EX-99.1 2 a2239090zex-99_1.htm EX-99.1
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EXHIBIT 99.1

Report to Shareholders for the second quarter ended June 30, 2019


GRAPHICS

All financial figures are unaudited and presented in Canadian dollars unless noted otherwise. Production volumes are presented on a working-interest basis, before royalties, except for Libya, which is on an entitlement basis. Certain financial measures in this document are not prescribed by Canadian generally accepted accounting principles (GAAP). For a description of these non-GAAP financial measures, see the Non-GAAP Financial Measures Advisory section of Suncor Energy Inc.'s (Suncor or the company) Management's Discussion and Analysis dated July 24, 2019 (MD&A). See also the Advisories section of the MD&A. References to Oil Sands operations exclude Suncor's interests in Fort Hills and Syncrude.

"This quarter, we delivered $3.0 billion in funds from operations, a new second quarter record, and $1.3 billion of operating earnings due to our team delivering solid operating performance while taking full advantage of our flexibility to maximize our cash flow, despite the impact of curtailments," said Mark Little, president and chief executive officer. "Strong cash flow generation and our commitment to capital discipline allowed us to return value to our shareholders through $658 million in dividends and $552 million in share repurchases while, at the same time, strengthening our balance sheet."

Funds from operations(1) were $3.005 billion ($1.92 per common share) in the second quarter of 2019, compared to $2.862 billion ($1.75 per common share) in the prior year quarter, an increase of 10% per common share.

Cash flow provided by operating activities, which includes changes in non-cash working capital, was $3.433 billion ($2.19 per common share) in the second quarter of 2019, compared to $2.446 billion ($1.50 per common share) in the prior year quarter.

Net earnings were $2.729 billion ($1.74 per common share) in the second quarter of 2019, compared to $972 million ($0.60 per common share) in the prior year quarter and included a one-time deferred income tax recovery of $1.116 billion ($0.71 per common share) to reflect the staged reduction of Alberta's corporate income tax rate from 12% to 8% over the next four years.

Operating earnings(1) were $1.253 billion ($0.80 per common share), compared to operating earnings of $1.190 billion ($0.73 per common share) in the prior year quarter, an increase of 10% per common share.

Total Oil Sands production during the second quarter of 2019 increased to 692,200 barrels per day (bbls/d), from 547,600 bbls/d in the prior year quarter. Despite being limited by production curtailments, Oil Sands achieved a new second quarter production record, with the increase due to improved Oil Sands utilization and an increase in Fort Hills production. Fort Hills production was 89,300 bbls/d, compared to 70,900 bbls/d in the prior year quarter.

Refining and Marketing (R&M) delivered strong financial results, despite the impact of planned maintenance in the quarter, due to improved refining margins and higher crude throughput. Quarterly funds from operations were $932 million and operating earnings were $677 million, compared to $892 million and $671 million, respectively, in the prior year quarter.

Exploration and Production (E&P) had 111,700 bbls/d of production in the second quarter, including improved Hebron production of 23,600 bbls/d, following the completion of the sixth production well during the quarter.

During the second quarter of 2019, the company issued $750 million of 3.10% senior unsecured medium term notes and repaid $1.3 billion of short-term debt and US$140 million of maturing higher interest long-term debt, further improving the company's liquidity and balance sheet flexibility.

The company paid $658 million in dividends and repurchased $552 million of its common shares during the quarter.


GRAPHIC
(1)
Funds from operations, operating earnings and ROCE are non-GAAP financial measures. See page 5 for a reconciliation of net earnings to operating earnings. See the Non-GAAP Financial Measures Advisory section of the MD&A.

(2)
Includes the impact of the Government of Alberta's mandatory production curtailments.

(3)
ROCE excluding major projects in progress would have been 8.7% in the second quarter of 2019 excluding the $1.116 billion deferred tax recovery for the Alberta corporate income tax rate change.

Financial Results

Operating Earnings

Suncor's second quarter 2019 operating earnings were $1.253 billion ($0.80 per common share), compared to $1.190 billion ($0.73 per common share) in the prior year quarter. The increase in operating earnings was primarily related to higher overall crude production and refinery crude throughput due to a less intensive, planned maintenance program at both Oil Sands and R&M, as compared to the prior year quarter. In addition, improved reliability at Syncrude and the ramp up of Fort Hills and Hebron production throughout 2018 further increased crude output during the second quarter of 2019, which was only partially offset by a decrease in production associated with the Alberta government's mandatory production curtailments. Other positive factors influencing operating earnings in the second quarter of 2019 were the impact of a weaker Canadian dollar on U.S. dollar denominated sales and improved refining margins.

Second quarter 2019 operating earnings were negatively impacted by lower WTI and Brent benchmark crude prices, an unfavourable first-in, first-out (FIFO) and intercompany inventory change, and an increase in royalties, operating and transportation expenses, consistent with the increase in production. In addition, depreciation, depletion and amortization (DD&A) expenses were higher than the prior year quarter, due primarily to the staged commissioning of Fort Hills in 2018 and the increase in depreciation associated with the transition to International Financial Reporting Standards 16 Leases. Exploration expenses increased due to non-commercial drilling results off the east coast of Canada and in the United Kingdom North Sea.

Bridge Analysis of Operating Earnings ($ millions)(1)

GRAPHIC

(1)
For an explanation of this bridge analysis, see the Non-GAAP Financial Measures Advisory section of the MD&A.

Net Earnings

Net earnings were $2.729 billion ($1.74 per common share) in the second quarter of 2019, compared to net earnings of $972 million ($0.60 per common share) in the prior year quarter. In addition to the factors impacting operating earnings discussed above, net earnings for the second quarter of 2019 included a one-time deferred income tax recovery of $1.116 billion associated with a staged reduction to the Alberta corporate income tax rate of 1% each year from 2019 to 2022, an after-tax gain of $139 million on the sale of the company's interest in Canbriam Energy Inc. (Canbriam) and a $221 million unrealized after-tax foreign exchange gain on the revaluation of U.S. dollar denominated debt. Net earnings in the prior year quarter included an unrealized after-tax foreign exchange loss of $218 million on the revaluation of U.S. dollar denominated debt.

