Cenovus Energy, Inc. (NYSE:CVE)
Peters & Co. Limited Energy Conference
September 10, 2013 08:20 AM ET
Brian Ferguson - President and CEO
So next speaker will be Brian Ferguson from Cenovus Energy.
…and by providing a meaningful and growing dividend. This slide looks a lot like the one that Doug had up. Before we begin, I would ask that you refer to the advisory and forward-looking information, in particular draw your attention to the risk factors and assumptions, and I have one more slide here for you and other advisory. (Inaudible) oil and gas and financial information and I encourage you to read both of those.
So what makes Cenovus a different kind of oil sands company? To start, we have an industry leading portfolio of oil sands assets I believe. We translate this exceptional resource into predictable and reliable performance. We are a leader in innovation through technology and our manufacturing approach provides us with a competitive advantage. We have a 15-year track record now using steam-assisted gravity drainage or SAGD over first SAGD [well pad] in 1998. We have no mining assets. We have no mega projects where our ownership in two US refineries, we are integrated. This upstream and downstream integration improves the overall stability of our cash flow; it reduces the volatility of the outcome for us.
Finally, we have a strong balance sheet that provides the financial flexibility to fund our oil growth.
This slide provides some of our vital statistics; we have very large reserves and resource base at about 13 billion barrels of oil equivalent. 98% of that is oil. All of our producing assets are in Western Canada. We own 50% of two refineries that I mentioned earlier, one is in Illinois, and the other is in Texas. They are operated by our partner Phillips 66. We offer good liquidity with enterprise value of approximately $28 billion, produce currently about 260,000 barrels of oil equivalent. That's combined our oil sands, our conventional oil and our natural gas production base.
This next slide shows the outcome of our 10-year plan and highlights, what I described earlier as reliable and predictable growth strategy. We plan to bring on a new 40,000 to 50,000 barrel per day phase, every 12 to 18 months from many years to come. We anticipate production from oil sands and conventional oil will reach 0.5 million barrels per day next to Cenovus by 2021. There is one very important factor that I would like to stress at this point, and that's that our growth rate is an outcome of our ability to execute. It is not a target. Our focus is on growing net assets value.
The foundation for this oil sands growth that I mentioned earlier comes from our two producing properties Foster Creek and Christina Lake which you'll see here and illustrate the future phases of growth. We currently produce approximately 187,000 barrels per day from oil sands with regulatory approval in hand for another 395,000 barrels per day. We have a 50% working interest in these assets. We have brought on 10 phases of SAGD today representing capacity 250,000 barrels per day. Most recently Christina Lake phase E achieved first oil in July of this year and I can tell you that the startup is going very well on that phase.
We recently started construction on our third SAGD project at Narrows Lake, which is immediately north of Christina Lake, first production from Phase A at Narrows Lake is expected in 2017. You can see we are bringing on a new expansion phase as I mentioned every year for the next several years. This is what I meant by manufacturing oil.
Probably, the largest misconception I believe about oil sands developments is that it is the marginal barrel that it is high cost and Jeff talked a bit about this earlier. This chart shows the breakeven WTI price for 175 different oil projects around the globe including off shore, on shore, institute and mining projects and it's based on generating a 10% return on your cost capital.
This global cost curve shows that all the SAGD projects currently under developed and they are highlighted here in green. You can see that there is a wide range of breakeven oil prices, some under $70 WTI which is above the average and some that are up to $100 a barrel or more just to achieve a cost capital return.
What I want to draw your attention to is the grey banded area. That's an (inaudible) for SAGD and it is among some of the lowest cost production growth on a global basis.
This next slide will show the components we used to calculate our supply cost which I showed on the previous slide. Our supply cost for emerging projects ranges from $35 to $65 WTI equivalent per barrel. This is a full cycle supply cost that includes all capital required to develop the recoverable resource and generate a 9% after tax return. What we have proven through our development at Foster Creek and Christina Lake is that once we got the initial growth capital invested and we move to a more sustaining mode which is what we are in now, where we are investing capital to maintain whole plant production. Supply costs dramatically decreases in fact Foster Creek and Christina Lake as you can see here have a full cycle supple cost now in the $35 to $45 WTI per barrel range.
