© Copyright 2006 Rogers Publishing Ltd. The following article first appeared in the May 2005 edition of BENEFITS CANADA magazine.
Although oil prices have hit record highs, not all constituents in the fossil fuel sector are set to
benefit equally, says the president of M.J. Ervin & Associates.
Michael Ervin, President, M.J. Ervin & Associates, a Calgary-based consulting firm catering to the petroleum marketing industrty.

BC: Crude oil prices set new records in March—what’s the outlook for the rest of the year?
ME: I think we’ve probably reached at least an interim high-water mark for crude prices, around US$57, US$58 per barrel of West Texas Intermediate. By interim, I mean the six-to-nine month range at least. It might recede, but not by much. The OPEC countries are really the drivers of the price—they don’t really set the price, but they do set production. Since 1997 or 1998, when they didn’t have their act together and crude got down as low as US$10 a barrel, they have been pretty proficient at managing supply to bring the crude oil price within their desired range.

BC: How sensitive is the price of oil to political events in oil-producing countries like Nigeria or Venezuela?
ME: These days there is a lot more sensitivity in oil markets to geopolitical unrest or natural disasters, anything that may affect crude oil production capabilities. If and when there is a threat to production, we see hikes in crude prices because there’s very limited additional production capacity available even to OPEC member countries, with the exception of Saudi Arabia.

BC: Haven’t the reserves in the Arabian Peninsula peaked in terms of production? If so, what might that mean for other producers such as Indonesia, Venezuela or Mexico?
ME: It’s arguable when that peak will arrive, although most people estimate [it will] occur some time in the next decade. That date, when it arrives, doesn’t spell instant shortages. [But] it is a milestone in the sense that if the industrial economies of the world do not have some kind of a working plan for reducing consumption by then, that’s when prices are most likely to undergo more significant hikes than the gyrations we’ve seen in the past.

BC: In 2000, U.S. president Clinton released some of the country’s Strategic Petroleum Reserve(SPR)in response to price pressure. Might that happen again?
ME: I think the Bush administration isn’t contemplating using the SPR as a leveler for the price of crude oil, simply because there’s such a strong understanding that it [is] a strategic reserve and not an economic buffer.

The SPR has a very limited ability [to control prices]: it only shifts the burden; it doesn’t eliminate or reduce it. The SPR, plus additional working inventories of crude oil and refined products, amount to only about six or eight months’ worth of self-sufficiency.

BC: What about Canada’s demands—do we need to import oil?
ME: We’re basically self-sufficient: what we export from Western Canada we import in equal measure into Eastern Canada.

BC: Is there a “China effect” in the Canadian oil industry?
ME: There is some interest being taken in Canada, not just by Chinese investors but by investors globally, because of the increasing potential of sources like oil sands.(On April 12, Chinese oil and gas producer CNOOC Ltd. bought a 16.7% stake in Calgary oil sands start-up MEG Energy Corp. for $150 million.)

BC: Are pipeline companies like TransCanada and Enbridge poised to do as well as the people who are actually doing the drilling?
ME: They are regulated, so their upside is limited since the tariffs charged by any pipeline that crosses provincial borders are subject to review and approval. I certainly see more upside in the upstream sector, where crude prices could potentially go much higher without fear of regulatory intervention. What I find to be equally interesting, however, is the downstream— the refining and marketing side of products.

BC: Is the downstream sector in an expansion phase right now, then?
ME: Not really, paradoxically enough. You’d think that with the demand being what it is, the outlook would be very strong for expansion. But, if we look at the two sub sectors of the downstream sector— the refining side and the marketing side—there are some real constraints there.

Take refining: capacity expansion is just not on the radar screen, not only in Canada but nowhere in North America. On the marketing side, there’s not a lot of promise: selling gasoline is increasingly becoming a low-margin business. That’s why we’re seeing fewer gas stations across the country, despite the increased demand for gasoline.

BC: Projects like oil sands and tar sands are becoming a bigger part of the picture. Might these kinds of alternative approaches to extracting oil gain favour in the future?
ME: Non-conventional crude sources are already gaining favour. The oil sands, in particular, are probably the most significant source of new crude oil production in the world today, [and they’re] right here in the Western Canada sedimentary basin. When markets are looking at US$50 or US$60 a barrel—and prices have been well above the sustainable level for crude oil production for some time now—it’s not surprising that within the past few months we’ve seen announcements by companies such as Suncor and Shell, stating some pretty significant additional capital investments being made in the oil sands sector.

BC: What about offshore oil projects like Husky’s White Rose and Terra Nova and even Hibernia…I guess they potentially pose more of a challenge than dry land drilling—is that the way things are going in Canada?
ME: Certainly, as the easy-to-exploit reserves become depleted, alternative sources—oil sands and offshore oil [for example]—will become a greater percentage of crude oil production than in the past. I don’t think, at least in the case of Canada, that offshore oil production is going to increase significantly from the levels it’s at now; certainly oil sands will be the bigger potential source of hydrocarbons going forward.

BC: Ontario passed a law last year that will see all pumped gas contain at least 5% ethanol by 2007. Are sources like ethanol and biodiesel catching on, or are they still more or less novelties?
ME: Ethanol-blended gasoline is mandated in some jurisdictions already. Frankly, it’s more of a program to benefit farmers than it is to reduce crude oil dependency or environmental emissions, at least in the Canadian context, although there are some definite pluses to ethanol-blended gasoline. Within the next five years, I think we’re going to see ethanol-blended gasoline becoming more commonplace in the United States [and] I expect Canadian regulators will follow.

James Lewis is a contributing editor of BENEFITS CANADA.

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