Industry Committee on June 18th, 2007

[Tony Macerollo]

Well, let's step back. At a principled level, in terms of a petroleum monitoring agency, the CPPI does actually support that concept. In the case identified by Ms. Savage a couple of days ago, where you can advertise inventory slowdowns in advance, my economics training tells me that when that kind of information gets posted, you're going to see a more immediate response by way of price reactions. For instance, in the United States right now, when the energy information agency reports on inventory levels in the U.S., there's an immediate price response. In fact, it's not too different from how the Bank of Canada announces an interest rate and then what the banks do subsequently.

[The Chair, Conservative, James Rajotte]

Thank you, Mr. McTeague.

We'll go to Madame Brunelle.

[Paule Brunelle, Bloc, Trois-Rivières, QC]

Welcome, gentlemen, and thank you for being here today.

In your presentation, you correctly indicate that prices fluctuate. What consumers find really difficult is that prices jump in time for the Christmas and summer holidays. We are trying to understand what is behind that.

I believe that you represent the major oil companies in Canada. Imperial Oil, Petro-Canada, Husky Oil, EnCana, Suncor and Shell, who are the people that you represent, I imagine, racked up record profits of some $12 billion in 2006. That was an increase of 25% over 2005 and 70% over 2004.

My first question is a simple one. How can you tell us in your presentation that your companies are in a really difficult situation when you have been making record profits?

[Tony Macerollo]

I don't want to give you the impression that our companies are facing tough times. I do want to impress upon you that a number of public policy decisions are placing strains on the refining sector in this country. And let's make a distinction between upstream and downstream. We represent the downstream. That's when the oil arrives at the refinery, to the point where it goes to the retail station.

That has not been a profitable business for a very long time. If you look at historical data, it was the losing end of the business for quite a while. So I come back to you that at one point, a profit of 5¢ a litre.... Admittedly, that's a lot of litres, but $5 million is also a lot of money to do desulphurization, which doesn't get you either an extra cent or an extra litre of gasoline. They're both good purposes. The pollution requirement to lower sulphur is an excellent public policy decision, and we implemented it, but it does cost money.

As for the price fluctuations, Madame, there's no question that in the summer months there is an increase in demand for motor gasoline. There are only so many refineries in Canada and the United States. There is only so much product that can come in from Europe to increase the supply that is available. In the absence of more supply flexibility, you're going to see price movements.

This is not something we control. It's something our members do a pretty good job at, which pays off in dividends to the shareholders. But the refining sector—and I do underline in particular refining as opposed to the entire spectrum of activities—has not been a particularly profitable industry. It's only been that in the last couple of years.

[Paule Brunelle, Bloc, Trois-Rivières, QC]

Is it not at the refining stage that you are making enormous profits? In May of last year, a barrel of oil cost $73 and a litre of gas was selling at $1.06 in Quebec. In May of this year, oil was $61 a barrel and gasoline $1.15 a litre. That is a big gap. The difference is certainly the margin that you take at the refining stage. Is it because there are fewer refineries?

We have been told that a reasonable margin should be between 4¢ and 7¢ a litre. In March and April 2007, the refining margin was over 15¢ a litre. Even if you say in your presentation that $5 billion has been invested in modernizing infrastructure, that there is competition, and so on, I find it hard to explain to people in my riding, to average families, why your margins are so high. Is it not because you control the number of refineries in Canada?

[Tony Macerollo]

The first thing I would point out to you is that margin does not equal profit. When you see a refinery margin, whether it be 10¢ or 20¢, that is just a simple calculation of the difference between the wholesale price and the crude inputs.

What I'm telling you is that our profits are averaging about 1.5¢ a litre. The margin may be high, but at a given point in time, the margin also may very well be low. As it shows on the graph there, it is actually very volatile. But at the end of the day, I think what is most important, from people's point of view, in the context of what is a reasonable profit is really the question of the 1.5¢ a litre, not the volatility in the margin.

Do you want to add something, Dane?

[Dane Baily]

I just want to mention the example of sulphur reduction in gasoline and diesel. We have invested $5 billion across the country in the whole refining network, which added 1¢ a litre to the cost of gasoline production, 2¢ a litre to distillate fuel and 3¢ to heating oil. Those are additional costs that are absorbed. The margin has to cover those kinds of costs.