In addition, innovation such as our Wedge Well Technology makes us more efficient along the way. Any technology that can incrementally lower our steamed-to-oil ratio will improve cost and increase production capacity and will accelerate our supply cost improvement. I believe that SAGD economics will only get better over time. A significant part of our formula for low supply cost starts with reservoir and steam-to-oil ratios.
If you are familiar with SAGD, you'll know that the steam-to-oil ratio is the key performance measure and the key measurer of energy intensity. A low steam-to-oil ratio reduces overall project costs as the majority of capital on operating expenditures relate to steam generation and water handling. It also provides significant environmental benefits which we have noted here on this slide. Our industry leading steam-to-oil ratio of Foster Creek, Christina Lake are due to again, high quality of reservoir, operating a project respectively and what I would like to characterize as our relentless pursuit to become even more efficient in our manufacturing of oil.
We have also shown the expected steam-to-oil ratio for our emerging plays at Narrows Lake, Telephone Lake and Grand Rapids. Narrows Lake will benefit from our solvent aided process, patented technology that uses butane mixed with steam and we have regulatory approval for that. This technology is expected to drive steam-to-oil ratios down even further.
Another reason for our supply costs are -- another reason that our supply costs are so globally competitive is our capital efficiency. Historically, we've been able to bring on production at phases in the 20,000 or better per flowing barrel range. We believe that we can continue to develop our new expansion phases at capital efficiencies in the $22,000 to $25,000 per flowing barrel which is about one third less than current industry averages. We plan to maintain industry leading operating and capital efficiencies as we grow our oil sands production.
Cost over our next commercial project Narrows Lake are slightly higher accounting for the Greenfield nature of that project and in addition, the infrastructure that's required for the solvent aided process.
We estimate our capital cost is going to be approximately $30,000 per flowing barrel which is still very competitive on a SAGD project with industry averages again in that $30,000 to $50,000 per flowing barrel.
Innovation is one of our core focuses at Cenovus and it is part of our culture. Research and development is a very important part of this. Many of the technologies that we are working on are aimed at reducing steam and energy requirements, technological advances that are also going to continue to improve our environmental footprint, and also reduce our costs. We have over 140 different technology projects that are on the go at various stages of development within our company. The goal is to reduce our environmental footprint but also reduce our steam-to-oil ratio which reduces our operating and our capital cost.
I am very excited about the new things that we are working on and look forward to being able to share our progress as we implement these new technologies that are commercial facilities over the coming years.
We have discussed our plans for oil sands growth and one of the key aspects of the predictable decade of growth that are achievable for Cenovus I believe is a quality of our emerging plays that we have not yet developed. We continue to work on these emerging oil sands plays where we believe that we've got a significant opportunity to continue to grow net asset value. We believe Telephone Lake has the opportunity to be another corner stone asset for our shareholders similar to Foster Creek and Christina Lake. Telephone Lake has excellent reservoir quality and we expect ultimate production capacity in excess of 300,000 barrels per day and it is 100% Cenovus project. We continue to work through our pilot program at Telephone Lake and anticipate regulatory approval for this project next year.
Cenovus, I believe is considered a leader in SAGD, but we also have a large conventional oil and gas portfolio. That portfolio I believe is somewhat underappreciated as it supports our oil sands story. About 70% of our conventional leases are on (inaudible) where we have a significant cost advantage because we do not take royalty. The chart on the left of this shows the split of operating cash flow between all of our upstream assets. As you can see, a significant portion of our upstream operating cash flow is generated from these conventional assets.
