Misplaced Generosity: How Tory energy policy has cost Albertans tens of billions in lost revenue

By Regan Boychuk, printed in Union Magazine

For a brief moment in 2007, Alberta's dominant industry was subjected to a degree of democratic influence. The public, as owners of the oilpatch resources, actually had a say in how they would be developed by being included in consultations during the Alberta Royalty Review.

This public participation was to be short-lived.

As DeltaOne Strategic Energy president Peter Linder later told the CBC, for decades, royalties had been set by the government in consultation with the oil and gas industry. "The public has - and should have - really no say in this matter because they don't understand the intricacies of the royalty system," he explained. "Stelmach was the first premier ever to make it a public situation - it should have never been public in the first place."

Capping a series of concessions to the oilpatch, the provincial government's so-called "Competitiveness Review" of 2010 took the last few steps in reversing that historical anomaly of public engagement. Unlike in 2007, the Competitiveness Review excluded the public. Instead, it revived the former practice of holding consultations with executives from oil and natural gas companies and the financial sector, including briefing sessions, surveys, interviews, a workshop, focus groups and meetings with industry lobby groups. These groups' main concerns led to the royalty cuts adopted by the government on March 11, 2010.

Three years after the Alberta Royalty Review, the province's most important file had been returned to its undemocratic status quo. This effectively reversed the compromises of the Stelmach government's 2007 New Royalty Framework, itself a compromise of the Royalty Review Panel's recommendations.

All this in spite of public opinion. The 2007 Royalty Review Panel's recommendations were overwhelmingly supported by Albertans, according to a Calgary Herald/Edmonton Journal poll, which said 88 per cent didn't think we were getting our fair share from industry and 67 per cent wanting Stelmach to adopt the panel's report in its entirety. The Calgary Herald later reported that the March 2010 royalty cuts were opposed by 58 per cent - including two-thirds of the ruling Progressive Conservative Party's supporters.

Without the sort of royalty reform that the Tories have demonstrated they are incapable of accomplishing, Alberta will continue to lose an immense amount of revenue from the oilpatch. The true scale of the excess, unearned profits pocketed by industry reveals just how misplaced the generosity of Tory energy policy has been.

To get a sense of how much wealth is generated by Alberta's natural resources and how that wealth is distributed, the Parkland Institute used statistics on the Alberta oilpatch compiled by the Canadian Association of Petroleum Producers (CAPP). The industry's own statistics help us gauge the health of the industry to see whether it was necessary for the provincial government to administer further royalty medicine to relieve the aches and pains about which the industry was complaining.

The scale of wealth produced from Alberta's oil and natural gas is truly stunning. Over the last decade (1999-2008), the value of our province's conventional oil and natural gas production (excluding the oil sands) exceeded $525 billion. In addition to paying almost $93 billion in royalties and nearly $11 billion in land sales to the province for exploration rights, industry spent $273 billion on exploration, development and operating. This left oil and natural gas companies operating in Alberta with more than $148 billion in pre-tax profit.

Alberta Energy simultaneously maintains two targets for how much of the value of our oil and natural gas it wants to capture with royalties and land sales; one is based on a share of total industry revenue, the other on a share of resource "rent." Their share-of-revenue target has been lowered over the years from 35 per cent under the Lougheed government down to 20 to 25 per cent today, a share it has managed to capture in only one year since 2001.


Taxpayers pick up $1.7 billion gas bill

More than half the cost of natural gas used by oil sands extractors is paid for by taxpayers, according to a report in The Tyee - http://thetyee.ca.

Taxpayers will be on the hook for about $1.7 billion in 2010. That figure will rise as the use of natural gas grows, says the story published in November 2010.

"Oil sands operations currently consume about one billion cubic feet of gas per day, heating thick bitumen so it can be extracted from surrounding rock and gravel. This ... eats up about 20 per cent of Canada's natural gas demand and may balloon to 40 per cent by 2035."

Much of the cost of the natural gas is written off against corporate taxes. The story says: "Companies operating in Alberta's oil sands are allowed to deduct fuel costs from their provincial and federal taxes. They are also allowed to double dip and deduct these same fuel expenses from the royalties payable the Alberta taxpayer."



But share of revenue is a crude measure. Another approach is to look at these profits in terms of economic or resource "rent." Resource rent is the financial surplus left after recovering costs and a reasonable profit from selling a resource. As we use it here, rent is the annual value of oil and natural gas produced minus annual costs for exploration, development and operations minus a "normal" 10 per cent margin on industry costs. What remains is the "rent." Royalties and land sales aim to capture that rent for the owners - in our case, Albertans. Whatever resource rent is not captured by royalties and land sales remains in corporate coffers as excess, unearned profits - excess because it is over and above a normal rate of profit.

Graph of Rent Percentage by Year

To illustrate, assume industry spends $45 to produce $100 worth of oil or natural gas. A 10-per-cent margin on its costs would be $4.50. The remaining financial surplus or "rent" would be $50.50 ($100 in oil or gas minus $45 in costs minus the $4.50 profit margin). After paying $17 in royalties and land sales, $33.50 in "excess" profit over and above a normal 10-per-cent profit is left in corporate coffers. That gives $38 in pre-tax profit on costs of $45. While this may seem too good to be true, it mirrors actual 2008 statistics from Alberta's oil and gas industry. The $17 in royalties and land sales captures only about 34 per cent of a potential $50.50 in total rent-precisely the proportion of rent the Alberta government captured for its citizens in 2008.

