Canadian Oil Sands Ltd. (TSX: COS) has been on my watch list for months.
Canadian Oil Sands represents a 36.74% ownership interest in the Syncrude project in Northern Alberta. The other two-thirds of the project is owned by such heavyweights as Imperial Oil (25%), Suncor (12%), and a handful of others. The project has been operational since 1977, with Canadian Oil Sands’s portion of production coming in at approximately 100,000 barrels of oil per day.
Unlike other oil sands projects, Syncrude upgrades its production on site, running it through a series of processes that turn the thick, tar-like bitumen into something close to light sweet crude, which is much easier for refineries to deal with. It adds a cost to the whole operation, but it results in a sale price very close to the price of WTI. This is usually in the neighborhood of $20 per barrel of extra revenue compared to other oil sands operators.
Naturally, this process adds extra costs to the equation, especially lately. Over the last few years, Canadian Oil Sands has been forced to make major repairs on four out of five upgraders, to the tune of a few billion dollars. This is projected to improve in 2015, as capex is expected to drop nearly $500 million to about $550 million in 2015.
But even though capital expenditures are forecasted to be lower, management still reacted to low crude prices by cutting the company’s $0.35 per share quarterly dividend by nearly 50%, to $0.20. There are likely to be many dividend investors disappointed by the decision.
But one quick look at the company’s projected 2015 numbers shows the dividend cut was a prudent move. If oil averages $75 per barrel in 2015, Canadian Oil Sands will have a projected operational cash flow of $730 million. Subtract the $550 million in capital expenditures, and you have $180 million available to pay shareholders. That works out to about $0.40 per share available to pay a dividend worth $0.80 annualized going forward.
Why would I place confidence in a company only projected to earn about half of its dividend going forward?
There are a few reasons, actually. The first one is pretty simple — I do not believe that we’ll see oil under $80 for a significant period of time. World production is too expensive for oil to stay this low. There aren’t many producers who can make money at $65 oil.
Secondly, I believe the company can cut costs. 2015’s projections call for an operating cost of approximately $47 per barrel, which is as high as its ever been. There’s plenty of fat to cut out of operations, starting with staff, and 2015 looks to be a year where worker supply will finally overtake demand, which should suppress wages.
And finally, there are the company’s massive reserves. Based on a production estimate of 100,000 barrels of oil per day, Canadian Oil Sands’ share of the Syncrude project has enough reserves to keep production going for an additional 45 years. That’s a long time.
Or, looking at it another way, Canadian Oil Sands has approximately 1.6 billion barrels of proved and probable reserves. Based on the company’s enterprise value of $8.1 billion, I’m paying just over $5 per barrel of oil in the ground. That’s as cheap as the company’s been in years.
I’m writing this before the market opens on Thursday morning. I strongly suspect that many dividend investors will be throwing in the towel on Canadian Oil Sands, causing shares to sink even further. If that happens, I couldn’t be happier. I’ll be there, scooping up as many as I can afford. I’m not about to let this opportunity go to waste. Perhaps you should join me.