Funds from Operations and Cash Flow Provided By Operating Activities

Funds from operations were $3.005 billion ($1.92 per common share) in the second quarter of 2019, compared to $2.862 billion ($1.75 per common share) in the second quarter of 2018, and were influenced by the same factors impacting operating earnings noted above, excluding the impact of DD&A and exploration expenses.

2  2019 SECOND QUARTER   Suncor Energy Inc.

Cash flow provided by operating activities was $3.433 billion ($2.19 per common share) for the second quarter of 2019, compared to $2.446 billion ($1.50 per common share) for the second quarter of 2018. In addition to the items noted in funds from operations, cash flow provided by operating activities was further impacted by a source of cash associated with the company's working capital balances in the second quarter of 2019, as compared to a use of cash in the prior year quarter.

Operating Results

Suncor's total upstream production was 803,900 barrels of oil equivalent per day (boe/d) during the second quarter of 2019, compared to 661,700 boe/d in the prior year quarter, marking a second quarter production record. The increase was primarily due to lower planned Oil Sands maintenance, improved reliability at Syncrude and the ramp up of Fort Hills and Hebron production throughout 2018, partially offset by the impact of mandatory production curtailments in the province of Alberta, which began January 1, 2019.

During the second quarter of 2019, the company was able to leverage its broad asset base and operational flexibility to maximize the value of its allotted barrels under the mandatory curtailment program, focusing on higher value synthetic crude oil (SCO) production and helping to mitigate the impact of planned maintenance activities through the transfer of curtailment allotment among the company's assets. In addition, solid asset reliability and availability allowed the company to purchase 24,000 bbls/d of additional curtailment bitumen volumes from third parties, net of curtailment sales.

"Suncor's upstream assets produced more than 800,000 bbls/d of crude oil during the second quarter of 2019, marking a new second quarter production record, while planned maintenance was completed at many of our Oil Sands assets in the quarter," said Little. "In addition, the team was able to create significant value by opportunistically shifting production among our assets through this period of curtailment – another great example of the benefits that come from having a broad and flexible asset base."

Oil Sands operations production was 414,200 bbls/d in the second quarter of 2019, compared to 358,900 bbls/d in the prior year quarter. The increase in production was primarily SCO and resulted from a decrease in planned upgrader maintenance. Oil Sands operations upgrader reliability improved to 86% in the second quarter of 2019, compared to 69% in the prior year quarter. Production of non-upgraded bitumen from the company's In Situ assets was relatively flat quarter-over-quarter at 118,700 bbls/d during the second quarter of 2019, compared to 121,000 bbls/d in the prior year quarter, and continued to be impacted by mandatory production curtailment as the company favoured the production of higher value SCO barrels, in addition to the completion of major maintenance at Firebag. In addition, overall Oil Sands operations production was reduced by the yield loss associated with upgrading bitumen to SCO.

Oil Sands operations cash operating costs(1) per barrel were $27.80 in the second quarter of 2019, compared to $28.65 in the prior year quarter, with both periods reflecting the impact of planned maintenance. The decrease in Oil Sands operations cash operating costs per barrel was due to the increase in production being partially offset by higher operating, selling and general costs and was further impacted by the yield loss associated with the increase in higher value SCO production. Total Oil Sands operations cash operating costs were $1.051 billion, compared to $940 million in the prior year quarter, due primarily to an increase in commodity consumption costs and higher ore preparation costs, partially offset by a decrease in natural gas prices.

Suncor's share of production from Fort Hills averaged 89,300 bbls/d in the second quarter of 2019 compared to 70,900 bbls/d in the prior year quarter, with the increase in production attributed to the ramp up of operations throughout 2018. The increase in production was partially offset by mandatory production curtailments, which the company limited the effect of through purchasing 6,500 bbls/d of curtailment credits from third-parties. Fort Hills cash operating costs(1) per barrel were $22.50 in the second quarter of 2019, compared to $28.55 in the prior year quarter, with the improvement primarily attributed to the increase in production. Total Fort Hills cash operating costs were consistent at $183 million, compared to $185 million in the prior year quarter, despite the increase in production.

Suncor's share of Syncrude production was 188,700 bbls/d in the second quarter of 2019, compared to 117,800 bbls/d in the prior year quarter. The increase in production was primarily due to improved reliability at Syncrude due to the prior year quarter being impacted by extended planned maintenance and a power disruption. Production increases were partially offset by the impact of mandatory production curtailments, which Suncor and the other Syncrude partners helped to mitigate by allocating a portion of their curtailment allotment to Syncrude, on an opportunistic basis. In addition, Syncrude purchased other third-party curtailment allotments. The total curtailment credits received at Syncrude resulted in an estimated increase in SCO production of 21,000 bbls/d. Upgrader utilization at Syncrude improved to 93% in the second quarter of 2019, compared to 58% in the prior year quarter.

Syncrude cash operating costs(1) per barrel were $34.90 in the second quarter of 2019, a decrease from $56.25 in the prior year quarter, due primarily to the increase in production. Total Syncrude cash operating costs were $599 million in the second quarter of 2019 and were comparable to $603 million in the prior year quarter.

   

(1)
Oil Sands operations cash operating costs, Fort Hills cash operating costs and Syncrude cash operating costs are non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of the MD&A.
2019 SECOND QUARTER   Suncor Energy Inc.  3

Production volumes at E&P were 111,700 boe/d in the second quarter of 2019, compared to 114,100 boe/d in the prior year quarter. Increased production from Hebron and Oda, which began production in the first quarter of 2019, nearly offset natural declines in the United Kingdom, the continued staged return of White Rose towards full operations and the completion of planned maintenance at Terra Nova.

