Case Documents

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CT-2021-002

THE COMPETITION TRIBUNAL

IN THE MATTER OF the Competition Act, R.S.C. 1985, c. C-34, as amended; AND IN THE MATTER OF the acquisition by Secure Energy Services Inc. of all of the issued and outstanding shares of Tervita Corporation;

AND IN THE MATTER OF an application by the Commissioner of Competition for one or more orders pursuant to section 92 of the Competition Act.

BETWEEN:

THE COMMISSIONER OF COMPETITION

– and –

Applicant

SECURE ENERGY SERVICES INC.

Respondent

AFFIDAVIT OF RORY JOHNSTON (AFFIRMED FEBRUARY 24, 2022)

1. My name is Rory Johnston. I am the author of the Commodity Context newsletter and am currently employed by Melancthon Capital, a family investment office operating under the business name Price Street.

2. My area of expertise is global commodity markets with a focus in the North American energy industry and been researching the sector for a decade. I spent 6 years covering and eventually leading commodity market research in Scotiabank’s

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Economics Department, where I oversaw Scotiabank’s commodity price forecasts, sat on Scotiabank’s credit committee for commodity-related exposures, advised Scotiabank executives and clients on commodity market developments, and communicated Scotiabank’s commodity market views to media, industry, and other external audiences. Since leaving Scotiabank in January 2020, I have assisted in public and private investment portfolio strategy with Price Street, a family investment office, and in June 2021 began publishing Commodity Context, an independent commodity market research newsletter, to help assess ongoing developments in global commodities markets.

3. I have been asked by the Commissioner of Competition to prepare a report providing my opinion on the levels of oil production in the Western Canadian Sedimentary Basin in the next 2-3 years, 5 years, and 10 years.

4. I attach as Exhibit “A” to this affidavit my report setting out my opinion.

5. I attach as Exhibit “B” to this affidavit my curriculum vitae.

6. I attach as Exhibit “C” to this affidavit my Acknowledgement of Expert Witness.

Affirmed remotely by Rory Johnston at the City of Toronto in the Province of Ontario, before me in the City of Ottawa in the Province of Ontario on February 24, 2022 in accordance with O. Reg. 431/20, Administering Oath or Declaration Remotely.

___________________________________ Commissioner for Taking Affidavits Mallory Kelly

) ) ) ) ) ) ) ) ) ) ) ) ) )

__________________________ Rory Johnston

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_____________________________________ This is Exhibit A to the Affidavit of Rory Johnson Affirmed on February 24, 2 022

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CT-2021-002

THE COMPETITION TRIBUNAL

IN THE MATTER OF the Competition Act, R.S.C. 1985, c. C-34, as amended; AND IN THE MATTER OF the acquisition by Secure Energy Services Inc. of all of the issued and outstanding shares of Tervita Corporation;

AND IN THE MATTER OF an application by the Commissioner of Competition for one or more orders pursuant to section 92 of the Competition Act.

BETWEEN:

THE COMMISSIONER OF COMPETITION

– and –

Applicant

SECURE ENERGY SERVICES INC.

Respondent

EXPERT REPORT OF RORY JOHNSTON February 25, 2022

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Table of Contents

I. Assignment ...................................................................................................................... 1 II. Summary of Opinion ......................................................................................................... 1 III. Overview .......................................................................................................................... 2 IV. Factors Affecting Growth of Oil Production in the WCSB ................................................... 4 a) No Resource Availability Constraint ............................................................................... 4 b) Price Is the Biggest Driver ............................................................................................. 5 c) Tertiary Factors ............................................................................................................. 5 V. Canadian Oil Supply Cost Trends ..................................................................................... 5 VI. Assumptions .................................................................................................................... 7 a) Price ............................................................................................................................. 7 c) Differential and Egress .................................................................................................. 7 VII. Canadian Oil Production Forecast Comparison ................................................................ 8 IX. Conclusion ..................................................................................................................... 10

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Assignment 1. I have been asked by the Competition Bureau (“Bureau”) to provide my expert opinion on the outlook for oil production in the Western Canadian Sedimentary Basin (“WCSB”) over the next decade. Specifically, I have been asked to provide my opinion on the levels of oil production in the WCSB over a period of 2-3 years, 5 years, and 10 years.

