Following last year's Galore Creek nightmare, Teck Cominco Ltd. (TCK) has another massive cost over-run on its hands with the Fort Hills oil sands project. The capital cost for Phase One of the project is now pegged at an incomprehensible C$23.8-billion, an increase of 50-60% from last year's forecast.
Just how bad is this for Teck? Pretty bad, according to BMO Capital Markets analyst Tony Robson. He calculated that if costs for Phase Two of the project increase by the same amount as Phase One, Teck's value in Fort Hills falls to "approximately zero" assuming a $100 oil price and a 10% nominal discount rate. Ouch.
He added that the Fort Hills partners - Teck, Petro-Canada (PCZ) and UTS Energy Corp. (OTC:UEYCF) - are looking at ways to minimize the cost increases, so his preliminary estimate on the change to Teck's value may (or may not) be a worst-case scenario.
Teck's overall share of the capital costs for Phase One have increased by around C$1.6-billion. TD Newcrest analyst Greg Barnes wrote that this increase "will raise questions" about Teck's ability to fund the project, in light of its pending acquisition of Fording Canadian Coal Trust (FDG).
Mr. Robson wrote in a note:
Those with a negative view towards the Fort Hills Project [of which there are more than a few, given the low projected IRR's for the project] could view the potential that the project is delayed or even canceled as a positive for Teck's ability to generate free cash flow and repay the Fording acquisition facility.
Phase One of Fort Hills is expected to bring on production of 140,000 barrels of oil a day, while Phase Two would take it to 280,000.