Refinery crude throughput was 399,100 bbls/d and refinery utilization was 86% in the second quarter of 2019, compared to 344,100 bbls/d and a utilization rate of 74% in the prior year quarter. Both periods were impacted by major planned maintenance, however, the maintenance completed in the current period had a less significant impact on production when compared to the second quarter of 2018, which included the first full turnaround of the Edmonton refinery, as well as additional turnaround activities at the company's other three refineries. Planned maintenance completed in the second quarter of 2019 included turnaround activities at the Sarnia and Montreal refineries, as well as major maintenance at the Edmonton and Commerce City refineries. Refined product sales increased in the second quarter of 2019 to 508,100 bbls/d, compared to 500,000 bbls/d in the prior year quarter, with the increase due to higher refinery crude throughput in the second quarter of 2019 and the associated increase in refined product availability. The prior period quarter included a significant draw of product inventory that was built up in advance of the planned turnaround of the entire Edmonton refinery in the second quarter of 2018.

Strategy Update

Suncor's 2019 capital program is focused on the enhancement and optimization of the company's operating asset performance, safety and reliability, including projects focused on delivering increased earnings and funds from operations through further cost savings and structural margin improvements. In addition, the company is developing step-out opportunities and asset extensions within its offshore business in the E&P segment.

Excluding capitalized interest, the company incurred $1.336 billion in capital expenditures in the second quarter of 2019, a decrease from $1.737 billion in the prior year quarter. The decrease was due primarily to lower planned maintenance and turnaround capital due to the completion of a more significant planned maintenance program at both Oil Sands and R&M in the prior year quarter, as well as the decrease in capital associated with the staged completion and commissioning of the Fort Hills extraction plants in the first half of 2018.

Drilling activity at Hebron is ongoing and production continues to ramp up. Other E&P activity in the second quarter included development drilling at Hibernia, White Rose, Buzzard and Terra Nova, and development work on Fenja and the West White Rose Project.

During the second quarter of 2019, the company sanctioned the Terra Nova asset life extension. The project is expected to extend the life of Terra Nova by approximately a decade and is planned for execution in 2020. The company's previously issued 2019 capital guidance included development spending associated with this project.

In the second quarter of 2019, Suncor sold its 37% interest in Canbriam for total proceeds and an equivalent gain of $151 million ($139 million after-tax), which the company had acquired in the first quarter of 2018. In addition, Suncor sold land and several related natural gas wells held in northeast British Columbia to Canbriam for proceeds of $24 million, with this transaction closing early in the third quarter of 2019.

During the second quarter of 2019, the company issued $750 million of 3.10% senior unsecured medium term notes due in 2029. Also in the quarter, the company reduced its short-term debt balance by $1.281 billion and repaid US$140 million of maturing long-term debt, further improving the company's balance sheet flexibility.

In the second quarter of 2019, the company repurchased $552 million of its own shares for cancellation under the company's normal course issuer bid, and returned $658 million of cash to shareholders through dividends.

"Through our integrated model and focus on operational excellence, capital discipline and sustainability, we are well positioned for the future and continue to deliver increased returns to our shareholders," said Little. "We will continue to optimize and enhance our business through leveraging the talent of our people, a continued focus on innovation and the integration of advanced digital technology. To accelerate these efforts, we have assembled some of our most senior leaders into a dedicated project team to guide Suncor through the next phase of the company's evolution."

4  2019 SECOND QUARTER   Suncor Energy Inc.


Operating Earnings Reconciliation(1)

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Net earnings

  2 729   972   4 199   1 761    

Unrealized foreign exchange (gain) loss on U.S. dollar denominated debt

  (221 ) 218   (482 ) 547    

Impact of income tax rate adjustment on deferred taxes(2)

  (1 116 )   (1 116 )    

Gain on significant disposal(3)

  (139 )   (139 ) (133 )  

Operating earnings(1)

  1 253   1 190   2 462   2 175    
(1)
Operating earnings is a non-GAAP financial measure. All reconciling items are presented on an after-tax basis. See the Non-GAAP Financial Measures Advisory section of the MD&A.

(2)
In the second quarter of 2019, the company recorded a $1.116 billion deferred income tax recovery associated with the Government of Alberta's substantive enactment of legislation for the staged reduction of the corporate income tax rate from 12% to 8% over the next four years.

(3)
In the second quarter of 2019, Suncor sold its 37% interest in Canbriam for total proceeds and an equivalent gain of $151 million ($139 million after tax), which had previously been written down to nil in the fourth quarter of 2018 following the company's assessment of forward natural gas prices and the impact on estimated future cash flows. The equity interest in Canbriam was acquired during the first quarter of 2018 in exchange for the company's mineral landholdings in northeast British Columbia, at which time a gain of $133 million after-tax was recorded on the transaction.

Corporate Guidance

Suncor has revised its full year outlook range for capital expenditures to $4.9 – $5.4 billion, down from $4.9 – $5.6 billion to reflect the company's continued focus on capital discipline, and Syncrude cash operating costs per barrel have been increased to $36.50 – $39.50 from $33.50 – $36.50 due to additional costs associated with driving sustained reliability improvements at Syncrude. In addition, the company has updated its key refining benchmark crack spread to New York Harbor 2-1-1 crack, from New York Harbor 3-2-1 crack, which better reflects the approximate composition of Suncor's overall refined product mix. No other changes have been made to Suncor's guidance at this time. For further details and advisories regarding Suncor's 2019 corporate guidance, see www.suncor.com/guidance.

Measurement Conversions

Certain natural gas volumes in this report to shareholders have been converted to boe on the basis of one bbl to six mcf. See the Advisories section of the MD&A.

