Unconventional Oil

[johnlw]

Synenco sends dire signal

Deborah Yedlin
Calgary Herald

Thursday, May 03, 2007

The oilsands landscape became more interesting this week when a relative newcomer to the game, Synenco Energy, caught everyone off guard and said it was "reviewing strategic alternatives." That's code in the business world for hanging out the "for sale" sign.

Say what?

Wasn't the oilsands supposed to be the one "sure thing" in the energy world because it's the last, non-politicized, large oil deposit on the planet that every major player wants a piece of? It's certainly what Albertans have been hearing the last few years.

But this week, it was thrown into question.

Synenco apparently made this decision as a result of a confluence of events -- rising capital costs, ongoing labour issues and the changing tax treatment at the federal level.

Truth be told, it was perceived as one of the weaker sisters within the oilsands landscape.

When company management finally finished crunching the numbers, the rate of return on the mining project (which also included an upgrader) was just over nine per cent. That's nowhere near enough for a project of this size, not to mention the kind of operational risk that comes with it.

Canadian Natural Resources did a similar analysis on the costs and returns associated with the planned upgrader at its Horizon project and decided to put it on ice until things came back into balance from a cost perspective. But CNRL, unlike Synenco, has the advantage of having a staged project that doesn't hinge entirely on an upgrader being built; it has other places to allocate capital. Synenco is essentially a one-trick pony.

When Synenco first went public in late 2005 at $17.50 per share, the company said the Northern Lights Project would cost about $1.9 billion to develop the 1.3 billion recoverable barrels of oil. That was enough for about 30 years of production.

This week the new number for development was revealed: $6.3 billion.

The fact the company is looking at its options pretty much says it doesn't have the cash to develop Northern Lights.

Making things more interesting is that this is happening at the same time the Alberta government is reviewing the existing royalty regime. Synenco's circumstances are the most dire signal to date on the out-of-control costs to develop the billions of barrels trapped in northern Alberta. All of a sudden, Premier Ed Stelmach should be very worried.

As Statoil's Peder Sortland reiterated several times during an interview with the Herald this week, fiscal and political stability are absolutely critical for companies making billion dollar bets on oilsands projects; it was this stability that was one of the drawing cards for Statoil to write a cheque for $2.2 billion and snap up another fledgling oilsands company, North American Oilsands, last week.

Stelmach might want to re-think the royalty review.

Synenco's announcement shows that even with high oil prices, the myriad pressures pushing the price tag for oilsands projects beyond reasonable is evidence enough there is no additional economic rent to be had. And at some point economic pressures could very well be such that other projects will be set aside because the rate of return no longer justifies the risk.

So now it becomes a game of who is going to bid -- and how Synenco's assets stack up against those of another company, Western Oil Sands, which is also for sale.

There are a few ways to look at this.

First of all, because Synenco's 40 per cent partner is the China Petrochemical Corp. (Sinopec), the question needs to be asked whether this move is a way to legitimize a sale process that ultimately sees the assets in Sinopec's hands. Also important, as FirstEnergy's Mark Friesen points out, is Sinopec's lack of operating expertise to carry on without a partner who knows what's going on.

Conversely, if Sinopec opts not to come to the table with a bid, it suggests the assets really are not as good as initially thought, oilsands or not. It also throws a bit of cold water on the widely held notion that national oil companies come with unlimited chequing accounts.

Then there's the Synenco versus Western Oil Sands in terms of which is a better option on the price of crude oil. Western's new partner in the Athabasca oilsands project, and the logical buyer, is Royal Dutch Shell.

As Friesen noted late Tuesday afternoon, Royal Dutch can afford to set Western aside for a while and come back to it when the conditions are not as heated.

At this point, analysts are saying Western is wearing the prettier dress; its project is more straightforward while Synenco's is viewed as being technically challenging from both topographical and geological perspectives.

On that point, it's interesting to note that Synenco's chief executive comes from Norsk Hydro -- a company well-acquainted with complicated projects.

How this unfolds will be very interesting to watch. Whether it's Italy's ENI that finally inks a deal for a beachhead position in the oilsands, Sinopec or another player, based on the $1 per barrel valuation paid by Statoil last week, Synenco's investors are set to do well; the debt-free company could fetch a price of $1.6 billion.

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© The Calgary Herald 2007