers to keep questions at a strategic or operational level. After the call Lisa McMahon and I would be happy to answer any of your modeling questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Brian Dutton - Credit Suisse

Brian Dutton - Credit Suisse

Looking at the downstream I was wondering if you could give us some insights on two fronts, one where you saw or see the downstream business going over the next several months and two if you could also give us some insight into the opportunity that you think your Petro-Canada downstream business brings to the new merged Suncor.

Ron Brenneman

Maybe just as a bit of background I can, to help answer your question, give you a little insight into things that went on in the quarter that caused the results to come under what we would normally expect as a running rate and then I can comment on where those factors might unfold here over the next little while.

So normally in our downstream we would expect about $100 to $120 million a quarter and you’ll see that we came in at negative $18 million so we’re off considerably from what we would have expected. And a goodly portion of that about $90 million of it is actually because of lower cracking margins.

So this is really the supply/demand situation for products really in the whole North American refining market and you’re seeing that across all of the refining businesses. There’s another factor in crude differentials particularly here in Canada so we’re talking about sour sweet spreads and also the spread between WTI and Brent which impacts our downstream.

And then we have a factor that is somewhat unique to us and that’s what I would categorize as lower refining yield and that’s partly because we’ve had to turn down the Edmonton refinery because of reduced demand particularly on distillate.

We’ve also had some operational issues which you read about in the newspaper that we’re sorting through and also the operational issues at Syncrude have impacted our ability to access our synthetic crude feedstock so any time we have to replace our normal running feedstock we suffer a bit of a debit on that.

Offsetting that we had much lower operating expenses. We’ve had a real push here on operating expenses across the company and the downstream has really come through on that. And we’ve had pretty strong retail and lubricants margins so there’s a bunch of moving parts here in the downstream.

I would say that if you look for the remainder of the year here, there’s no reason to expect that those lower cracking margins are going to turn around any time soon or the crude differentials. So I think that we could expect our downstream to continue to run below that $100 to $120 million of run rate earnings in a quarter.

I think what you can expect is that we will get back some of these yield issues that we’ve had particularly at Edmonton. And also at Syncrude over the course of the rest of the year so we should see something better than what we’re running at right now but certainly not up to the normal running rate.

And then the second part of your question had to do with the integration of Suncor.

Brian Dutton - Credit Suisse

Yes just how you see the value creation opportunity then with integrated your downstream assets into the Suncor business.

Ron Brenneman

Yes, and I think the biggest opportunity there is that the Edmonton refinery where as you know we have a processing agreement there now that’s based on a fixed quality of feedstock simply because it was a third party deal. We had to establish what is the feedstock that is going to be supplied.

That’s not the ideal situation for a refinery. You’d much rather have more flexibility in the selection of feedstock so I think the big opportunity there is being able to produce what we would call cocktails of feedstock coming out of the [upgrader] at Suncor site that would be more tailored to the yield pattern and the demand situation that we would see in Edmonton and again, any time that you can impact yield even by a percentage or two multiplied by the volume of throughput it makes a big difference.

Because it goes right down to the bottom line so I think there’s a big benefit there. We haven’t really been able to establish because we haven’t been able to get together and really talk about details at that level yet, so we haven’t been able to establish what the magnitude of that might be but in my experience that can be quite considerable.

And then the other opportunity is if the Line 9 were reversed and we were able to put Western crude and [Bitchamen] into the Montreal refinery and proceed with the remainder of the Coker project then there’s a good investment opportunity there to see the same thing at Montreal.

So there’s a couple of big ticket items here that we can get at, one fairly quickly on the Edmonton feedstock side and the other requiring an investment in Montreal.

Brian Dutton - Credit Suisse

And if I could ask a question on the mechanics next week in the trading when does the new Suncor start trading in New York and Toronto.

Harry Roberts

I believe the new Suncor starts to trade in New York on Monday August 3 and I think the merged entity in Toronto actually starts trading after August 7. I think both shares will continue to trade through most of next week and on the TSX.

Brian Dutton - Credit Suisse

So Petro-Canada will not be trading on New York next week but on Toronto.

Harry Roberts

Which is standard practice for the TSX in these situations.

Brian Dutton - Credit Suisse

Thank you very much and Ron and Harry thank you for your insights over the past several years. I’m sure your shareholders appreciate the value enhancing opportunity here that you’ve entered with Suncor and best of luck.