The share of rent the province aims to capture is 50 to 75 per cent. Between 1999 and 2008, the share of rent captured by royalties and land sales in Alberta averaged only 47.4 per cent, ranging from a low of 33.7 per cent in 2008 to a high of 65.6 per cent in 2006. Alberta failed to capture its target range of rent almost every year last decade.

The Tories' failure to set royalties to capture even the bottom of their target range for resource rent has cost Albertans dearly. If the government had managed the middle of their 50 to 75 per cent range, it would have collected an additional $37 billion over the last decade - almost $5 billion more in 2007 and almost another $10 billion in 2008. If royalties had been set to capture the upper end of the target range, Albertans would have enjoyed another $65 billion in revenue - almost $8 billion more in 2007 and another $14 billion in 2008.

Imagine what another $37 to $65 billion in revenue could have done in Alberta in terms of funding education and health care, addressing environmental issues, diversifying our economy, building much-needed infrastructure or simply saving for future generations.

Tens of billions more in excess, unearned profits aren't even targeted for collection. Remember, Alberta Energy doesn't even try to capture 100 per cent of the resource rent, only 50 to 75 per cent. That's why, even if Alberta Energy did manage the upper range of its targets, oil and natural gas companies would still have been left with $56 billion in excess pre-tax profits over the last decade. One assumes the private sector's legendary efficiency would allow it to somehow survive on mere 11-figure excess profits.

While the battle surrounding the Alberta Royalty Review was raging in 2007, the industry's excess profits more than doubled from 2006 to more than $13 billion. In 2008, when the industry was moaning about the new royalty regime's increased take of $1.4 billion sometime in the future, its excess profits almost doubled again to nearly $23 billion.

In all, between 1999 and 2008, Alberta's traditional oil and natural gas industry enjoyed more than $121 billion in excess, unearned pre-tax profits - more than a quarter of which accrued in 2007 and 2008. Yet throughout the recession in 2009 and 2010, the Stelmach government's numerous drilling incentives and royalty reductions forfeited another $3 billion in badly needed revenue.

On the one hand, Alberta Energy recognizes "a decision to not capture the full [economic rent] amounts to a decision to sell the province's resources at less than their full value." But on the other, Alberta's low royalty targets are considered too greedy for some. One former energy minister told the Auditor General in 2007 that 50 per cent of rent was the appropriate target.

In spite of claims that higher royalties would cripple oilfield investment, the stats tell a different story. Actual industry investment in exploration and development remained virtually unchanged the year following the royalty changes were announced in 2007 - a rather surprising fact considering the looming royalty increases and the severity of the recession that took hold in the final quarter of 2008. After the decision had been made to raise royalties, land sales (an indicator of future investment) actually increased by more than 20 per cent in 2008. In 2009, when higher royalties were already in effect, land sales declined only marginally, despite the recession, and remained above 2007 levels. It seems oil and natural gas companies planned to continue investing in Alberta despite the increased royalties.

This simple accounting of industry profits produces admittedly crude estimates. These calculations are not intended as a forensic accounting of every dollar lost over the last decade. Rather, this is a simple attempt to sketch the enormous scale of oilpatch profits in an effort to put the campaign against higher royalties into perspective. The figures are rough - overestimating costs and leaving some factors out - but they still paint a reasonable picture of the industry's pre-tax profits.

Since Premier Stelmach took office and kept his promise to review Alberta's royalty regime, excess pre-tax profits quadrupled - from less than $6 billion in 2006 to almost $23 billion in 2008. Yet this is the context for the campaign waged by oil and natural gas companies against higher royalties and for the government's repeated capitulation to industry pressure.

A review of the scale of industry profit raises serious questions about whose interests the Tory government is serving. "The interests of the owners are not foremost in the minds of the people who make the decisions," said University of Alberta energy economist and 2007 Alberta Royalty Review Panel member André Plourde. "What concerns me in all of this is who's speaking for the owners? It's clear the government isn't and hasn't been for some time."

Graph of Revenue LostThis episode serves as another stark illustration of Alberta's substantial democratic deficit. The distance between public opinion and public policy in this province is often considerable - and the ease with which industry was able to reverse even the modest proposals of the 2007 Royalty Review Panel should give pause.

 In this case, as in many others, the industry's gain was Albertans' loss. It is reasonable to expect this state of affairs to continue unless an aroused public once again intervenes. Ignoring the self-serving lectures from the oilpatch that Albertans are not capable of understanding the intricacies of this issue, an informed and engaged public is the only hope Alberta's natural wealth might one day be managed in the public interest.

By Regan Boychuk, printed in Union Magazine

Regan Boychuk is a Public Policy Research Manager with the University of Alberta's Parkland Institute, which has just published an in-depth study of oilpatch profits (including the oil sands) that can be viewed online at http://parklandinstitute.ca

Comments (1)

I found Boychucks review interesting and cause for concern as stated for Democracy.I beleive that its time for all of us to let our MLA'S know we want something done or there jobs on the line Its interesting to see what the people are doing in the Middle east to gain there freedom and we sit on our hands letting our elected folks to do what they want or as they maybe told what to do by those who carry the big stick.Its time we all got off our butts and took responsibility for these terrible decisions. Or maybe are children will have to fight like the folks in the middle east. What a great legacy to leave for our chidren. g.w.t.

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