Editorial: Teck, Freeport burned by falling oil and gas prices

It must have seemed like a good idea at the time a few years ago when Teck Resources and Freeport-McMoRan management bought deeper into the oil and gas sector and diversified further away from their mining businesses, but those decisions to dabble have come back to sting both companies.

In a new phase of financial reporting, miners like Teck and Freeport are posting major non-cash losses related to falling commodity prices, rather than the scenario several years ago when writedowns more often stemmed from cost overruns at projects under construction, or overpayment for acquisitions.

In its quarterlies released on Oct. 22, Teck recorded impairment charges totalling $2.2 billion on an after-tax basis ($2.9 billion pre-tax), including $1.5 billion on its metallurgical coal assets, $340 million on the Andacollo copper assets and $343 million on its 20% share of the Fort Hills oilsands megaproject in Alberta.

The rest of Fort Hills’ ownership is split between Suncor Energy (40.8%) and Total E&P Canada Ltd. (39.2%), a subsidiary of Paris-based Total. With its partners, Teck’s board made the decision in October 2013 — at a time of peak oil — to go forward with Fort Hills, with Teck’s share of the anticipated construction bill coming in at a hefty $2.9 billion.

The prolonged downturn in mining recently forced Teck to raise almost $1 billion in two streaming transactions: a silver stream with Franco-Nevada at the Antamina mine, and a gold stream with Royal Gold at the Andacollo mine.

With these fresh funds, the diversified major paid down its debt by $400 million and beefed up its cash position to $1.8 billion — more than enough to fund its remaining $1.5-billion share of the capital needed at Fort Hills, where construction is 43% complete, and remains pretty much on time and on budget to start production by late 2017. This year alone, Teck is spending $850 million of Fort Hills, where 4,800 construction workers are now on-site.

Once in full swing, Teck’s estimated production from Fort Hills will be 13 million barrels of bitumen a year, and it will hopefully come on strong just as production from the tight oil shale centres in the U.S. peters off and eliminates the glut of oil in North American markets that has so weighed down oil prices globally.

Other parts of the Teck business have benefitted from the falling oil price, though. The oil price decline, a falling Canadian dollar and higher copper grades have reduced Teck’s costs in its copper and coal business units by US20¢ per lb. and US$20 per tonne, compared to last year.

Meanwhile, Freeport’s oil and gas writedowns are on an altogether different scale than Teck’s.

Freeport just announced it lost US$3.8 billion on US$3.7 billion in revenue in the third quarter, and has lost US$8.2 billion so far this year. A whopping US$3.7 billion of the third-quarter loss is attributed to writedowns in its oil and gas division.

Showing just how swift the fall in oil and copper prices have been, Freeport saw its revenue plummet from US$5.7 billion in the third quarter of 2014 to the US$3.7 billion seen this last quarter.

Freeport-McMoRan borrowed heavily to acquire its energy assets, resulting in debt ratios that are currently much higher than other mining companies, such as BHP Billiton and Rio Tinto. Freeport-McMoRan’s total debt in the third quarter stood at US$20.7 billion.

During a conference call, Freeport CEO Richard Adkerson said his firm is “undertaking a strategic review of alternatives for our oil and gas business, and whatever we do is supportive of our company’s financial condition. If we do separate the business, it’ll be in a way of where it’s sustainable on its own and can trade well. But that’s subject to review, and we’re pursuing it aggressively.”

He added that Freeport is “coming up with alternatives on how to evaluate … there’s a degree of urgency to deal with these capital costs, and I’m not in any position to give redline time dates.” He said later that six months is a “reasonable” time to expect the decision.