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Jun 30, 2015

Change in Alberta Carbon Emission Tax System

Alberta's climate change regulatory system, which was due to expire at the end of June, 2015, was extended to 2017, as an interim measure by the newly-elected NDP government.

Edward has been managing Canadian Equity Pool at CWB McLean & Partners for the past five years, and moving forward, will be more focused on our International investing strategy. 
Alberta’s climate change regulatory system, which was due to expire at the end of June, 2015, was extended to 2017, as an interim measure by the newly-elected NDP government. This announcement merely increases the emission reduction targets and corresponding penalties on facilities that are already regulated. It does not otherwise extend the scope of the regulation.

Unlike greenhouse gas (GHG) emission reduction schemes in jurisdictions such as British Columbia, Quebec, California, or even the European Union, that aim to reduce total (i.e. gross) GHG emissions within their boundaries, Alberta’s system aims to achieve an improvement in the GHG intensity of large industrial emitters within the province. Emission intensity is defined as the GHG emissions produced at a facility per unit of production (e.g. tonnes of GHG emitted per barrel of oil produced). Therefore, as long as the regulated facilities reduce their emission intensity, they are free to increase their total production and emissions. Thus, regulations in the province aim to improve carbon efficiency of large industrial operations, without constraining their total emissions. It simply attempts to reduce emissions compared to what they would have been under a “business-as-usual” scenario, but not reduce their emissions on an absolute/gross basis.

Alberta’s regulations only apply to individual facilities (not companies) that emit in excess of 100,000 tonnes of carbon dioxide equivalent (CO2e) annually. To get an appreciation of how large these facilities are, consider the fact that driving about 4,500km in a car emits only 1 tonne of CO2e. Thus, facilities that fall under the scope of these regulations are truly very large operations. For example, large-scale extraction plants in the oil sands, operated by the likes of Syncrude or Suncor, which burn large amounts of natural gas. Smaller facilities, such as oil and gas wells or pipelines, do not fall under the scope of the regulations since the emissions at such facilities would be significantly below the 100,000 tonne threshold.

As the regulation operates on a facility-by-facility basis, each facility is assigned a unique baseline against which it is required to reduce its emission intensity. The existing regulations require regulated facilities to reduce their intensity by 2% per year, up to a maximum of 12% under their baseline. The newly announced regulations increased the maximum target to 15% for 2016 and 20% for 2017.

If the facilities are unable to internally meet their emission intensity target, they are required to either purchase carbon offsets from the market or pay a penalty of $15/tonne, which is accumulated in the Climate Change and Emissions Management Fund. Note that since the targets are on an intensity basis and not absolute/gross emissions basis, the liability for the companies is calculated based on how much worse their emissions intensity is against their target intensity, multiplied by the total production. Therefore, as stated above, a facility can continue to increase its total production and total emissions without paying a penalty, as long as the carbon efficiency is improving (i.e. emission intensity is decreasing). On the other hand, a facility with steady, or even declining, production may have to pay a penalty if they are unable to reduce their emissions intensity.

Under the newly announced policy, the penalty will be increased to $20/tonne in 2016 and $30/tonne in 2017. This brings the province in line with the $30/tonne carbon tax that has been charged by BC for a number of years on almost all carbon emissions (including individual citizens, through a tax on gasoline and diesel).

The companies that are impacted the most from the new announcements are those that have large carbon intensive production facilities in Alberta, namely large oil and gas operations. We evaluated the companies that we hold, and found that among all held, only two are affected by the changes – Suncor and TransCanada.

Suncor is expected to be impacted to the tune of up to $0.50/barrel, which implies approximately 1% of their operating cash flow. It is not yet known the impact it may have on TransCanada, as the new regulations will not impact the pipelines, but may have an impact on TransCanada’s power plants in Alberta. We do not expect other companies to be impacted, as their facilities do not emit emissions that trigger the threshold.

As discussed, the new announcement simply extends the existing regulations out to 2017, beyond which point, the government intends to bring in new regulations. While it is outside the scope of this piece to forecast what shape those regulations will take, one can look at the other types of regulations – cap & trade and pure carbon tax – to get a sense of what form these regulations may take. Extending and further tightening the existing regulations is also a valid possibility.

In a carbon-constrained world, it was just a matter of time before stricter GHG regulations were adopted in Alberta and other jurisdictions across the country, and the world. Given the relatively small incremental price that companies in the province will be expected to pay in order to meet these stricter regulations, the extension of the regulations is a step in the right direction and one that is supported by a growing chorus within the oil and gas industry not only in Alberta, but globally as well.