Operator

Your next question comes from the line of Arjun Murti – Goldman Sachs

Arjun Murti – Goldman Sachs

In some of the recent conference calls you’ve made reference to the general cost environment in the oil sands region, the world still faces challenging economic situation but it does seem like there’s been some stabilization here, and I was just wondering as things are sorting out how you think the cost environment has changed since the particularly high cost environment of last July, any sense of cost deflation or where things may be leveling from I guess primarily a capital cost question was my gist but maybe from an operating cost perspective as well.

Ron Brenneman

I haven’t got a recent read on that, the last read we had was what I would have reported at the end of the first quarter which was the reassessment that we had done of the cost at Fort Hills which looked like they were down about 30% which is pretty substantial and that’s pretty much across the board so we were talking about structural steel, pipe, even labor rates because we were able to negotiate the removal of some future increases from the trades labor rates.

And also an expectation on productivity just because of lower activity in the oil business. I don’t think that’s changed a lot between now and then. I think what’s happened though is we’ve seen the cost of services come down considerably so EPC contracts, rig rates on drilling rigs, that sort of thing have continued to come down through the second quarter.

I don’t have a number on that because we’re not that active to be honest. We’ve only got a couple of rigs working so I can’t give you a specific number but I do know that they’ve been coming down.

Arjun Murti – Goldman Sachs

You mentioned labor rates, I presume labor productivity plays a role as well in that.

Ron Brenneman

Yes, so there’s two components there, one is the hourly wage rate and that’s where I indicated we were able to negotiate the removal of some future increases in wage rates and then the productivity one which is probably even more important because it’s the kind of thing that can really balloon out of control and here that’s just a function of the reduced activity in the whole sector.

Arjun Murti – Goldman Sachs

That’s great. Well I too want to wish you all the best and especially thank you for the fact that whether we had a buy or sell or neutral rating the information flow was always very consistent and access to management, investor relations, always consistent no matter what our view was. So thank you very much for that over the years and best wishes to all of you.

Operator

Your next question comes from the line of Barbara Betanski – UBS

Barbara Betanski – UBS

I was just wondering if you could comment in terms of some of your international operations, Syria for example, the nature of the relationship I guess between Petro-Canada and the host government and what sort of issues might come up in terms of this merger and the new Suncor and I guess the process of any potential asset sales down the road.

Ron Brenneman

We have a very good relationship, you’re asking about Syria specifically?

Barbara Betanski – UBS

Yes I guess so.

Ron Brenneman

Well any of those countries really, but I would say that we have a very good relationship with those host governments and this goes back to Veba, the predecessor company that’s been in country there for 20 or 25 years in the case of Syria and Libya. And we’ve carried on that very good relationship with our people out of London in particular.

So I don’t anticipate that there would be any issues. The first step that we need to go through is getting consents which is pretty much a formality in this case. We have applied for those consents but we haven’t actually had a formal response yet but I don’t anticipate that there’s going to be any issues there regardless of whether we choose to stay in those countries or not.

Barbara Betanski – UBS

Thank you very much and I wish you all the best.

Operator

Your next question comes from the line of Terry Tait – The National Post

Terry Tait – The National Post

I just want to build on the last question, you had said that you have applied for consent, consents to what, to sell assets.

Ron Brenneman

No the, any transfer of ownership in those countries requires the consent from the government. In essence what it is it’s really a practical issue that in those countries the company investing actually provides a form of guarantee, a financial guarantee for certain undertakings that have taken place in the country.

For example, we have a completion guarantee on the gas project in Syria and we have an exploration commitment on our programs in Libya so its really quite understandable that if you’re changing ownership, the host government wants to be assured that the financial backing for those commitments that you’ve made is still there.

And that’s why I say I don’t expect it will be a big issue in this case because this is actually a stronger company then even Petro-Canada was.

Terry Tait – The National Post

So what happens after you’ve merged on August 1 but if you don’t have all of the consents how does that work.

Ron Brenneman

Well things carry on. These things typically take time. I think when we made the acquisition of Veba, the consent came through from Syria, fairly quickly, I’m going to say maybe within a month or two. I think it was a matter of six months before we got the consents from Libya. So that’s why I say its more of a formality and it takes a little time to work its way through the system.

But life goes on regardless.

Terry Tait – The National Post

What if you don’t receive those consents.

Ron Brenneman

We will receive the consents so its really quite a hypothetical question. As I indicated, its just a practical issue and if you think about the guarantee situation its much better than it was previous.

