Oil industry eager to see how Kenney's plan to scrap $3.7B oil-by-rail deal will pan out

Alberta's oil industry will be watching to see how the incoming government's plan to scrap a deal that was expected to move an additional 120,000 barrels of crude per day will impact the market.

That is, if it can get out of the contract.

Premier-designate Jason Kenney has said his government will reverse the NDP's $3.7-billion plan to lease up to 4,400 rail cars and move them via CN Rail and CP Rail across North America and to international markets.

"It remains to be seen if that [120,000] is needed or if industry can handle it," says Mike Walls, a crude oil analyst with research firm Genscape.

"The pledge to cancel the contract is notable in terms of yes, it would decrease expected takeaway capacity for the market."

Walls said the original deal was designed to be a medium-term solution while the industry waits for pipelines to be built.

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"Rail is a clearing mechanism right now. Pipelines are full, so to move any incremental barrel of oil out of Western Canada it has to be put on rail right now," he said. 

"You cannot move out excess crude by rail, then you're going to see that [differential] widen significantly."

Kenney has criticized the deal as making "little sense," saying the private sector has already ramped up rail shipments.

"In other words, the market for rail is functioning, and this government intervention will bid up the cost for the private sector to contract more rail shipment," he said in February after the NDP signed the deal.

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Whether it's private or government-backed, one oilpatch leader says the industry just wants to see product move.

"We support all market access, we think rail is very important. Rail is growing, rail was growing before the former government stepped in to make a financial commitment," said Canadian Association of Petroleum Producers president and CEO Tim McMillan. 

"How that transaction is dealt with, with new government, is yet to be seen. I think we'll judge it as they're taking on that challenge."

McMillan said he isn't sure what options the new government is looking at, but he expects it will be one of the first orders of business.

"Ultimately we would want to see a solution that would continue to see rail build out and capacity grow, and if that can get transferred to the private sector as opposed to government-backed, we'd want to see that in the most efficient way possible."

'I don't know if ripping up a contract is realistic'

However, this all hinges on whether or not Kenney can get out of the deal.

"I don't know if ripping up a contract is realistic … if it's binding, he's kind of handcuffed by whatever this previous government put on paper. My gut is that its fairly binding," says Rafi Tahmazian with Canoe Financial.

Outgoing premier Rachel Notley has said the deal was expected to generate $5.9 billion, or $2.2 billion in profit for the province over three years, and that Kenney hasn't accounted for that lost revenue. 

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In March, crude-by-rail shipments from Western Canada averaged 150,000 barrels per day.

Shipments hit record-setting highs in 2018, but dropped early this year after curtailment measures were put in place by the NDP government to reduce the oil backlog and boost prices.

Additional oil-by-rail shipments were set to begin in July, and would have reached 120,000 bpd capacity by mid-2020.

CN Rail declined to comment when asked if it would impose penalties if the government reneges on the deal. CP Rail didn't address the question, saying in a brief statement it looks forward to working with the incoming government.