2019 SECOND QUARTER   Suncor Energy Inc.  5

MANAGEMENT'S DISCUSSION AND ANALYSIS
July 24, 2019

Suncor is an integrated energy company headquartered in Calgary, Alberta, Canada. We are strategically focused on developing one of the world's largest petroleum resource basins – Canada's Athabasca oil sands. In addition, we explore for, acquire, develop, produce and market crude oil and natural gas in Canada and internationally; we transport and refine crude oil, and we market petroleum and petrochemical products primarily in Canada. We also conduct energy trading activities focused principally on the marketing and trading of crude oil, natural gas and byproducts. We also operate a renewable energy business as part of our overall portfolio of assets.

For a description of Suncor's segments, refer to Suncor's Management's Discussion and Analysis for the year ended December 31, 2018, dated February 28, 2019 (the 2018 annual MD&A).

This Management's Discussion and Analysis (MD&A) should be read in conjunction with Suncor's unaudited interim Consolidated Financial Statements for the three and six months ended June 30, 2019, Suncor's audited Consolidated Financial Statements for the year ended December 31, 2018 and the 2018 annual MD&A.

Additional information about Suncor filed with Canadian securities regulatory authorities and the United States Securities and Exchange Commission (SEC), including quarterly and annual reports and Suncor's Annual Information Form dated February 28, 2019 (the 2018 AIF), which is also filed with the SEC under cover of Form 40-F, is available online at www.sedar.com, www.sec.gov and our website www.suncor.com. Information contained in or otherwise accessible through our website does not form part of this MD&A, and is not incorporated into this document by reference.

References to "we", "our", "Suncor", or "the company" mean Suncor Energy Inc., and the company's subsidiaries and interests in associates and jointly controlled entities, unless the context otherwise requires.

Table of Contents

1.   Advisories   6    
2.   Second Quarter Highlights   8    
3.   Consolidated Financial Information   9    
4.   Segment Results and Analysis   14    
5.   Capital Investment Update   30    

6.

  Financial Condition and Liquidity   32    

7.

  Quarterly Financial Data   36    

8.

  Other Items   38    

9.

  Non-GAAP Financial Measures Advisory   39    

10.

  Common Abbreviations   44    

11.

  Forward-Looking Information   45    

1. ADVISORIES

Basis of Presentation

Unless otherwise noted, all financial information has been prepared in accordance with Canadian generally accepted accounting principles (GAAP), specifically International Accounting Standard (IAS) 34 Interim Financial Reporting as issued by the International Accounting Standards Board, which is within the framework of International Financial Reporting Standards (IFRS) as issued by the IASB.

Effective January 1, 2019, the company adopted IFRS 16 Leases (IFRS 16), which replaced the previous leasing standard IAS 17 Leases (IAS 17), and requires the recognition of all leases on the balance sheet, with optional exemptions for short-term leases where the term is twelve months or less and for leases of low-value items. IFRS 16 effectively removes the classification of leases as either finance or operating leases and treats all leases as finance leases for lessees. The accounting treatment for lessors remains essentially unchanged, with the requirement to classify leases as either finance or operating. Please refer to note 3 in the company's unaudited interim Consolidated Financial Statements for the three and six months ended June 30, 2019 for further information. The company has selected the modified retrospective transition approach, electing to adjust opening retained earnings with no re-statement of comparative figures. As such, comparative information continues to be reported under IAS 17 and International Financial Reporting Interpretations Committee (IFRIC) 4.

All financial information is reported in Canadian dollars, unless otherwise noted. Production volumes are presented on a working-interest basis, before royalties, except for Libya, which is on an entitlement basis.

6  2019 SECOND QUARTER   Suncor Energy Inc.

Beginning in the first quarter of 2019, results from the company's Energy Trading business have been included within each of the respective operating business segments to which the respective trade relates. The Energy Trading business was previously reported within the Corporate, Energy Trading and Eliminations segment. Prior periods have been restated to reflect this change.

Also beginning in the first quarter of 2019, the company revised the classification of its capital expenditures into "asset sustainment and maintenance" and "economic investment" to better reflect the types of capital investments being made by the company. There is no impact to overall capital expenditures and comparative periods have been restated to reflect this change. Refer to the Capital Investment Update section of this MD&A for further details.

References to Oil Sands operations exclude Suncor's interests in Fort Hills and Syncrude.

Non-GAAP Financial Measures

Certain financial measures in this MD&A – namely operating earnings (loss), funds from (used in) operations, return on capital employed (ROCE), Oil Sands operations cash operating costs, Fort Hills cash operating costs, Syncrude cash operating costs, refining margin, refining operating expense, discretionary free funds flow, and last-in, first-out (LIFO) inventory valuation methodology and related per share amounts – are not prescribed by GAAP. Operating earnings (loss) is defined in the Non-GAAP Financial Measures Advisory section of this MD&A and reconciled to the most directly comparable GAAP measures in the Consolidated Financial Information and Segment Results and Analysis sections of this MD&A. Oil Sands operations cash operating costs, Fort Hills cash operating costs, Syncrude cash operating costs and LIFO are defined in the Non-GAAP Financial Measures Advisory section of this MD&A and reconciled to the most directly comparable GAAP measures in the Segment Results and Analysis section of this MD&A. Funds from (used in) operations, ROCE, discretionary free funds flow, refining margin and refining operating expense are defined and reconciled to the most directly comparable GAAP measures in the Non-GAAP Financial Measures Advisory section of this MD&A.

Risk Factors and Forward-Looking Information

The company's financial and operational performance is potentially affected by a number of factors, including, but not limited to, the factors described within the Forward-Looking Information section of this MD&A. This MD&A contains forward-looking information based on Suncor's current expectations, estimates, projections and assumptions. This information is provided to assist readers in understanding the company's future plans and expectations and may not be appropriate for other purposes. Refer to the Forward-Looking Information section of this MD&A for information on the material risk factors and assumptions underlying our forward-looking information contained in this MD&A.