This next chart here shows the scalability of our conventional capital gives us the flexibility to ramp up or ramp down investment depending on market condition. Conventional oil and gas including our Pelican Lake generate significant free cash flow that we are able to use to reinvest, to invest into our longer term oil sands growth asset.
Our integration strategy continues to deliver value and reduces volatility in our overall consolidated cash flow. Our US refineries are strategically located to take advantage of discounted crude feedstocks in the US mid-continent region, including Canadian heavy blends and in particular our own Christina Lake Dil-bit Blend.
We are looking at debottlenecking opportunities that our Wood River Refinery in Illinois with a potential to increase the heavy crude feedstock from our current 200 and increase it up to 220,000 barrels per day. Our refining assets continue to generate significant operating cash flow in excess of a capital required to sustain them. Our share of ongoing maintenance capital is estimated to be between $100 million and $125 million per year. In 2012, the refining business generated 1.1 billion in operating cash flow in excess of capital. Through the first half of 2013, we have generated approximately $850 million in operating cash flow with a capital investment of only $50 million.
Market access as Doug pointed out, continues to be one of the key focuses for our industry and certainly is one the key focuses for Cenovus. Our strategy on the transportation side is to continue to emphasize the importance of a portfolio approach. Having a clear line of sight to decades of oil growth ahead of us, a strong balance sheet along with our integration allows us to commit to firm pipeline capacity to ensure that we get oil to market. We are supportive of major pipeline initiatives to a variety of markets including the US gulf coast and Canadian East and West coast.
We are currently benefiting from firm service capacity of 11,500 barrels per day on the existing transmountain pipeline to the west coast. It was recently announced that Cenovus has secured 200,000 barrels per day of firm service from TransCanada's energy east project, that's going to transport barrels to Saint John New Brunswick for both domestic and export markets.
In addition, we are continuing to expand our exposure to rail, regarding the shift up to 10% of our marketable volumes by rail over the coming years. I think this is a great option during periods of pipeline conjunction and also opens up markets that are not yet accessible to western Canadian crudes via pipeline. As well rail provides the flexibility to move (inaudible). And expanding our rail commitment we have at least 800 rail cars, 300 of those are general purpose and 500 are oil and insulated cars. In addition to these, we contract rail cars from other parties.
We are also looking to participate in rail terminals with a prospect of having up to 30,000 barrels per day of unit trained capacity available for market.
In closing my comments today, I'd like to reiterate that I believe Cenovus has a top tier asset base. It's enabled by our manufacturing approach that generates predictable, reliable growth. Our strong track record in oil sands development and or focus on innovation; I believe positions us very well.
Our integrated strategy helps reduce overall cash flow volatility. We continue to look at ways to expand our margin through market access, we have the financial strength to support our growth plans and we are committed to safe, reliable and consistent operations. All of these elements contribute to building net asset value and to being able to increase our dividend over time. Thank you.
Thanks Brian. We now have about 20 minutes for questions. So, just ask that if you have a question, you just wait for the microphone and we'll try to run to you.
What's the likelihood of any regulatory changes? Is it a design of rail cars?
Accessing west in Canada to water for its oil and also has to see the development of the LNG facilities to the west coast of Canada and I think those will happen over time as we've seen in places like Australia, all is now what it seems when we get into economics and reserve performance and I think the Canadian way is the right way. We just need access to water to ensure markets for our products.
If you could just add a couple of comments, I think the essence of the question is what's the impact on Canadian energy markets are being in a global marketplace. Because that's really what we are. It’s a global marketplace. And I would perhaps just recall back to remember the slides that I presented which was on the oil sands as an example being very cost competitive. And this comes to your questionable cost inflation as well. It's one of the big things that we have to continue to do as an industry and all of us are focused on is how do we continue to drive down our cost, technology and advantages in technology is a big, big part of that.