Summary 2. The focus of this report is oil production in the WCSB. 3. After assessing a range of production Forecasts from three major regulatory and industry bodies—namely the Alberta Energy Regulator (“AER”), the Canadian Energy Regulator (“CER”), and the Canadian Association of Petroleum Producers (“CAPP”) 1 , my opinion is that it is highly unlikely that WCSB oil production will peak before 2030.

4. There is broad agreement amongst the assessed Forecasts from the CER, AER, and CAPP that production will continue to gradually increase through the end of 2030; only one scenario that foresees extremely low oil prices, which are highly unlikely in my opinion, sees WCSB oil production peak in the early 2030s. Indeed, given the relatively low prices assumed by the Forecasts even in their base case outlooks, in my opinion there is a higher probability that oil production in the WCSB exceeds rather than undershoots the average of the base case forecasts under consideration.

5. In this report I first provide an overview and then discuss the methodology for comparing production Forecasts. Following the methodology, I outline the primary factors that will determine the pace of WCSB oil production over the coming decade. I then examine production cost trends to provide a sense of the economic viability of production growth at various price levels. Subsequently, I outline core assumptions made by the various Forecasts and then compare the Forecasts between sources and scenarios. At the end of my report, I provide my concluding comments.

6. I reserve the right to revise my opinion if new information or data become available in the future.

1 These Forecasts from these three regulatory and industry bodies are the public outlooks most commonly referenced and relied upon by the Canadian oil industry.

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Overview 7. Canada is the world’s fourth-largest crude oil producer and holds the third-largest proven reserves of crude oil 2 . The broad WCSB producing region is concentrated in Alberta and Saskatchewan but includes some output from British Columbia and Manitoba. Oil in the WCSB includes reservoirs of conventional oil, extracted via traditional drilling and pumping

methods, and the oil sands, from which bitumen is extracted through in-situ 3 (i.e., underground) or surface mining methods. 4 Production has risen steadily for decades before accelerating materially in the 2010s.

8. Between 1990 and 2009, Canadian crude oil production growth averaged roughly 50

thousand barrels per day (“kbpd”) annually. Following an influx of investment associated with the “peak oil” supply sufficiency fears 5 and price rallies of the mid-2000s, the growth rate of Canadian oil production soared more than three-fold to 170 kbpd between 2010 and 2019. 6

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Chart 1: Total WCSB Liquids Production Outlook Comparison

6500 Thousand Barrels per Day

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CAPP Forecast Was Made in 2019 Before COVID Shock

2015

2020

Forecast

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2030

AER* CER (Evolving) CAPP CER (Current) Sources: CER Forecast 2021, AER Forecast 2021, CAPP Forecast 2019. Note: *AER Forecast only covers oil production in Alberta and has been combined with non-Albertan production from CER and CAPP for comparison. More information in Methology section.

9. Oil production growth in Canada and many other regions temporarily flatlined when faced with the combination of the COVID-19 negative demand shock 7 , resultant collapse in global oil prices, and acute forward uncertainty (hereafter “COVID shock”). Regardless, the WCSB continued to set all-time high production records during the peak producing winter months 8 .

