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Canadian trusts yield gushers Investors reap rewards, but outlook clouded; reserve replacement the test Gary Park Petroleum News Calgary Correspondent
A love affair with Canada’s energy income trusts has sent the sector’s index into record territory, while more conventional oil and gas stocks are lagging, but the staying power of trusts remains an open question.
The trust index on the Standard & Poor’s/Toronto Stock Exchange has climbed more than 15 percent since April, pumped by prolonged strength in oil and gas prices.
The popularity of trusts among investors received added impetus from a new report by CIBC World Markets showing the top five of 21 oil and gas trusts averaged a total return of 42.78 percent for the year to date, while the five largest by market capitalization averaged 20 percent. Even the top five of 16 power and pipeline trusts yielded an average return of 18.3 percent.
A sampling of second-quarter profits shows: ARC Energy Trust earned C$126 million vs. C$29 million in the same quarter of 2002; Pengrowth Energy Trust $52.4 million vs. C$13.6 million; Acclaim Energy Trust C$33 million vs. C$1.95 million; NAL Oil & Gas Trust C$24 million vs. C$3.9 million; Shiningbank Energy Income Fund C$23.9 million vs. C$7.1 million and Provident Energy Trust C$23 million vs. C$1.18 million.
Sayer Securities reinforced the dominant role of trusts, reporting that it completed C$2.22 billion in equity financings in the first six months of 2003, a gain of more than 300 percent from a year ago, leaving the rest of the industry to account for only C$1.5 billion.
Findings such as those support the common wisdom that trusts will continue on their growth curve so long as natural gas prices remain healthy and the tax benefits of switching from the ranks of conventional companies remain the same.
NCE Petrofund has performed best The best-performing trust this year has been NCE Petrofund, which has delivered a gusher return of 50.1 percent this year from production that includes 86.2 million cubic feet per day of gas and 12,363 barrels per day of oil. NCE’s second-quarter cash flow climbed 68 percent from a year ago and its distributions to unit holders rose 29 percent.
Entering 2003 it had reserves of 99.4 million barrels of oil equivalent, including 274 billion cubic feet of gas, representing a reserve life index of 10.4 years.
Topping the oil and gas list based on market capitalization are Enerplus Resources Fund C$3.05 billion, ARC Energy Trust C$2.03 billion, Pengrowth Energy Trust C$2.07 billion, PrimeWest Energy Trust C$1.19 billion and Bonavista Energy Trust C$1.09 billion, with the combined worth of the 21 trusts estimated at C$18.1 billion.
The rapid emergence of these trusts in the last four years has seen them claim 8.1 percent of the total Canadian oil and natural gas liquids production market at 220,000 barrels per day and 6.4 percent of natural gas production at 979 million cubic feet per day. Enerplus heads crude oil equivalent producers Heading the crude oil equivalent producers are Enerplus at 63,000 barrels of oil equivalent per day, Canadian Oil Sands Trust 50,000 boe/d and ARC at 42,000 boe/d.
The market-cap of the 16 power and pipeline trusts is C$10.8 billion, with three in the billion-dollar-plus category — the Quebec’s government’s Gaz Metropolitain C$2.3 billion, TransCanada Power C$1.34 billion and Pembina Pipeline Income Fund C$1.13 billion.
Less money going back into ground The wave of conversion to the oil and gas trusts has coincided with the weakening of the Western Canada Sedimentary Basin as a future supply source, reflected also in the exodus of major companies from conventional plays in the basin. What isn’t clear is the extent to which trusts, which have helped clean out the ranks of mid-sized producers, will contribute to a further erosion of the backbone of Canada’s petroleum industry. But with trusts distributing upwards of 60 percent and often 90 percent or more of their cash flow to unit holders, less money is going back into the ground.
Investment dealer FirstEnergy Capital captured that trend in a recent report that estimated capital spending by Canadian companies will consume only 71 percent of this year’s cash flow, compared with 92 percent in 2001 and in excess of 100 percent through the 1980s.
Tristone Capital has estimated that the amount of capital allocated to activities outside the Western Canada basin has doubled to 30 percent of combined capital spending budgets since 2000. Junior E&P companies don't have means With the majors gone and the trusts serving other ends, only junior E&P companies are left to explore and, despite the many veterans heading up their management teams, they don’t have the financial means to hunt on a grand scale for the reserves needed to offset a decline in gas production that is projected to reach 300 million cubic feet per day in 2003.
Among trusts, the largely unspoken concern is that tightening gas supplies could undercut demand, driving gas prices down and ultimately shrinking trust distributions. Implications such as those are only now getting an airing, although the full implications remain clouded.
Steve Larke, vice president of TD Newcrest, told a recent Canadian Institute conference that trusts are “most definitely here to stay, but there will be some blowouts.”
One consequence, he suggested, is that trusts will have to reduce payouts to unit holders, noting that those delivering 90 to 100 percent to unit holders are relying “entirely upon the equity market” to pay for capital programs and acquisitions.
He estimated the trusts must now raise C$1.5 billion a year from the market just to hold the line or replace production, warning that trusts are “getting towards an unsustainable model.”
However, Larke said that juniors, which can’t compete with the sky-high prices trusts are paying for assets, may experience a “really positive” impact by shifting their focus to growth through the drill bit.
And the faster juniors can build their reserve bases the sooner they become prime takeover targets for the cash-rich trusts.
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