That's one of the things that I think we have a huge opportunity here and we kind of really like the scale and the opportunity in a globally competitive nature of the oil sands business. We have a lot of running room, we have opportunity to continue to improve through technology developments, absolutely what we need is continuing access to markets to be able to -- you’ve seen great example of how rail has been very impactful and I think we are expecting -- we're certainly expecting some of us to see continuing increases in oil that's moved by rail. That should become very important part; I think it is going to be a permanent part of the transportation situation here in North America.
There is great opportunities to make that even more efficient in terms of the cost per barrel for example, back haul in condensate and all those sorts of things, unit trains, that we've talked about, so there is a tremendous opportunity to continue to improve the cost structure around rail movement and there is actually ways in which we think it can become -- I think it’s a shorter haul, very competitive with pipe, particularly under -- if your situation kind of under blends, so you don't have to blend to a pipeline specification. You can use [indiscernible]. So there is significant opportunities there. The most important impact that we have seen recently of, the rise in US oil has been the congestion around Cushing and has been the wide differentials here in Canada. And that is being alleviated and will continue to improve.
With respect to cost inflation itself, we are seeing very little cost inflation pressure and I think that's largely symptomatic of the volatility that we've seen in some of the commodity prices. We don't see any cost inflation in any of our gas operations for example, activity is down, general companies are spending lots here.
Unidentified Company Representative
I am going to reinforce a couple of those points. I think, the impact of rising production in the US means that access to multiple markets is more and more critical to Canada. That's fundamentally, that's Brian said, we are global markets, so we need global access and I think that's the fundamental impact that's it had. We've gone to a place where we send anything we needed to the south that we realistically need to be looking broader.
As far as cost I think I would agree again, I don't see material cost inflation currently in the system. I think there is a number of reasons for that. As an industry we've got a little smarter, we do a lot of things on global sourcing; we do a lot of things on the way we manufacture the modules doing things in places other than [indiscernible]. The cost inflation that we've seen in places like that, we've worked hard to move away from and I don't think we're at quite the same peak that we were in the past and I think we'll continue to see that. So, right now I think so you went on in the deflationary process but we are in a place that think is recently stable.
That may not be a good answer to this question. You’ve all dealt with the cross side of the equation, but one of the other things that really striking when we look at the analyst workers going out of the three producing companies in the next few years, the cash flow incident don't go up very much and the other side of that is of course price. So the question I have was, are you philosophically looking at price any differently than the analysts are and when you're looking at the capital expenditure decisions, is there any -- is there notions just that's not controllable by you so therefore you just have to do the best you can on the cost side or is there some judgment being made that prices will be better than what the current forecasts are.
I think it will be brave to predict price. And certainly argue that price is something that obviously we would look at where the market is today and we wouldn’t fundamentally disagree that it won't be materially higher or lower but we and I think we need to maintain a balance sheet and the flexibility within the projects we have to allocate capital when we get there to the right projects in the right, in our case, the right geographic region for the right product. And so, we're certainly not betting on a fundamentally different price outlook than the market is seeing.
Unidentified Company Representative
Yes, I would in Cenovus' case, we've got a relatively flat price assumption for WTI, we see a narrowing on the differential between Brent and WTI as we've seen the eliminating the congestion around Cushing. We do continue to expect that we're going to see relatively wide differentials until we've got some more meaningful export capacity and that's going to be a way of life I think for us. Now that's where as an example, being integrated is an advantage because of differential means that instead of the right hand pocket, it’s the left hand pocket that's going to use cash on a corporate perspective from our perspective. So, we're really focused much more on those things that we can very much control on a short term which is capital cost, capital efficiencies and you look at technology to continue to drive those sorts of things down. That's also one of the reasons why we're looking at our portfolio approach in terms of markets where we can actually get to tight water and we recently been shipping crude out of Vancouver to Asia and getting global prices for that. It's one of the reasons we for example made a very large commitment on a TransCanada Energy East project as well to make sure that we've got access as production continues to grow in the basin to be able to export.