2 Natural Resources Canada, Crude Oil Industry Overview. Accessed from: https://www.nrcan.gc.ca/our-natural-resources/energy-sources-distribution/clean-fossil-fuels/crude-oil-industry-overview/18078 3 Alberta Energy Regulator, In Situ Recovery. Accessed from: https://www.aer.ca/providing-information/by-topic/oil-sands/in-situ-recovery 4 Alberta Energy Regulator, Oil Sands Mining. Accessed from: https://www.aer.ca/providing-information/by-topic/oil-sands/oil-sands-mining 5 Bardi, Ugo. Energy Research & Social Science. Peak oil, 20 years later: Failed prediction or useful insight? Accessed from: https://www.sciencedirect.com/science/article/pii/S2214629618303207 6 Historical Canadian oil production data is split between two Statistics Canada tables. The first is for the period between 1985 and 2016 and can be found here: https://www150.statcan.gc.ca/t1/tbl1/en/cv.action?pid=2510001401; the second is for the period between 2016 and present, which can be found here: https://www150.statcan.gc.ca/t1/tbl1/en/cv.action?pid=2510006301 7 The IEA estimates that at the peak of the initial COVID-related mobility restrictions, oil demand fell by 20% versus pre-COVID levels. See: https://www.iea.org/reports/global-energy-review-2021/economic-impacts-of-covid-19 8 Production levels showing those new records in 2020 and 2021 can be accessed here: https://static.aer.ca/prd/documents/sts/st3/Oil_2020.pdf and https://static.aer.ca/prd/documents/sts/st3/Oil_current.pdf

10. Based on Forecasts in Table 1, and my analysis, it is my opinion that over the next decade, WCSB oil production growth is expected to begin accelerating again as the market gains more post-COVID certainty.

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Table 1: WCSB Total Liquids Production Outlook Comparison All Scenarios Show Growth Continuing Through 2030 (kbpd) 2 010 2 015 2020** 2 025 2030 CER (Current) 2,650 3,799 4,330 5,449 5,856 AER 2 ,665 3 ,808 4,359 5,315 5,734 CAPP** 2 ,699 3 ,840 4,777 5,326 5,625 CER (Evolving) 2,650 3,798 4,333 5,323 5,500 Average** 2,666 3,811 4,340** 5,353 5,679 ** CAPP forecast made in 2019 before COVID shock and was removed from 2020 average calculation

However, it is unlikely Sources: CAPP Forecast 2019, CER Forecast 2021, AER Forecast 2021. to reach the heady pace of the 2010-2019 investment boom. Growth in the coming decade will predominantly come from incremental “brownfield” expansions of existing facilities rather than the construction of new “greenfield” projects like those that characterized the prior investment impulse 9 . In my opinion, this will yield average annual growth of around 100 kbpd over the coming decade, as illustrated in Chart 1 above. In a pessimistic scenario where market, political, or idiosyncratic factors turn out to be less favourable than those assumed in these Forecasts, it is my opinion that WCSB liquids production would plateau in the early-2030s followed by a gradual decline rather than a material and earlier falloff in basin output.

Methodology and Source Notes 11. My opinion is informed by the published Canadian oil production forecasts from AER, CER, and CAPP. The publication of these four (4) scenarios across three (3) Forecasts spans a period of 3 years (CAPP in 2019 10 , AER in 2021 11 , and CER in 2021 12 ) which is why the histories diverge slightly around that time; however, all three forecasting bodies present similar medium- and longer-term outlooks for the WCSB production.

12. It is important to note that the most recent forecasts from CAPP were published in 2019, prior to the COVID shock to global oil markets; as such, CAPP’s forecasts are slightly higher than the CER and AER in the initial forecast years given lower realized production in 2020 and 2021. However, it is my opinion that over the medium-term (3-5 years) these effects will fade as assumed project timelines between the three Forecasts converge. 13

9 J. Peter Findlay, The Future of the Canadian Oil Sands: Growth potential of a unique resource amidst regulation, egress, cost, and price uncertainty. Accessed from: https://www.oxfordenergy.org/wpcms/wp-content/uploads/2016/02/The-Future-of-the-Canadian-Oil-Sands-WPM-64.pdf 10 Canadian Association of Oil Producers, 2019, Crude Oil Forecast, Markets, and Transportation. Accessed from: https://www.capp.ca/resources/crude-oil-forecast/ [CAPP Forecast]. 11 Alberta Energy Regulator (AER), June 2021, ST98: Alberta Energy Outlook. Accessed from: https://www.aer.ca/providing-information/data-and-reports/statistical-reports/st98 [AER Forecast]. 12 Canada Energy Regulator (CER), 2021, Canada’s Energy Future 2021. Accessed from: https://www.cer-rec.gc.ca/en/data-analysis/canada-energy-future/2021/index.html [CER Forecast]. 13 These Forecasts typically work on incremental growth from a base year. Given that CAPP’s 2020 base was much higher than actually occurred due to the COVID shock, it starts that growth from a higher point; however, the forecasts from the AER and CER both have steeper growth and eventually converge with the higher outlook from CAPP.