Measurement Conversions

Certain crude oil and natural gas liquids volumes have been converted to mcfe on the basis of one bbl to six mcf. Also, certain natural gas volumes have been converted to boe or mboe on the same basis. Any figure presented in mcfe, boe or mboe may be misleading, particularly if used in isolation. A conversion ratio of one bbl of crude oil or natural gas liquids to six mcf of natural gas is based on an energy equivalency conversion method primarily applicable at the burner tip and does not represent a value equivalency at the wellhead. Given that the value ratio based on the current price of crude oil as compared to natural gas is significantly different from the energy equivalency of 6:1, conversion on a 6:1 basis may be misleading as an indication of value.

Common Abbreviations

For a list of abbreviations that may be used in this MD&A, refer to the Common Abbreviations section of this MD&A.

2019 SECOND QUARTER   Suncor Energy Inc.  7

2. SECOND QUARTER HIGHLIGHTS

Second quarter financial results  

Suncor's net earnings were $2.729 billion ($1.74 per common share) in the second quarter of 2019, compared to $972 million ($0.60 per common share) in the prior year quarter. In addition to the factors explained in operating earnings below, net earnings for the second quarter of 2019 included a one-time deferred income tax recovery of $1.116 billion ($0.71 per common share) associated with a staged reduction to the Alberta corporate income tax rate of 1% each year from 2019 to 2022, an after-tax gain of $139 million on the sale of the company's interest in Canbriam Energy Inc. (Canbriam) and a $221 million unrealized after-tax foreign exchange gain on the revaluation of U.S. dollar denominated debt. Net earnings in the prior year quarter included an unrealized after-tax foreign exchange loss of $218 million on the revaluation of U.S. dollar denominated debt.

Suncor's second quarter 2019 operating earnings(1) were $1.253 billion ($0.80 per common share), compared to $1.190 billion ($0.73 per common share) in the prior year quarter, with the increase in operating earnings primarily related to higher overall crude production and refinery crude throughput, the impact of a weaker Canadian dollar on U.S. dollar denominated sales and improved refining margins. Partially offsetting these were a decrease in WTI and Brent crude benchmark prices, an unfavourable inventory change associated with a smaller first-in, first-out (FIFO) gain and a deferral of profit held in intercompany inventory, and an increase in royalties and higher overall expenses consistent with the increase in production, as detailed in the Segment Results and Analysis section of this MD&A.

Funds from operations(1) were $3.005 billion ($1.92 per common share) in the second quarter of 2019, compared to $2.862 billion ($1.75 per common share) in the second quarter of 2018, and were influenced primarily by the same factors impacting operating earnings noted above, adjusted for non-cash expenses for DD&A and exploration. Cash flow provided by operating activities, which includes changes in non-cash working capital, was $3.433 billion for the second quarter of 2019, compared to $2.446 billion for the second quarter of 2018, reflecting a source of cash from working capital as compared to a use of cash in the prior year quarter.

Oil Sands operations production increased to 414,200 bbls/d in the second quarter of 2019, compared to 358,900 bbls/d in the prior year quarter. The increase was due to a reduction in planned upgrader maintenance, partially offset by planned maintenance at Firebag and the impact of mandatory production curtailments in the province of Alberta which took effect at the beginning of the year and has continued through the second quarter of 2019.

Syncrude upgrader utilization improved to 93%, compared to 58% in the prior year quarter. Improved asset reliability and a decrease in planned maintenance at Syncrude resulted in second quarter 2019 production of 188,700 bbls/d, compared to 117,800 bbls/d in the prior year quarter, which included extended planned maintenance and a power outage towards the end of the quarter. Mandatory production curtailments had a lesser impact on Syncrude than In Situ and Fort Hills during the second quarter of 2019 as they obtained allotments from partners, including Suncor, and other third parties.

Fort Hills production increased to 89,300 bbls/d compared to 70,900 bbls/d in the prior year quarter. The ramp up of Fort Hills operations throughout 2018 drove the increase in production, partially offset by mandatory production curtailments, which the company limited the effect of through purchasing 6,500 bbls/d of curtailment credits from third-parties.

Refining and Marketing (R&M) delivered strong financial results, despite the impact of planned maintenance in the quarter. Quarterly funds from operations were $932 million and operating earnings were $677 million, compared to $892 million and $671 million, respectively, in the prior year quarter.

Ramp up of Hebron continues after completion of the sixth production well. Production at Hebron was 23,600 bbls/d in the second quarter of 2019, compared to 13,500 bbls/d in the prior year quarter.

Dividends and share repurchases. The company paid $658 million to shareholders through dividends and repurchased $552 million of its shares during the second quarter of 2019 under its normal course issuer bid (NCIB).

Issuance of $750 million of long-term debt and reduction of $1.281 billion of short-term debt, as well as US$140 million of long-term debt. Strong cash flow combined with the issuance of $750 million of 3.10% senior unsecured medium term notes allowed the company to repay a significant balance of short-term debt along with maturing higher interest long-term debt, further improving the company's liquidity and balance sheet flexibility.

   

(1)
Operating earnings and funds from operations are non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.
8  2019 SECOND QUARTER   Suncor Energy Inc.

3. CONSOLIDATED FINANCIAL INFORMATION

Financial Highlights

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Net earnings (loss)

                   

Oil Sands

  1 561   403   1 750   500    

Exploration and Production

  456   312   948   700    

Refining and Marketing

  765   671   1 774   1 460    

Corporate and Eliminations

  (53 ) (414 ) (273 ) (899 )  

Total

  2 729   972   4 199   1 761    

Operating earnings (loss)(1)

                   

Oil Sands

  651   403   840   500    

Exploration and Production

  247   312   739   567    

Refining and Marketing

  677   671   1 686   1 460    

Corporate and Eliminations

  (322 ) (196 ) (803 ) (352 )  

Total

  1 253   1 190   2 462   2 175    

Funds from (used in) operations(1)

                   

Oil Sands

  1 866   1 491   3 050   2 473    

Exploration and Production

  507   539   1 209   1 005    

Refining and Marketing

  932   892   2 185   1 803    

Corporate and Eliminations

  (300 ) (60 ) (854 ) (255 )  

Total

  3 005   2 862   5 590   5 026    

Decrease (increase) in non-cash working capital

  428   (416 ) (609 ) (1 856 )  

Cash flow provided by operating activities

  3 433   2 446   4 981   3 170    

Capital and exploration expenditures(2)

                   

Asset sustainment and maintenance

  816   1 251   1 235   1 940    

Economic investment

  520   486   976   1 011    

Total

  1 336   1 737   2 211   2 951    


  Three months ended
June 30
  Twelve months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Discretionary free funds flow(1)

  1 518   1 009   3 007   1 879    
(1)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A. Discretionary free funds flow for the three and six months ended June 30, 2018 have been restated for the impact of the change to the company's classification of asset sustainment and maintenance capital expenditures. Refer to the Capital and Investment Update section of this MD&A for further details.