Since the early 1990s or the beginning of this decade, the refining margin has been high enough that refiners are starting to think about investing to increase production capacity. During the 1980s and 1990s, the return on investment was at an acceptably low level, which led to the closure of many refineries in the early 1980s. You no doubt experienced that situation in Montreal.

[Paule Brunelle, Bloc, Trois-Rivières, QC]

France imposed a cap on gasoline prices. Is that something that could be done here by the provinces? We know that this is under provincial jurisdiction.

[Dane Baily]

A number of provinces have regulated prices, and many studies have been carried out on this issue. The latest one, which was done by Gardner Pinfold in Nova Scotia, shows that maintaining price stability has cost the public and drivers in those provinces 1¢ a litre, which adds up to around $10 million. Our customers, who are also voters, show us every day that price is very important to them. They are prepared to go across the street to save two tenths of a cent per litre.

In my opinion, if we ask people if they want prices to be regulated, they will all say yes, because they expect that prices will go down. But that is not what happens.

[The Chair, Conservative, James Rajotte]

Thank you.

We'll go now to Mr. Carrie.

[Colin Carrie, Conservative, Oshawa, ON]

Thank you very much, Mr. Chair.

I want to thank both of the witnesses today, because I think you have clarified refining margin versus profit.

Some of the other witnesses we had, as Madame Brunelle was saying, said a 4¢ to 6¢ refining margin should be appropriate, and we're seeing those margins increase. I'm curious about your opinion on the trend. We see in Canada that all parties, all governments, are saying we need cleaner emissions, that we need to blend different biofuels and come up with newer technologies. And because this is a North American market, with differences between Canada and the States, we had another issue about new refineries in Canada.

How would you say the regulatory framework in Canada versus the United States plays into effect where companies make decisions on where to put refineries? Is there a big difference?

[Tony Macerollo]

Under ordinary circumstances I would suggest actually that the Canadian marketplace is a more stable, friendly marketplace, from a pro-competition point of view, but there have been some bizarre things happening.

There has not been a refinery built in North America—period—for many, many years. It's not just a Canadian phenomenon that it's difficult to attract capital to invest in these kinds of things. Even with the existence of refinery subsidies—those in the United States to build refineries—people are not taking up those offers.

One of your questions the other day was on tax policy. There are, in fact, incentives south of the border. We're not asking for that. As has been shown south of the border, they don't necessarily work.

In the example of renewable fuels, the federal government alone provides a 51¢ per gallon subsidy on ethanol-blended gasoline. In the last budget, the government announced that it is eliminating the equivalent of our blend or subsidy as of April 1 of next year and replacing that with a subsidy that goes directly to the producer, further widening the competitive disparity between those in Canada and our U.S. counterparts.

Those are just some of the examples. Provincial governments have done the same thing as well. There's a lot of tax policy that circles around our product, but on balance, when you look at it worldwide, the North American marketplace is, generally speaking, the lowest-tax fuel environment.

[Colin Carrie, Conservative, Oshawa, ON]

Thank you very much.

During the last hearing, Ms. Savage from the CIPMA, the Canadian Independent Petroleum Marketers Association, stated that differences in specs between Canada and the U.S., for example, with respect to the sulphur levels, have inhibited imports of gasoline into Canada.

To what extent is this a problem? If it is, what measures could the government take to rectify it?

[Tony Macerollo]

I was here for Ms. Savage's testimony, and what I understood her to say was that the specs themselves.... For example, sulphur is uniform. In fact, one of the truly Canadian success stories is that the implementation of the desulphurization plan was done in a way that we could stay competitive with our American counterparts who have also embarked on desulphurization.

The problem lies largely in, I would say, marginal spec differences that could easily be taken care of, so anything that can be done to open the border, so to speak, between Canada and the U.S. regarding specifications without compromising the public policy priorities in our regulations would be most welcome.

I'm not sure how difficult it would be. It would probably be quite tedious—sort of like NAFTA and rules of origin—but it would be well worth it.

[Dane Baily]

I could add something on that.