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13. 2020 is the latest full calendar year for which production data was available for the AER and CER Forecasts, published in 2021; as such, it will be treated as the base year against which production growth will be assessed.

14. The other important consideration relates to the CER Forecast which provides two different scenarios. The “Current Policies” scenario takes existing climate legislation and regulatory frameworks and assumes they remain stable through the forecast horizon (e.g., Canadian carbon taxes advance along their current schedule 14 ), whereas the “Evolving Policies” scenario assumes ever-tighter climate policies both in Canada and around the world 15 —the biggest difference between the scenarios as they pertain to Canadian production forecasts relates to the lower assumed price of oil 16 given lowered global demand assumptions.

15. The outlooks from the CER, AER, and CAPP were chosen because they are the public industry forecasts that are, in my opinion, most commonly used by both the oil industry itself as well as analysts of the industry to benchmark future base case expectations.

16. Below I describe the similarities and differences between the outlooks and assumptions in the three forecasts. It is important to note that the AER Forecast only covers oil production in Alberta. To arrive at an approximation of the AER’s outlook for the entire WCSB, I used the average of the CER’s Current Policies scenario and the CAPP’s Forecast and combined it with the AER’s outlook for Alberta conventional and oil sands production.

17. All production and price data, both historical and forecast, are taken directly from the named source unless otherwise specified. 17 This is especially important to note with the CER’s price forecasts, which are expressed in real 2020 dollars—this explains why the histories don’t line up in the price chart.

Factors Affecting Growth of Oil Production in the WCSB 18. In my opinion, the following factors are relevant in analyzing the growth of oil production in the WCSB.

a. Significant oil reserves: Growth of oil production will not be constrained by resource availability in the WCSB. With 171 billion barrels of proven oil reserves 18 , there is

14 Government of Canada, Update to the Pan-Canadian Approach to Carbon Pollution Pricing 2023-2030, accessed via: https://www.canada.ca/en/environment-climate-change/services/climate-change/pricing-pollution-how-it-will-work/carbon-pollution-pricing-federal-benchmark-information/federal-benchmark-2023-2030.html 15 Canadian Energy Regulator, Canada Energy Future 2021, Page 2, Accessed from: https://www.cer-rec.gc.ca/en/data-analysis/canada-energy-future/2021/canada-energy-futures-2021.pdf 16 The current policies scenario assumes a flat Western Texas Intermediate (“WTI”) price of $66 per barrel (real 2020 dollars) vs the evolving scenario that assumes prices fall to $48.50 per barrel (real 2020 dollars) by 2030. 17 WTI futures curve was derived from annual Bloomberg fair price calendar year quotes accurate as of February 21, 2022. Current futures data for comparison can be accessed from: https://www.cmegroup.com/markets/energy/crude-oil/light-sweet-crude.quotes.html 18 Natural Resources Canada. Oil Resources. Accessed from: https://www.nrcan.gc.ca/energy/energy-sources-distribution/crude-oil/oil-resources/18085

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ample resource for growth given sufficiently attractive market economics, enabling regulatory environment, and egress capacity from the WCSB to consuming regions like the United States and overseas markets, as described in the following paragraphs.

b. Price Is the Biggest Driver: The global price of crude oil is the single-largest determinant of the WCSB’s growth prospects over the next decade. The price of oil is a difficult variable to accurately forecast in the best of times. This challenge is exacerbated by significant historic price fluctuations over the past two years. 19 With WTI prices in the $90-100 per barrel range at time of writing 20 , in my opinion the most likely scenario sees oil prices ease over the coming year and resettle in the $70-80 per barrel range over the next 5 years—which is higher than the assumed price outlooks of the scenarios considered in this report. This is higher than what was typically considered sustainable in the pre-COVID oil market; however, it is possible that prices will remain far higher than that range if the previously rapid pace of US shale production fails to rematerialize 21 .