So just come down it's a little bit different direction, I think -- just the -- if you take a look at it from a different perspective, I think it would be wrong for a producer to look at a $108 or $110 WTI prices on a go forward basis and make the assumption that that's going to be here to stay. We have seen disruptions in the middle east and over the course of time, but, I think long term, as a company, we kind of look in that $80 as being a sustainable price. So if you look at it long term, you’ve got $80 here and then you look at what's happening with respect to capital inflation and I think the observations are correct. I think that for the last few years, there hasn’t been a lot of cost inflation; companies have become more efficient in controlling it. That's large parts of two things. Number one is, the availability of contractors from around the world, because there hasn’t been a lot of activity in Asia and there hasn’t been a lot of activity in Europe or the Middle East, and but I think we're slowly seeing that from our perspective, the United States is getting busier as is Europe is getting busier and so you have to be vigilant over cost, not only with construction labor but also with materials and supply.
The second thing though is operating cost whether its however you want to treat operating cost whether it’s the G&A component of the man power supply and I think when was the last time personally when I walked in and I asked the president whether I could have a cotton pay to make things go around, so that means that if I am not expecting cotton pay the best I can hope for is flat salary or increases and those are things that that all bump against that $80 the price.
And this will take us to the other part of the exercise that we have to be vigilant on and so you know it's working with municipalities in Western Canada to understand their needs and to making sure that we're vigilant on those because we do see those costs as being drivers as well. So, operating costs, G&A costs they are a focus of the annual budget and you have to just be focused because that $80 ceiling probably isn't going to go anywhere in the longer term.
Based on the capital allocation side, for I guess all the ENP producers, how do you guys think about allocation of capital within your own portfolios between some of your higher -- arguably higher return conventional assets and maybe some of the lower return oil sands assets but obviously with a much longer ROI. And has that changed over the last few years on your views on how you allocate there?
We're still using very similar metrics to what we've used for a long time, but in Cenovus' case one of the things that I really like to use is a diagnostic tool with regard to capital allocation is net asset value and net asset value growth. And does that mean that the capital we're allocating doesn’t have the opportunity to create material increases in the value underlying each share. So, we all know that we can create a stream of cash flow to get a very high internal rate of return but has really very little net present value associated with it. So that's for me and Cenovus one of the things that we try to balance and making sure that we're getting strong internal rates of return but also investing in opportunities that are present opportunities for material increases, material net present value and that's really where oil sands I think distinguishes itself, because of the scale of the operation there and the opportunity to continue to grow in very significant net asset value areas.
The other thing for me that's been very important in terms of capital allocation is looking at balancing on the conventional side the ability to generate free cash flow from our conventional business which gives us essentially that self-funding nature where we can manage balance sheet strength, manage growth, manage dividend growth and reinvestment growth in a balanced way so that we're able to not over stretch in anyone of our various.
Unidentified Company Representative
Yes, I think we probably all look at it very similar to the way Brian has just described it. The other thing has been to knowing that consistency of you own operation and how to best deal with them and I can give you a couple of lessons learned that we've had over the course of time. One was when natural gas prices were in that $7, $8 range, not too many years ago, and we were drilling upwards of 1,000 wells and what we found at that point, that the 1,000 wells would be our maximum capacity in any one year otherwise we were not only testing our internal ability but also the contractors we were using to drill those wells and assist in the drilling of those wells.
Similarly with Horizon, when we got into the final construction years for a Phase I of the plant, and the site was we've had -- we found ourselves sort of running a little bit behind schedule so that the tendency is to want to throw resources out that primarily the human resource and the lesson learned out of that one was is that it's not the workers that cause you the problem, it’s the supervision of the workers that cause you the problem and so you have to be vigilant on that one to make sure your contractors have that. So as we move forward in the peace, we've constrained our primarily heavy oil drilling to around the 900 wells level because we think the infrastructure in that northeast area can handle that. We've slowed down -- not slowed down but we've maintain the pace of development of our SAGD opportunities to make sure that we are doing all of the right stat hole drilling and understand the geological reservoir because we've seen instances where if you get a heavy yourself, you can have failures and at Horizon, again, we will be restricting the number of construction personnel on site so that we don't start running into the operating people as we move forward and that kind of dictates in itself, a little bit of the allocation to capital. Going all the way back to what Brian said though is that there is an increasing expectation from shareholders for a share of the price and they don't want to wait for the next 10 years before they get that share. So you have to be observant to that.
