Canada: And The Word Of The Day Is…. Diversification

Last Updated: February 9 2016
Article by Gordon M. Nettleton and Kimberly Macnab

On February 1, 2016 the Petrochemicals Diversification Program (the "PDP") was announced as "part of the government's continued action on the economy, helping to create jobs, attract investment and diversify Alberta's economy." This announcement was made in the wake of the results of the royalty review released on January 30, 2016, with comparatively little fanfare. Premised on the goal of diversifying Alberta's economy, and based on the availability of methane and propane in the province, the PDP in its Fact Sheet proposes to capitalize on demand for related higher-value products and promote energy processing within the province.

Royalty Review Recommended

As set out in Alberta At A Crossroads, Royalty Review Advisory Panel Report (the "Report"), the royalty review panel's mandate included encouraging "diversification opportunities such as value-added processing, innovation or other forms of investment in Alberta". The modernized royalty review framework, as discussed in a previous article, suggested two main opportunities for increased value-added processing in Alberta. One of the two recommendations was for the province to develop a value-added natural gas strategy, including a fiscal and policy framework to encourage investment in value-added activities for natural gas. The Report recommended that Alberta seize the opportunity presented by shale gas resources, and increase downstream industries in the province over time, citing the "longstanding competitive disadvantage" Alberta has faced based on its relatively remote location from markets.1

Program Details

Under the PDP, the Government of Alberta will award $500 million in royalty credits to petrochemical facilities in the province over the course of the ten year program. Eligibility for the program will be limited to new petrochemical facilities only. Credits will not be used as start-up capital; rather, they will be awarded once approved projects are completed and feedstock consumption begins.

The credits will be awarded to petrochemical facilities based on a competitive application process, which opened on February 4, 2016 when the Government released the Application Information and Guidelines (the "Guidelines"). According to the Guidelines, the PDP:

  • Will be discretionary on behalf of the Crown.
  • Will provide royalty credits to eligible new Alberta-based projects where the Crown determines it is in the public interest and unlikely to proceed without the program.
  • Royalty credits are not re-paid to the Crown.
  • Program funds are capped. Approved projects may be eligible to receive a maximum value of royalty credits over a limited time period.
  • Royalty credits are earned by an approved project based on the annual amount of eligible feedstock consumed by the project, up to a project annual maximum royalty credit allocation.
  • For purposes of the program, approval is provided prior to construction of the facility or facilities. Credits may be earned only upon commencement of facility operations (i.e. when feedstock consumption begins).
  • Royalty credits can be earned for a maximum of 36 months, or until the aggregate value of royalty credits approved for the project has been reached, whichever is sooner.
  • Earned royalty credits are paid on a bi-annual basis.2

Eligible facilities must (i) be located in Alberta; (ii) include a continuous value chain that begins with consumption of either methane or propane as the primary feedstock in a primary facility to produce higher value products; and (iii) be for a new greenfield or brownfield investment (excluding investment for the purpose of facility debottlenecking).3 The PDP is entirely discretionary, but the Guidelines provide that the Department of Energy will seek to identify programs that meet the following overarching objectives:

  • A petrochemical value chain that uses methane or propane feedstock sourced largely in Alberta, and that extends to a high degree a methane- or propane- based value chain within Alberta.
  • A processing facility that establishes incremental capacity in Alberta by constructing and operating a new facility ("greenfield") or major expansion of an existing facility ("brownfield"), and not through debottlenecking of a facility.
  • A petrochemical complex that receives all required internal and external approvals, proceeds and is constructed and operational within the timeframe intended by this program; and
  • A facility that is technologically feasible and economically viable; and
  • Establishing royalty credits for the consumption of feedstock in the project is in the public interest.4

And further, to identify projects that offer the best overall return to Alberta, with regard to:

  • Economic diversification through hydrocarbon value added development, and other strategic objectives of the Crown, including environmental performance;
  • Incremental revenue streams over time to provincial government and local provincial jurisdictions (e.g. corporate income tax, personal income tax, municipal property tax, etc.);
  • The economic benefits that a particular new facility brings to the provincial economy and local communities.
  • The social and environmental impacts of the new facilities.
  • Any other factors the department considers relevant.5

Diversification: Economic Boon or False Idol?

Significant challenges exist for the development of petrochemical facilities in Alberta, chief among them being higher costs of construction and distance from market. Criticisms have been raised that in adopting the PDP, the Government has chosen the more politically attractive, but less effective, option for increasing investment in the province. In contrast, the PDP has been cited as a significant boon to Alberta's economy by its potential to jumpstart employment and training opportunities for tradespeople in the province, presenting a solution to the recent exodus of skilled tradespeople from the province due to a shortage of construction opportunities. The Government has said that the PDP may see two or three new facilities built in Alberta, with "shovels in the ground as early as the end of this year."

The concept of economic diversification in Alberta has its detractors and supporters. Slavish adherence to a vague ideal of "diversification" and the benefits of "value-added" industries, without considering the concomitant costs, can lead to poor policy decisions. However, the PDP's encouragement of new petrochemical facilities could potentially represent a capital investment of $3 to $5 billion in Alberta.6 Recent reports on potential developments in the Industrial Heartland region northeast of Edmonton have reviewed the significant potential for new petrochemical processing facilities. With the Alberta Government taking the position of investing in these types of projects, while the PDP is not specific to the Heartland area one of the likely outcomes of the program is that the incentives will encourage construction of these projects in the near future.

The Department of Energy will choose projects, and the Minister of Energy will make the final selection of proposed projects eligible for the credits.

Only time will tell whether existing challenges to Alberta's petrochemical sector can be overcome by the incentives presented by the PDP. With or without the PDP, Alberta's production, whether raw resources or value-added products, remains landlocked and far from markets. The PDP has not forwarded a proposal to solve this issue, as the costs of transportation continue to render petrochemical refining uneconomical in many cases in Alberta. Will the PDP's incentive structure be sufficient to encourage capital investment and sow the seeds of a thriving industry? As industry observers and participants are becoming well accustomed, we will have to wait and see.

Footnotes

[1] Report, p 13.

[2] Guidelines, p 2.

[3] Guidelines, p 3.

[4] Guidelines, p 7.

[5] Guidelines, p 7.

[6] Fact Sheet, p 2.

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