c. Tertiary Factors: Additional factors that will affect the pace of growth include (i) the availability of pipelines and alternative egress, (ii) the industry’s disposition toward long-cycle sources of supply like the oil sands, and (iii) the strictness of domestic Greenhouse Gas (“GHG”) emissions policies coupled with industry efforts to abate those emissions (i.e., Carbon Capture, Utilization, and Sequestration (“CCUS”)). I further describe these factors below. 22

19. I consider these factors where appropriate in my analysis below. Canadian Oil Supply Cost Trends 20. The operating costs associated with oil production are important when considering the long-term production outlook because they inform the effective sensitivity of the WCSB’s oil production to global oil prices.

19 The oil market is still in shock after going through its worst-ever bust after closing at a negative price for the first time in history on April 20, 2020 and a historic boom where global Brent Crude prices reached $100 per barrel for the first time in more than 7 years. 20 Energy Information Administration, Open Datta, Cushing, OK WTI Spot Price FOB Daily. Accessed from: https://www.eia.gov/opendata/qb.php?sdid=PET.RWTC.D 21 Prior to the COVID-19 pandemic, US tight oil (i.e., shale) producers demonstrated a willingness to grow production by millions of barrels per day each year with prices far lower than they are today but in the process made 100s of billions of dollars in investments that failed to return; today, the US shale producers seem far less willing to grow at all costs, which means that in all cases all else equal oil prices are going to be sustainably higher than what was considered realistic prior to the pandemic. 22 Another tertiary factor could include access to capital considering a broad trend amongst international producers and financial institutions to divest from oil sands financing on ESG grounds, though increasingly these companies appear likely to be able to drive incremental growth from generous operational cashflow given the high price environment, in my opinion.

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21. Operating costs, as assessed by the Alberta Government’s Treasury Board and Finance in 2019 23 , for both mining and in-situ projects fell materially following the oil price collapse of 2014—from C$34.9 per barrel in 2014 to C$27 per barrel in 2018 for mining, and from C$18.1 per barrel in 2014 to $10.9 per barrel in 2018 for in-situ production

22. While some of that cost reduction was due to the lower price of natural gas and thus vulnerable to commodity price volatility like we are currently seeing, the bulk of cost reductions (84% in mining, 56% for in-situ) were related to broader supporting supply chain issues including those related to labour, services contracting and equipment rentals, and supplies and materials. These supply chain costs are far more enduring than commodity price inputs and reflect the general easing of the exceptionally tight Alberta labour and services market that resulted from the acute influx of investment dollars from the mid-2000s through the mid-2010s. 24

23. The capital expenditures required to sustain ongoing oil sands production (i.e., “sustaining capex”) declined similarly: from C$9 per barrel in 2015 to C$4.6 per barrel in 2018 for in-situ projects and from C$6 per barrel to C$3.8 per barrel for mining projects. The breakeven price of new construction today has declined substantially from 2013 when it had risen to more than $80 per barrel, though it still remains relatively high by global standards at around $50-55 per barrel (factoring for a 10% rate of return hurdle). 25

24. Breakeven production costs for conventional crude oil in Alberta, factoring for a 10% rate of return as assessed by the AER 26 , range from C$35.41-86.40 per barrel. However, Montney horizonal oil wells are an especially high-cost outlier; removing Montney horizonal oil wells 27 from the sample lowers the range to C$35.41-63.07 per barrel and costs fall further for that sample to C$33.29-49.75 per barrel if you assume a multi-well pad with 4 wells, which better reflects the type of conventional investments that we will see over the coming years, in my opinion.

25. Considering the material cost declines witnessed in oil sands production, in my opinion it is reasonable to expect steady incremental growth in WCSB oil production through the end of 2030. My opinion would hold even with oil prices in the $50-70 per barrel range, much lower than the current price levels above $90 per barrel.

