On Canadian Black Gold

by: Bruce Vanderveen

"A New Saudi Arabia of Oil" scream the headlines. You've seen the hype. But, how do you separate truth from headline? Well, we do know there are staggering amounts of hydrocarbons in the western sedimentary basins of North America. It is no coincidence that the U.S. imports more oil from Canada than any other country. While Saudi Arabia has 264 billion barrels of oil reserves, Alberta's Athabasca oil sands alone total some 1.7 trillion barrels of hydrocarbons.

Canada's oil and gas are vital for the U.S. The quiet rolling western prairies are safe, peaceful and close. One doesn't deal with egomaniacs like Venezuela's Chavez (though some might nominate Alberta's premier Ed Stelmach), Nigeria's violent saboteurs, or bomb-toting Middle Eastern jihadists. With that in mind, let's take a closer look at the Canadian portion of these "staggering" North American reserves.

Canadian oil originates from three sources: Conventional oil, oil sands, and newly recoverable oil from "tight" strata. "Tight" refers to oil (or gas) locked in low porosity/permeability formations of shale, siltstone, or sandstone. Historically, conventional oil production has predominated. Now, by necessity, that is changing.

Conventional Oil and Gas

Mobil Oil discovered Pembina, Canada's super-giant oil field, in 1953. Located in the Cardium Formation, some 100 kilometers southwest of Edmonton, Alberta, Pembina still produces more conventional oil than all other Canadian fields combined and has given up over 1.2 billion barrels of oil in its 50 year history.

Canadian conventional oil, about half of all Canadian production, is a desirable light to medium grade. Only 17% of Pembina's conventional oil has been recovered, yet production has been declining since the 1970's. It's there, you just have to crank harder and harder to get it.

It is no secret that worldwide conventional oil production is also in decline. Saudi Arabia which claimed two years ago it could produce 15 million barrels per day has yet to do so. Saudi production has never exceeded 10 million barrels per day, even with the $120+/barrel environment of mid 2008. Saudi Arabia's Ghawar, the largest oil field is the world,seems to be in decline (see here). Saudi crude is rumored to be increasingly sour with sulfur and water content increasing.

Even in decline, Canadian conventional oil production will continue to supply oil for U.S. and Canadian markets for quite some time yet. Water and carbon dioxide flooding continue to push more oil out of Pembina. Penn West Energy Trust (NYSE:PWE) is a large producer of conventional oil and gas in the Pembina area.

Oil Sands

The extensive Athabasca oil sands and other smaller oil sand fields north of Edmonton are (as noted above) estimated to hold more than 1.7 trillion barrels of hydrocarbons -- the largest petroleum resource in the world. The catch? Oil sand hydrocarbons are bitumen, a thick, gooey, tar-like substance. Bitumen lies in vast beds near the surface of north-central Alberta. Huge shovels and trucks strip off the boreal forest vegetation and surface soil to get to it after which extensive processing and refining are necessary to produce gasoline and other end products. Often more BTUs must be input than are derived. On-site natural gas can be utilized rather than flared. Natural gas needs pipelines to harvest and is either used on-site or flared.

Oil sand development raises serious environment questions. The surface forest is destroyed, leaving a barren, moon-like landscape over thousands of acres. Extensive energy, processing and refining are required before gasoline is produced. Greenhouse gas emissions are high. The Pembina Institute has taken the lead in monitoring oil sand environmental issues. Some people question if it will be worth the environmental, ecological and financial cost.

Alberta's oil sands currently produce approximately half of Canadian Oil , most of it is exported to the U.S. Despite the negatives, declining conventional oil production and rising prices have led to increasing oil sand production in recent years. The trend is projected to continue provided the environmental issues can be addressed.

Many companies, both domestic and foreign, have stakes in the Canadian oil sands. Suncor (NYSE:SU) and Syncrude Canada (joint venture of several oil companies) are major participants. ConocoPhillips (NYSE:COP) has big plans. Imperial Oil (NYSEMKT:IMO), Canada's large integrated oil company, has a large presence.

Tight Oil Formations and Multi-stage Fracturing

Multi-stage fracturing (MSF) is where all the excitement is now. MSF in horizontal bores has revolutionized North American gas production and may do the same with oil.

MSF has the potential to draw billions of barrels oil from previously inaccessible tight formations. Tight formations often contain large quantities of oil and gas but, due to low porosity and permeability, have historically been hard to get at. MSF creates flow paths in tight strata from which oil and gas can be harvested. By creating fractures MSF makes accessible smaller, previously uneconomical, oil and gas collections . The hydrocarbons flow into the the induced fractures while proppants, such as sand, ceramic, or other particles, prevent the fractures from closing.

Candian (and U.S.) tight oil has a very desirable gravity (API 39-45), better than Pembina conventional oil (API 37), and comparable or better than WTL (API 39.6). Since MSF technology has significantly reduced extraction costs it may be a game changer for western Canada.

Keep in mind that tight oil production rates often decline quickly and the water component rises over time. For now, better technology is trumping this. Here is an excellent 2008 article on U.S. Bakken tight oil economics. Recent technological improvements continue to point toward ever better recovery rates with up to 24 stage MSF improving productivity.

The success of MSF in the Pembina area will probably be duplicated in other fields, potentially drawing billions of addition barrels of previously inaccessable oil from tight formations. MSF is now being tried in over 20 Canadian formations.

The Petrobakken (PBKEF.PK) website claims the it is ". . . primarily a pure-play, southeast Saskatchewan, light oil-focused company with targeted 2009 exit production of more than 37,000 boepd, more than 95% light oil". Petrobaken is now also moving into Cardium light oil with proposed acquisitions of Berens and Result Energy.

One might also consider investing in Canadian Royalty Trusts (CANROYS). Penn West, mentioned earlier for its conventional production, also has large tight oil lands as a bonus. Enerplus (NYSE:ERF) is another CANROY which pays high distributions and has large land holdings in tight oil areas. Some of best land potentia for MSF is on the flanks of convention oil fields such as Pembina.

CANROYS have special taxing considerations so consult your tax advisor. Also, since distributions track the price of gas and oil they can change quickly. Both Penn West and Enerplus plan to convert to corporations in the next few years as new taxes on CANROYS take effect.


MSF has revolutionized natural gas production in the U.S and, though unheralded, North America is now self sufficient in gas. Can MSF do the same for oil? Can MSF make up for declining conventional oil production? Can it make oil sands exploitation unnecessary? It's a tall order but recent trends are encouraging. MSF will, at a minimum, stem and help reverse the decline in North American oil production. US oil production, for the first time in 30 years, is now up (see my earlier article here).

Also, don't underestimate geopolitical considerations. Declining exports from both Mexico and Venezuela make Canadian deposits even more valuable for the U.S. Western Canada (and U.S.) are as safe an oil and gas investment as you can find now-a-days. A major flare up in the Middle East will send Canadian and U.S. oil and gas companies stock soaring.

You have a choice of income paying Royalty trusts with large land holdings, established integrated companies such as Imperial Oil, or new exciting tight oil plays such as Petrobakken. Currently the US Dollar is strengthening, driving most natural resource stocks down, so you may wish to wait.

Thanks to "The Big Fat Greek Crisis" the US dollar is now strengthening against all risk currencies including the Canadian dollar. This is driving commodity prices down and the coming weeks may present an excellent entry point into Canadian oil companies. Do your own research.

Disclosure: Long PWE, ERF and PBKEF.PK