Small Canadian oil producers are striking complex deals with refineries, diversifying production and seeking marketing help as they try to soften the blow from record price discounts on heavy crude generated by pipeline congestion.
Unlike integrated companies Suncor Energy and Imperial Oil that have refineries to process their own oil, reserved pipeline space, storage, and marketing departments, small producers scrape by with less.
Canadian heavy crude sells for less than half the price of the U.S. benchmark, West Texas Intermediate (WTI) light oil, with the differential reaching the widest level ever on Friday, according to Shorcan Energy Brokers. The price for light oil is also under pressure.
Being small especially hurts when barrels are rejected by pipeline companies that do not have the capacity to move all the crude produced, called apportionment. Small producers are then forced into finding new last-minute buyers, shaving a further $5 to $10 per barrel off already deeply discounted prices, said Rob Morgan, chief executive of private heavy oil producer Cona Resources.
"The small to mid-size companies are going to have to step up their game," said Jihad Traya, Calgary-based manager of strategic energy advisory services at HSB Solomon Associates. "What it comes down to now is, how clever can you be?"
Fourteen per cent of Western Canadian crude in 2017 was produced by companies with the output of 50,000 boepd or less, not including private companies, according to a Canadian Energy Research Institute calculation using CanOils data.
A vibrant junior sector is critical for the role it plays exploring boundaries of hydrocarbon pools, said Mark Oberstoetter, director of upstream research at consultancy Wood Mackenzie.
While the differentials hurt, they are based off rising WTI prices, which has allowed some small producers to stay profitable, he said.
More small Canadian oil producers are making sales to refineries that lock in a fixed price for the differential, allowing them to limit risk, Traya said. U.S. refiners, who benefit from the big discount, get to lock in supplies long-term.
Pengrowth agreed to sell most of its 2018 crude production, 17,000 barrels per day, and 40 per cent of next year's output, 10,000 bpd, to two U.S. refineries at a fixed differential. Pengrowth also gains access to the refineries' pipeline space.
The company is now trying to lock in more of it's 2019 and 2020 production on that basis, said Pengrowth CEO Pete Sametz.
"It's apportionment protection."
Athabasca is also mitigating the impact of apportionment through contracts with refineries that involve pipeline space, CEO Rob Broen said in a presentation.
For some small producers, outside marketing expertise is more important than ever.
Phoenix Energy Marketing has doubled the volume of crude it markets in the past three years, to 50,000 barrels per day, said president Dave Maffitt.
"You know you're going to take a haircut on price. It's just minimizing the haircut and being knowledgeable enough about what the alternatives might be," Maffitt said.
But not all strategies are successful, and many refiners are hesitant to lock in differentials when the widening trend boosts their margins, said a Canadian industry source.
"The best barrel (to buy) is the distressed barrel," he said.
One fixed-differential deal collapsed between a U.S. East Coast refiner and Canadian producer due to restrictions on older, widely used rail cars, a source at the refinery said, showing that there is no easy way around transport bottlenecks.
Gear is now likely to cut capital spending, said Chief Financial Officer David Hwang.
(With inputs from agencies.)