We have an unwritten understanding with Environment Canada to harmonize our fuel specifications with those of the U.S. We had a slight difference with the sulphur. We went a little bit faster because between the two U.S. dates we had an interim measure, which threw off our availability to bring imports in from anywhere in the States. Generally, it's an agreed-upon principle, and it's supported by NRCan, knowing that the more open the border is, the more transparent the prices are going to be, and the more competitive the market will be for the Canadian citizens. We've been pushing for that, and it's a very important part of our understanding with Environment Canada.

[Colin Carrie, Conservative, Oshawa, ON]

I'm from Oshawa, and I had a few complaints from constituents as far as shortages of certain blends go, like premium or medium blend. Why does that happen? In your opinion, does it really happen, and is it a problem? What are your members doing to prevent that, especially over the summer months coming up?

[Tony Macerollo]

The medium-grade blend in Ontario right now is problematic. That is a function of the Government of Ontario's specifications on renewable fuels.

As Ms. Savage explained, you cannot take regular, unleaded gasoline that has ethanol in it and mix it at the pump with high grade to get medium grade, because the chemistry just doesn't work. It's not a product that would be useful in the marketplace. It has to do with reed vapour pressure.

He's the engineer and I'm the economist. Perhaps he wants to explain what we mean.

The point is that it's not a desirable product. That is probably going to manifest itself at least in the short term as all fuel suppliers are moving up to the renewable fuel mandate set by the Government of Ontario, which came into effect only this year.

[Colin Carrie, Conservative, Oshawa, ON]

Is this something I'm going to tell my constituents to just get used to, that we're going to end up without it?

[Dane Baily]

We could conceivably see a disappearance of the middle grade. I don't know the exact sales of it, but it's a fairly low premium. As the prices go up, it's amazing how people are buying more and more of the regular grades. Some of the car manufacturers say that you should use premium, when technology-wise, if you do the research, it's more of a marketing ploy—because it is a premium car, it must need premium gas—as opposed to engineering saying that the combustion ratio is high enough that you actually need premium gas.

We want to see you do your homework.

[The Chair, Conservative, James Rajotte]

Thank you, Mr. Carrie.

That's quite interesting, Mr. Baily. The automakers will be asking to appear next.

Now we have Mr. Byrne, please, for five minutes.

[Gerry Byrne, Liberal, Humber—St. Barbe—Baie Verte, NL]

Tony, would you be able to describe the cross-border trade in gasoline between Canada and the U.S. for wholesale gasoline as opposed to crude? Are Canadian refiners supplying 100% of the Canadian wholesale gasoline supplies for Canada, or is there a swap between us?

[Tony Macerollo]

On an annualized basis we are net exporters. I'll get you the latest data from Statistics Canada. It works out to about 10% of the product that we make being exported.

[Gerry Byrne, Liberal, Humber—St. Barbe—Baie Verte, NL]

Here's a question for you.

Why were we so knocked by Katrina? Why is it that external forces from outside Canadian borders seem to wreak such havoc on Canadian retail gas prices? It's a real mystery to me and to my constituents as to why, if we are actual net exporters of wholesale gasoline products, either slumps or destruction of refining capacity outside our own borders impacts us so directly.

[Tony Macerollo]

It is because the border, simply put, is only useful in this industry for the calculation of Statistics Canada data. The reality is that it's a North American market for the product. In some respects you could also make the argument that not only do we take the prices, but Canadian consumers are competing with American consumers for the same product that, generally speaking, can move anywhere in North America.

It is frustrating. I realize that.

[Gerry Byrne, Liberal, Humber—St. Barbe—Baie Verte, NL]

It is frustrating, because it has the appearance of refiners actually taking advantage of very difficult circumstances in other parts of the world and applying that difficult circumstance in a speculative price increase for Canadian consumers here in Canada.

Just to use Katrina as an example, if we are net exporters of gasoline products, we're really not impacted, but they've appeared to say, let's take advantage of Katrina because the U.S. is basically prepared to buy more gasoline; the price is very inelastic, they need to buy it, so let's take advantage of that, and let's jack up domestic Canadian prices so that we can just take advantage of all that.