(2)
Excludes capitalized interest of $28 million in the second quarter of 2019 and $25 million in the second quarter of 2018 and reflects the company's revised capital expenditure classification. Refer to the Capital and Investment Update section of this MD&A for further details.
2019 SECOND QUARTER   Suncor Energy Inc.  9

Operating Highlights

  Three months ended
June 30
  Six months ended
June 30
   

  2019   2018   2019   2018    

Production volumes by segment

                   

Oil Sands (mbbls/d)

  692.2   547.6   674.8   559.7    

Exploration and Production (mboe/d)

  111.7   114.1   109.3   115.9    

Total (mboe/d)

  803.9   661.7   784.1   675.6    

Refinery utilization (%)

  86   74   91   86    

Refinery crude oil processed (mbbls/d)

  399.1   344.1   421.9   398.5    

Net Earnings

Suncor's consolidated net earnings for the second quarter of 2019 were $2.729 billion, compared to $972 million for the prior year quarter. Net earnings were primarily affected by the same factors that influenced operating earnings described subsequently in this section of this MD&A.

Other items affecting net earnings over these periods included:

In the second quarter of 2019, the company recorded a $1.116 billion deferred income tax recovery associated with the Government of Alberta's substantive enactment of legislation for the staged reduction of the corporate income tax rate from 12% to 8% over the next four years.

The after-tax unrealized foreign exchange impact on the revaluation of U.S. dollar denominated debt was a gain of $221 million for the second quarter of 2019, compared to a loss of $218 million for the second quarter of 2018.

In the second quarter of 2019, Suncor sold its 37% interest in Canbriam for total proceeds and an equivalent gain of $151 million ($139 million after-tax), which had previously been written down to nil in the fourth quarter of 2018 following the company's assessment of forward natural gas prices and the impact on estimated future cash flows. The equity interest in Canbriam was acquired during the first quarter of 2018 in exchange for the company's mineral landholdings in northeast British Columbia, at which time a gain of $133 million after-tax was recorded on the transaction.

Operating Earnings Reconciliation(1)

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Net earnings

  2 729   972   4 199   1 761    

Unrealized foreign exchange (gain) loss on U.S. dollar denominated debt

  (221 ) 218   (482 ) 547    

Impact of income tax rate adjustment on deferred taxes(2)

  (1 116 )   (1 116 )    

Gain on significant disposal(3)

  (139 )   (139 ) (133 )  

Operating earnings(1)

  1 253   1 190   2 462   2 175    
(1)
Operating earnings is a non-GAAP financial measure. All reconciling items are presented on an after-tax basis. See the Non-GAAP Financial Measures Advisory section of this MD&A.

(2)
In the second quarter of 2019, the company recorded a $1.116 billion deferred income tax recovery associated with the Government of Alberta's substantive enactment of legislation for the staged reduction of the corporate income tax rate from 12% to 8% over the next four years.

(3)
In the second quarter of 2019, Suncor sold its 37% interest in Canbriam for total proceeds and an equivalent gain of $151 million ($139 million after- tax), which had previously been written down to nil in the fourth quarter of 2018 following the company's assessment of forward natural gas prices and the impact on estimated future cash flows. The equity interest in Canbriam was acquired during the first quarter of 2018 in exchange for the company's mineral landholdings in northeast British Columbia, at which time a gain of $133 million after-tax was recorded on the transaction.
10  2019 SECOND QUARTER   Suncor Energy Inc.

Bridge Analysis of Operating Earnings ($ millions)(1)

GRAPHIC

(1)
For an explanation of this bridge analysis, see the Non-GAAP Financial Measures Advisory section of this MD&A.

Suncor's second quarter 2019 operating earnings were $1.253 billion ($0.80 per common share), compared to $1.190 billion ($0.73 per common share) in the prior year quarter. The increase in operating earnings was primarily related to higher overall crude production and refinery crude throughput due to a less intensive planned maintenance program at both Oil Sands and R&M, as compared to the prior year quarter. In addition, improved reliability at Syncrude and the ramp up of Fort Hills and Hebron production throughout 2018 further increased crude output during the second quarter of 2019, which was only partially offset by a decrease in production associated with the Alberta government's mandatory production curtailment. Other positive factors influencing operating earnings in the second quarter of 2019 were the impact of a weaker Canadian dollar on U.S. dollar denominated sales and improved refining margins.

Second quarter 2019 operating earnings were negatively impacted by lower WTI and Brent benchmark crude prices, an unfavourable FIFO and intercompany inventory change, and an increase in royalties, operating and transportation expenses, consistent with the increase in production. In addition, DD&A expense increased over the prior year quarter due primarily to the staged commissioning of Fort Hills in 2018 and additional depreciation associated with the transition to IFRS 16. Exploration expenses increased due to non-commercial drilling results off the east coast of Canada and in the U.K. North Sea.

