Decarbonising the oil sands

Blessed with the world’s third largest trove of oil, Canada is in a strong position to sooth global energy insecurities, particularly those of it’s southern neighbour. However, much of Canada’s oil production is highly carbon intensive at present, and a major contributor to the country’s overall carbon emissions.

Canada’s largest source of export revenue, contributing 7% of the country’s GDP, the oil and gas sector is also the largest source of emissions, accounting for approximately 179 Mt CO2e, or 27% of the country’s annual greenhouse gas emissions (GHG) in 2020.

Around 45% of the sector’s emissions (81 Mt CO2e), or ~12% of Canada’s total emissions arise from oil sands production. With the majority of Canada’s oil sands located in the province of Alberta, the region also accounts for the lions share (~75%) of its oil and gas sector emissions.

Oil sands typically involves injecting steam deep underground in an effort to make the bitumen lying beneath more liquid and so it can then be pumped to the surface.

Alternatively, open-pit, or ‘in-situ’ mining (where 20% of Canada’s accessible oil sands reserves lie) involves large clumps of earth being scraped, crushed and then blasted with hot water to release the bitumen embedded within.

The final stage involves upgrading the bitumen into what’s known as synthetic crude oil, enabling it to be transported by pipeline and used as a feedstock by a refinery.

Canadian oil sands are far more emissions intensive to produce (known as Scope 1 emissions) than most other fossil fuels. In 2020 the average emissions intensity of Canadian heavy oil projects was estimated to be ~70 kgs CO2e per barrel (bbl) of oil. That compares with 15-50 kgs CO2e per barrel for most other crudes.

In contrast to lower carbon intensity crudes, Canadian oil sands exhibit a much wider range in their emissions intensity; ranging from 40 kgCO2e per bbl to 180 kgCO2e per bbl depending on the project.

Canada is targeting a cut in its carbon emissions of at least 40% by 2030, before achieving net zero emissions by 2050. To do that the Canadian government is calling for the country’s oil and gas sector (both upstream and downstream) to cut emissions by 42% (85 Mt CO2e), by 2030 compared with 2019 levels. Oil sands production will be required to share in that burden, cutting emissions by 34% (28 Mt CO2e) by 2030.

What options are available to oil and gas producers to cut emissions?

There have been significant improvements in emissions intensity over the past decade. Around ~85 kg CO2e per bbl was emitted by Canadian oil sands production in 2010. By 2020 this has fallen to 69 kg CO2e per bbl, a decline of 20%.

Existing mines have cut their emissions intensity through energy efficiency measures (upgrades to equipment, lead detection and repair technologies, etc.), fuel switching (replacing petroleum coke boilers with natural gas), and electrification (expanding the use of low-carbon or renewable fuels for heat and energy).

Carbon, capture and storage is starting to play a major role in cutting emissions from the oil sands, receiving additional support in the form of investment tax credits. The Pathways Alliance, a consortium of Canada's six largest oil sands companies, announced in October that they will spend $16.5 billion before 2030 on the world’s most ambitious CCS facility (see Everything carbon investors really need to know about carbon capture, use and storage (CCUS)).¹

The project will capture emissions from more than 20 oil sands facilities in northern Alberta, storing an estimated 10 Mt CO2e underground per year. If the consortium achieve this it will go a long way towards meeting the 34% (28 Mt CO2e) cut in emissions targeted for the oil sands by 2030.

One of the more recent factors driving improvements comes from a mining project process known as paraffinic froth treatment (PFT). This is where parts of the oil sands that are most energy intensive to treat are removed, reducing the need for upgrading and so avoiding additional carbon emissions. About 12% of oil sands production currently involves the exploitation of PFT, and the resulting product has a similar emissions intensity to the average crude refined in the US. However, clearly more needs to be done.

Canada’s approach to pricing carbon

That’s where carbon pricing comes into play.

The Canadian government already has a national carbon tax. The federal Greenhouse Gas Pollution Pricing Act sets a minimum national standard on GHG emissions pricing.

