Analysis

Alberta's energy royalties: an election explainer

Energy royalties have come up repeatedly in Alberta's provincial election campaign. The province's royalty regime is highly complex, but it's clear that royalties have dropped more quickly that the price of oil and natural gas.

Trying to sort out how much Alberta gets from its natural resources

Rachel Notley, the leader of the Alberta NDP, has said she would review Alberta's royalty regime if elected (Jeff McIntosh/Canadian Press)

Energy royalties have come up repeatedly in Alberta's provincial election campaign. There is a sense among some Albertans that we are not getting enough revenue from our natural resources.

That may or may not be true. The problem is that the royalty regime in Alberta is ridiculously complex, so complex that it's hard to know what the royalty rates are or how they compare to other provinces and countries.

Some of the things Alberta's royalty rates depend on are the price of oil, natural gas and other liquids, the production levels of an individual well, the age of a well, the depth of a well, the capital costs of an oilsands project, the value of the Canadian dollar, and the return on a Canadian government bond. 

So, in an attempt to clarify an issue many Albertans are wondering about, down the rabbit hole we go.

Oil sands royalties will total $1.3 billion in 2015-2016, approximately $1.53 per barrel produced. (Jeff McIntosh/AP)

Oilsands royalties

The conversation about royalties tends to begin with the oilsands. Oilsands royalties are based on two things: whether the project has paid for its start-up capital costs and the price of oil.

It's very expensive to build an oilsands project. The provincial government encourages development in the oilsands by charging as little as one per cent royalty rate during the start-up phase. That one per cent holds if the price of WTI (West Texas Intermediate) is below $55 per barrel and moves up from there.

There's a roughly 60/40 split between projects that have recovered their start-up costs and those that haven't.

If a project has paid off its start-up costs, the royalty rate can be as high as 40 per cent of net revenue, meaning profits from oilsands production. The price of oil needs to be $120 before that royalty rate kicks in. 

In practical terms, in the 2015-2016 fiscal year, the provincial government forecasts that it will earn $1.3 billion in bitumen royalties. Working on the assumption of 2.3 million barrels per day of oilsands production, the government will be collecting $1.54 per barrel of oil this year, a 72 per cent drop from the last fiscal year.

Conventional oil royalties will total $545 million in 2015-16. That works out to $3.53 a barrel. (Gregory Bull/Associated Press)

Conventional oil royalties

Alberta is expected to produce 575,000 barrels a day of conventional crude this year, about 80 per cent of which is on crown land and pays a royalty to the government. The royalty rate paid from the production of this oil is different for each well in the province. To repeat: every well pays a different royalty rate, depending on the production level of the well, the price, the age and the depth.

According to a report done by the University of Calgary's School of Public Policy, nine per cent of Alberta's production comes from wells that produce less than six barrels of oil a day, which pay between zero and five per cent royalties.

Most of the royalties come from the provinces higher-producing wells — the ones that produce more than 118 barrels per day, those wells pay a royalty rate of up to 40 per cent.

However, there's an exception for new horizontal and vertical wells that have a larger up-front cost. Those wells pay a royalty rate of up to five percent for up to four years depending on the depth of the well. The same report from the University of Calgary estimates approximately 118,000 barrels per day pay that maximum rate of five per cent.

As you can see, it is basically impossible to come up with a single number to accurately describe the royalty rate of Alberta's conventional oil wells, but let's look at the province's own forecast.

It expects to earn $594 million from conventional oil in this fiscal year, on crown production of 460,000 barrels per day of production, that averages out to a $3.53 per barrel.

That number was four times higher in the last fiscal year, when oil prices were nearly double where they are now.

Natural gas royalties

Natural gas royalties also depend on the price of gas, the production level and depth of the well. Royalties from natural gas production are expected to drop by more than half this year fiscal year to $450 million, again because of lower prices.

That's based on production of 4.7 trillion cubic feet of natural gas produced each year, approximately 80 per cent of which is on crown land.  A very rough estimate shows the province earning, on average, 11.3 cents cents per gigajoule of natural gas in the current fiscal year. The average price of natural gas in Alberta last month was $2.54 per gigajoule.

Why such a big drop in royalties?

You can see from the numbers above that royalties have dropped far more quickly than the price of either oil or natural gas. That's a result of Alberta's royalty review in 2006 and 2007. At that time oil and natural gas were reasonably buoyant and Albertans felt they weren't getting a fair share of the price increase.

So the province changed royalties to include a sliding scale, the higher the price, the higher the royalty.

"The downside of that is that when prices crash, you're giving up a lot," said Andrew Leach, energy economist at the University of Alberta.

Leach says the complexity of the royalty regime is caused by competing visions on what it's supposed to accomplish

"If you ask ten different Albertans what they want the royalty regime to do, one of them will say revenue, one will say jobs, one will say investment, one will say something else. So you have a royalty regime that tries to do all of those different things."

Leach welcomes more transparency in the system.

"We're getting the message that just asking whether the system is doing the job it's supposed to do, is not really in our interest. I don't think that's the right message to send to people."

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