After-Tax Share-Based Compensation Expense by Segment

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Oil Sands

  7   33   38   55    

Exploration and Production

  1   4   4   5    

Refining and Marketing

  4   16   22   28    

Corporate and Eliminations

  8   64   80   111    

Total share-based compensation expense

  20   117   144   199    

The after-tax share-based compensation expense decreased to $20 million during the second quarter of 2019, compared to an expense of $117 million during the prior year quarter, as a result of a decline in the company's share price through the period, compared to an increase in the prior year quarter.

2019 SECOND QUARTER   Suncor Energy Inc.  11


Business Environment

Commodity prices, refining crack spreads and foreign exchange rates are important factors that affect the results of Suncor's operations.

  Average for the three
months ended June 30
  Average for the six
months ended June 30
   

      2019   2018   2019   2018    

WTI crude oil at Cushing

  US$/bbl   59.85   67.90   57.40   65.40    

Dated Brent crude

  US$/bbl   68.85   74.40   66.05   70.60    

Dated Brent/Maya crude oil FOB price differential

  US$/bbl   6.90   12.40   5.95   10.05    

MSW at Edmonton

  Cdn$/bbl   73.40   80.95   69.95   76.70    

WCS at Hardisty

  US$/bbl   49.20   48.65   45.90   43.65    

Light/heavy differential – WTI at Cushing/WCS at Hardisty

  US$/bbl   (10.65 ) (19.25 ) (11.50 ) (21.75 )  

SYN-WTI Differential

  US$/bbl   0.15   (0.65 ) (1.05 ) (1.05 )  

Condensate at Edmonton

  US$/bbl   55.90   68.50   53.25   65.80    

Natural gas (Alberta spot) at AECO

  Cdn$/mcf   1.05   1.20   1.70   1.65    

Alberta Power Pool Price

  Cdn$/MWh   56.35   56.00   63.55   45.65    

New York Harbor 2-1-1 crack(1)

  US$/bbl   22.20   21.10   20.20   18.10    

Chicago 2-1-1 crack(1)

  US$/bbl   21.45   19.05   18.45   15.60    

Portland 2-1-1 crack(1)

  US$/bbl   26.85   28.65   23.10   24.15    

Gulf Coast 2-1-1 crack(1)

  US$/bbl   21.70   20.45   19.80   17.90    

Exchange rate

  US$/Cdn$   0.75   0.77   0.75   0.78    

Exchange rate (end of period)

  US$/Cdn$   0.76   0.76   0.76   0.76    
(1)
2-1-1 crack spreads are indicators of the refining margin generated by converting two barrels of WTI into one barrel of gasoline and one barrel of diesel. The company previously quoted 3-2-1 crack margin benchmarks based on wider use and familiarity with these benchmarks and, although the 3-2-1 crack spread is more commonly quoted, the company's refinery production is better aligned with a 2-1-1 crack spread, which better reflects the approximate composition of Suncor's overall refined product mix. The crack spreads presented here generally approximate the regions into which the company sells refined products through retail and wholesale channels.

Suncor's sweet SCO price realizations are influenced primarily by the price of WTI at Cushing and by the supply and demand for sweet SCO from Western Canada, which influences SCO differentials. Price realizations in the second quarter of 2019 for sweet SCO were unfavourably impacted by a decrease in WTI at Cushing to US$59.85/bbl in the second quarter of 2019, compared to US$67.90/bbl in the prior year quarter. Suncor also produces sour SCO, the price of which is influenced by various crude benchmarks, including, but not limited to, MSW at Edmonton and WCS at Hardisty, and which can also be affected by prices negotiated for spot sales. Prices for MSW at Edmonton decreased to $73.40/bbl compared to $80.95/bbl in the prior year quarter; however, prices for WCS at Hardisty increased to US$49.20/bbl in the second quarter of 2019, from US$48.65/bbl in the prior year quarter, as a result of improved western Canadian heavy crude differentials, in part due to mandatory production curtailments in Alberta. Sweet and sour SCO differentials in the second quarter of 2019 were favourable when compared to the second quarter of 2018.

Bitumen production that Suncor does not upgrade is blended with diluent or SCO to facilitate delivery on pipeline systems. Net bitumen price realizations are, therefore, influenced by both prices for Canadian heavy crude oil (WCS at Hardisty is a common reference), prices for diluent (Condensate at Edmonton) and SCO. Bitumen price realizations can also be affected by bitumen quality and spot sales. Bitumen prices in the second quarter of 2019 were favourably impacted by improved heavy crude oil differentials.

Suncor's price realizations for production from East Coast Canada and International assets are influenced primarily by the price for Brent crude, which decreased to US$68.85/bbl in the second quarter of 2019, compared to US$74.40/bbl in the prior year quarter.

12  2019 SECOND QUARTER   Suncor Energy Inc.

The cost of natural gas used in Suncor's Oil Sands and Refining operations is primarily referenced to Alberta spot prices at AECO. The average AECO benchmark decreased to $1.05/mcf in the second quarter of 2019, from $1.20/mcf in the prior year quarter.

Suncor's refining margins are primarily influenced by industry benchmark crack spreads and although the 3-2-1 crack spread is more commonly quoted, the company's refinery production is better aligned with a 2-1-1 crack spread, which more appropriately reflects the company's refined product mix of gasoline and distillates. Benchmark crack spreads are industry indicators approximating the gross margin on a barrel of crude oil that is refined to produce gasoline and distillates. More complex refineries can earn greater refining margin by processing less expensive, heavier crudes. Crack spreads do not necessarily reflect the margins at a specific refinery. Crack spreads are based on current crude feedstock prices, whereas actual earnings are based on FIFO inventory accounting where a delay exists between the time that feedstock is purchased and when it is processed and sold to a third party. A FIFO loss normally reflects a declining price environment for crude oil and finished products, whereas FIFO gains reflect an increasing price environment for crude oil and finished products. Specific refinery margins are determined by actual crude purchase costs, refinery configuration, production mix and realized prices for refined products sales in markets unique to each refinery.