Operator

Your next question comes from the line of Nathan Vanderklippe – The Globe and Mail

Nathan Vanderklippe – The Globe and Mail

I’m just wondering, Rick George has said that the Suncor culture will dominate in the new Suncor, is that an indication that the layoffs or whatever cuts might result will be disproportionately weighted to Petro-Canada people.

Ron Brenneman

No, I think what Rick has indicated and really this is again just a practical matter when you’re going into a merger situation like this that there is, there does tend to be one dominant culture that predominates so we’re just acknowledging that up front.

As far as the selection process goes and we’ve gone through really two levels now, the first one was the 16 or 17 senior executives that were announced shortly after the merger announcement and if you looked at that it was a pretty proportional split between Petro-Canada and Suncor employees.

It wasn’t designed that way going in, its just the way it worked out when we looked at best candidates for the jobs. And there was an announcement went out late yesterday that indicated the next level of selections at the VP level which is some 50 people I believe, and again if you look through that list you’ll see that its fairly proportional between the two companies and again, that’s just an outcome of having selected the best people for the job.

So the process we’re going through is not weighted in favor of one company or another, its really weighted in favor of choosing the best people for the jobs.

Nathan Vanderklippe – The Globe and Mail

Thank you very much.

Operator

Your next question comes from the line of Dina O’Meara – The Calgary Herald

Dina O’Meara – The Calgary Herald

I’m wondering if you can shed some light on the number of positions that will be eliminated further with the merger, leaving the senior VP level and more on the middle management and staff.

Ron Brenneman

Actually we don’t have a number yet. I know this is something that the media is particularly interesting in but actually our focus is more on working our way down through the various levels in the organization and trying to get to people as quickly as we can and provide some certainty about where their future lies.

So we’re kind of dealing with this on an individual basis and we haven’t really established an overall number yet. So I don’t have an answer to your question specifically.

Dina O’Meara – The Calgary Herald

Are you targeting any specific area for example your natural gas division.

Ron Brenneman

Well I think again this is just logically, if you look at where the redundancies would appear, where you’ve got overlap, its typically in the corporate groups. We’ll start with the CEO, we only need one CEO so that’s a 50% redundancy. And it kind of works its way down through the various levels to the point where when you get to a refinery you basically keeping everybody because you’re running the same facility.

In the various businesses there would be some overlap in natural gas because we each had a business there. There would be some overlap in oil sands because we each have a business there. There’s obviously some overlap in the downstream and in the case of international and offshore, its like a refinery where effectively the organization stays in tact.

Dina O’Meara – The Calgary Herald

So we could assume that there will be cuts as well then in the IT departments and HR.

Ron Brenneman

Yes, I mean finance, IT, HR, those are the corporate departments where you’ve got fewer jobs then people when you put two companies together. That’s where the redundancies tend to occur.

Operator

Your next question comes from the line of Linda Swain – VOCM

Linda Swain – VOCM

Our interest here of course is in the offshore Newfoundland, can you give us a little brief overview of how that’s been performing so far and what you expect now after the merger.

Ron Brenneman

Offshore, the East Coast is actually been performing exceptionally well. We do have some turnarounds that are scheduled for this year. We’ve taken one or two of them, Ken can give you more details on this in the second quarter, and we have one or two more I think coming in the third quarter.

Those to some extent are to tie our new facilities at White Rose for example where we’re adding the extension facilities here later in the year. But from an operational point of view everything has been going quite well out there. The only hiccup as I mentioned has been the icebergs which has caused some delays in our drilling program on the White Rose extensions but we’re sort of manipulating around that by finding locations that we can move on to and not be impacted.

But no, things are going quite well there now. Post merger, Rick has made it quite clear that the East Coast operations and assets are really core to the new company and so I don’t expect to see a lot of change there. There are some investment opportunities in Hibernia south and in [Hebron] and an exploration well that we’re drilling later this year, I would expect all of those to be funded by the new company.

Because the economics for those projects really stand up quite well against anything else you might see in the new Suncor.

Operator

There are no additional questions at this time; I would like to turn it back over to management for any additional or closing comments.

Ken Hall

Any further investor questions can be forwarded to me or Lisa McMahon. Media are welcomed to contact Andrea Ranson. Once again we’re glad you could join us for our last quarterly call and thank you for your interest in Petro-Canada.

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Source: Petro-Canada Q2 2009 Earnings Call Transcript
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