In November 2020, Prime Minister Trudeau announced that the carbon tax will increase by C$15 per tonne each year, rising from C$50 per tonne in 2022 (equivalent to US$37 per tonne) to C$170 ($125) per tonne in 2030. The national carbon tax allows the governments of Canada’s provinces and territories to set their own carbon taxation as long as it meets the minimum federal standard.

Two potential approaches to capping emissions from the oil and gas sector have recently been outlined as part of a public consultation. Both options involve building on the existing national carbon tax, increasing the incentive for oil and gas firms to find ways to curtail their emissions.

Option 1 involves a cap-and-trade system that sets regulated limits on emissions from the oil and gas sector. Option 2 involves modifying the current national carbon tax to provide an additional incentive for heavy emitters to drive down their emissions. Both options would apply to direct emissions from upstream oil and gas production only and involve setting an emissions cap trajectory.

• Option 1: The cap-and-trade system would apply specifically to Canada’s upstream oil and gas industry and would be additional to the national carbon tax and other federal environmental regulations. The industry’s total emissions would be divided into allowances and allocated to individual companies - either fully or partially through auction process. As the emissions cap is tightened, companies that fail to cut their emissions fast enough would have to buy emission allowances from other companies operating in the sector who have successfully cut their own carbon emissions.

• Option 2: The government will modify the existing carbon tax to ensure that the oil and gas sector achieves the emissions cap trajectory. This oil and gas-specific carbon price would be set by the government at a level thought necessary to incentivise the sector to meet the emissions cap trajectory and would be evaluated at five year intervals.

The consultation period closed on 30th September. A decision is currently expected to be made by the spring, with any change to the regulations expected to be implemented by the end of 2023.

Crude’s low carbon differentials

Today, crude price differentials typically reflect the value that the refiner expects to achieve from processing various grades of crude oil. The density of the crude, the sulphur content, its acidity, the cost of transportation and refining all influence the price that a refiner is willing to pay for a particular crude.

Canada's benchmark heavy crude, Western Canada Select (WCS), typically trades at a discount to West Texas Intermediate (WTI). However, during the first three quarters of 2022 the discount widened significantly to an average of ~$16.67 per barrel, although it has widened to ~$30 per barrel more recently. Increased competition from discounted Russian crude, outages at US refineries as well as a significant release from the US Strategic Petroleum Reserve (SPR) have led to a sharp widening in the differential.

Under a carbon constrained world, high carbon intensity crudes will be at a big disadvantage compared with lower carbon intensity crudes. Crudes with relatively high carbon intensities, as WCS is currently, could see their price discounts widen even further if they don’t reduce their emissions intensity significantly (see Carbon risk dulls allure of gold miners).

For upstream oil producers in Canada, the introduction of carbon pricing should accelerate action to decarbonise their upstream operations. The top producers will be able to close the gap, or even overtake, their low carbon global competitors. Establishing a secure, sustainable and marketable low carbon crude stream is the big prize for Canada’s oil sands producers.

Technological change and carbon pricing may be able to target one form of pollution, carbon emissions, but doing so should not be license to neglect other forms of environmental neglect. That should be the case whatever the industry.

In-situ mining of oil sands in particular is especially damaging to the environment, polluting waterways, stripping down vast areas of forest, and spewing nitrogen and sulphur dioxides into the atmosphere.

Decarbonising the oil sands is just the beginning.

International pressure from environmentalists, politicians and capital markets have pushed many oil and gas majors to exit the Canadian fossil fuel sector entirely (see Carbonomics returns: The past, present and future cost of decarbonisation). Since 2017, Shell, BP and Total have all sold, their remaining Canadian projects, citing carbon emissions and other environmental impacts, and unattractive returns as the justification.

The irony of course is that it is the departing oil and gas majors who wield the financial firepower and technical expertise necessary to deliver significant reductions in the sectors emissions intensity. In their place, several independent, and significantly smaller companies have entered or expanded into the void left by the departing majors. As Canadian oil sands decarbonises the majors may rue the day they divested of their oil sands assets, only for smaller more nimble competitors to capture the carbon premium.

1. The Pathways Alliance includes Cenovus Energy, Canadian Natural Resources, Imperial, MEG Energy, Suncor Energy, and most recently ConocoPhillips Canada.