23 Alberta Treasury Board and Finance, July 5, 2019, Economic Spotlight: Oil Sands Industry Adjusts to Lower Oil Prices, Accessed from: https://open.alberta.ca/dataset/13ab3f73-6e4e-4aac-b56b-bff38800aa65/resource/e5c850e9-d479-494c-9343-284320d10ac7/download/2019-06-economic-spotlight.pdf 24 ibid 25 ibid 26 Alberta Energy Regulator, Crude Oil Supply Costs. Accessed from: https://www.aer.ca/providing-information/data-and-reports/statistical-reports/st98/crude-oil/supply-costs 27 In my opinion this is a reasonable adjustment to make given that future Montney production is expected to be dominated by natural gas liquids rather than crude oil. See: https://www.cer-rec.gc.ca/en/data-analysis/canada-energy-future/2018-natural-gas-liquids/index.html?=undefined&wbdisable=true

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Assumptions 26. The forecasts I have analyzed all rely on a series of assumptions; I have expanded on the two most important assumptions below. All assumptions are imperfect but explicitly stated assumptions as found in many of these forecasts allow a better understanding of the presumed relationship between variables—for example, investment and price. This allows an observer to increase or decrease the expected production outcome if a major variable, for example price, was to materially shift from the scenario assumption.

27. Price: As can be seen in Chart 2, the AER Chart 2: WTI Price Forecast’s 2020 base case assumed that WTI Outlook Comparison prices would remain below $60 per barrel until 130 2025 and then below $70/ per barrel until 120 Forecast 2030. The CER Forecast holds prices flat at 110 $66 per barrel (2020 dollars) in its Current 100 Policies scenario, while in its Evolving Policies scenario the price falls steadily from $66 to 90 $48.50 per barrel (2020 dollars) by 2030. 80 While the CAPP Forecast does not explicitly 70 state what price it assumes, in my opinion it is 60 reasonable to assume that it is similar to the 50 CER Forecast’s Current Policies scenario of 40 $66 per barrel (2020 dollars) given the similar WTI Price USD per Barrel production growth outlook between CAPP’s 30 2005 2010 2015 2020 2025 2030 forecast and the CER’s Current Policies AER (Nominal) CER Evolving (2020$) scenario. WTI prices that remain flat in the CER Current (2020$) Futures Curve mid-$60s per barrel through 2030 would Sources: CER Forecast 2021, AER Forecast 2021, Bloomberg. provide steady returns according to the Alberta Treasury Board cost estimates discussed above and are ample reason for steady production expansion well into the future, which is exactly what three of the four scenarios show. The CER’s Evolving Policies scenario shows production growth mostly coming to an end by 2030 but recall that this scenario assumes oil prices fall to less than half of current levels by 2030, a highly unlikely commodity price outcome in my opinion. The reasonably steady pace of growth would not over-stress service sector supply chains and cause cost inflation, in my opinion. These forecasts, the higher of which was $66 per barrel in 2022, are far below current spot prices which have traded as high as $95 per barrel already in 2022. The CAPP Forecast does not report on the price assumption for WTI.

28. Differential and Egress: Oil prices are quoted based on different benchmarks that reflect both quality-related and geography-related attributes. West Texas Intermediate (“WTI”) is a benchmark representing light sweet oil produced in Cushing, Oklahoma, while Western Canadian Select (“WCS”) represents a heavier, sour stream of diluted bitumen priced in Hardisty, Alberta. Since WCS is heavier and further from transportation to main markets, WCS is priced at a discount to WTI. 28 The WCS differential has been an economic headwind

28 Alberta Energy, Not All Oil Is Equal: Explaining the Differences. Accessed from: https://open.alberta.ca/dataset/5e6f425a-e1c7-441a-9aa0-64890e4ecade/resource/b7080f88-f748-45f0-8294-81d32a7a834c/download/13-Explaining-oil-price-differentials-formatted.pdf