Unidentified Company Representative
Just add a couple of things [indiscernible] including capital allocation for us is about looking across geography, its political stability, issues in different places, whether we want all of our eggs in any one basket, we also look very much at the product balance, we don't want it all to be heavy, we don't want it all to be late. Again, we like those portfolio pieces including two points made about cost and if we have areas that are particularly challenged and then we're going to move away from that. So, it’s the same kind of piece but given the breadth of our portfolio, we start to that balanced view to put it.
Clearly it is all about value. I mean in the end we are in this to add value to the corporation on a bye share basis, so that's what we're doing.
One last question for all the [indiscernible] that are up there. When we look at the condensate deficit that's been faced in Western Canada, what are your views on, maybe what type of potential issues that could cause long term or from a producer standpoint and then specifically if you could just talk about any type of commitments that you might be making to southern like expansions or cushion or anything like that or partnering with a company like [indiscernible] to use their infrastructure for condensate logistics.
So one of the things that Cenovus has done is we have taken a portfolio approach. We do and have entered into long term arrangements for condensate supply to make sure that we aren't going to face condensate constraints as we - as before and obviously Southern Lakes has been a big part of bringing that in. we continue to have the option to bring in by rail car from the west coast condensate which we've been doing for over 10 years. We've got an opportunity to do that for another three years, given the short term. One of the things that we look at it is, there is an opportunity to blend synthetics or sin-bit as opposed to just the Dil-bit as an opportunity.
The other thing I mentioned, when we talk about rail cars is the condensate issue relates [indiscernible] transportation not necessary not necessarily rail car and we're seeing refiners who are saying, if you could deliver a under blended [indiscernible] we'd really like to see that. So that's one of the advantages of rail for example in that situation.
Unidentified Company Representative
I don't have too much to add on it. The -- from a condensate perspective, I think that there is a couple of things that happen in Western Canada, in particular, number one is that whole north east BC mountain area is very liquids rich and I think as those reserves get developed, the liquids will get stripped out and move by company such as Europe back into where they are needed in the Edmonton and east areas. I think that certainly what we've seen in pipelines and transportation going one way will obviously supply demand curves obviously will eventually blend and so we have seen an increase in condensate coming back from Chicago or condensate coming up from the gulf coast or condensate as Brian just mentioned aim from the west coast. So make it just something that you have to be managed, you have to be aware of how much condensate you are going to need as your portfolio expands and plan accordingly.
Unidentified Company Representative
I know you didn’t direct your question me, but I will take a shot at it anyway. Certainly, we believe that there will be growing demand for condensate but I don't think that the solutions that from an issue point of view, I don't think the solutions are expensive. As long as we're working effectively you’ve got to build in the flexibility that I talked about earlier. As Doug mentioned, you're seeing more condensate being developed in Western Canada, you're also seeing a lot of condensate coming out of some of the US plays like the Marcellus and Eagle Ford. You will also see condensate surplus from the processing of the diluted bitumen, so there is almost a close loop. It's simply a matter of making sure that the transportation solutions and the storage solutions for the handling of that condensate are as efficient as chief as we make them and I don't think that that's a huge challenge. It's just a matter of making sure that we're working together and share information and sharing views of the future.
Unidentified Company Representative
Yes, I agree that fundamentally from a logistics challenges, there is enough condensate if you throw your net wide enough and we're going to be part and parcel of that with all the net third players.
Well thanks very much for all the views from the panelists today. Appreciate it, and we'll have a short break and we'll restart at 10:00.
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