Excess electricity produced in Suncor's Oil Sands operations is sold to the Alberta Electric System Operator, with the proceeds netted against the Oil Sands operations cash operating cost per barrel metric. The Alberta power pool price of $56.35/MWh in the second quarter of 2019 was comparable to $56.00/MWh in the prior year quarter.

The majority of Suncor's revenues from the sale of oil and natural gas commodities are based on prices that are determined by or referenced to U.S. dollar benchmark prices, while the majority of Suncor's expenditures are realized in Canadian dollars. The Canadian dollar weakened in relation to the U.S. dollar during the second quarter of 2019, as the average exchange rate decreased to US$0.75 per one Canadian dollar from US$0.77 per one Canadian dollar in the prior year quarter. This rate decrease had a positive impact on price realizations for the company during the second quarter of 2019 when compared to the prior year quarter.

Suncor also has assets and liabilities, including approximately 65% of the company's debt, which are denominated in U.S. dollars and translated to Suncor's reporting currency (Canadian dollars) at each balance sheet date. A decrease in the value of the Canadian dollar, relative to the U.S. dollar, from the previous balance sheet date increases the amount of Canadian dollars required to settle U.S. dollar denominated obligations, while an increase in the value of the Canadian dollar, relative to the U.S. dollar, decreases the amount of Canadian dollars required to settle U.S. dollar denominated obligations.

2019 SECOND QUARTER   Suncor Energy Inc.  13

4. SEGMENT RESULTS AND ANALYSIS

OIL SANDS

Financial Highlights

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Gross revenues

  5 140   4 180   9 321   7 779    

Less: Royalties

  (341 ) (124 ) (539 ) (170 )  

Operating revenues, net of royalties

  4 799   4 056   8 782   7 609    

Net earnings(1)

  1 561   403   1 750   500    

Impact of income tax rate adjustment on deferred taxes(2)

  (910 )   (910 )    

Operating earnings(3)

  651   403   840   500    

Funds from operations(3)

  1 866   1 491   3 050   2 473    
(1)
The three and six months ended June 30, 2018 have been restated to reflect the change to the company's segmented presentation of its Energy Trading business, with no impact to overall consolidated results. The Energy Trading business is now included within each of the respective operating business segments to which the respective trade relates. Suncor's Energy Trading business was previously reported within the Corporate, Energy Trading and Eliminations segment.

(2)
In the second quarter of 2019, the company recorded a $910 million deferred income tax recovery in the Oil Sands segment associated with the Government of Alberta's substantive enactment of legislation for the staged reduction of the corporate income tax rate from 12% to 8% over the next four years.

(3)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.

Bridge Analysis of Operating Earnings ($ millions)(1)

GRAPHIC

(1)
For an explanation of this bridge analysis, see the Non-GAAP Financial Measures Advisory section of this MD&A.

The Oil Sands segment had operating earnings of $651 million in the second quarter of 2019, compared to operating earnings of $403 million in the prior year quarter. The increase was due to higher overall production volumes resulting from a decrease in planned upgrader maintenance at Oil Sands operations and Syncrude, and improved reliability at Syncrude, partially offset by the completion of major maintenance at Firebag. The ramp up of Fort Hills production throughout 2018 also contributed to the increase in production; however, total production was limited by mandatory production curtailments, which primarily impacted the company's bitumen production. Operating earnings were unfavourably impacted by higher operating, selling and general expenses largely tied to the increase in production, an increase in royalties, lower overall crude price realizations and additional DD&A.

14  2019 SECOND QUARTER   Suncor Energy Inc.

Production Volumes(1)

  Three months ended
June 30
  Six months ended
June 30
   

(mbbls/d)

  2019   2018   2019   2018    

Upgraded product (SCO and diesel)

  304.3   246.2   327.1   266.8    

Internally consumed diesel(2)

  (8.8 ) (8.3 ) (8.9 ) (8.2 )  

Total Oil Sands operations upgraded product

  295.5   237.9   318.2   258.6    

In Situ non-upgraded bitumen

  118.7   121.0   87.2   123.2    

Total Oil Sands operations production

  414.2   358.9   405.4   381.8    

Fort Hills bitumen

  89.3   70.9   83.9   50.5    

Internally upgraded bitumen from froth

        (2.6 )  

Total Fort Hills bitumen production

  89.3   70.9   83.9   47.9    

Syncrude (sweet SCO and diesel)

  191.1   120.0   188.1   132.4    

Internally consumed diesel(2)

  (2.4 ) (2.2 ) (2.6 ) (2.4 )  

Total Syncrude production

  188.7   117.8   185.5   130.0    

Total Oil Sands production

  692.2   547.6   674.8   559.7    
(1)
Bitumen production from Oil Sands Base is upgraded, while bitumen production from In Situ operations is either upgraded or sold directly to customers, including Suncor's own refineries, with SCO and diesel yields of approximately 79% of bitumen feedstock input. Fort Hills finished bitumen is sold directly to customers and bitumen froth from Fort Hills can be sent to Oil Sands Base for further processing into SCO. All of the bitumen produced at Syncrude is upgraded to sweet SCO and a small amount of diesel, at an approximate yield of 85%.

(2)
Both Oil Sands operations and Syncrude produce diesel, which is internally consumed in mining operations, and Fort Hills uses internally produced diesel from Oil Sands Base within its mining operations. Of the 8,800 bbls/d of internally consumed diesel at Oil Sands operations in the second quarter of 2019, 7,000 bbls/d was consumed at Oil Sands Base and 1,800 bbls/d, net, was consumed at Fort Hills. Oil Sands operations utilization rates are calculated net of Oil Sands Base internally consumed diesel, but inclusive of diesel consumed internally at Fort Hills. Syncrude utilization rates are calculated using intermediate sour production.

Oil Sands operations production increased to 414,200 bbls/d in the second quarter of 2019, from 358,900 bbls/d in the prior year quarter, although the current quarter was partially constrained by mandatory production curtailments in the province of Alberta. The company's second quarter of 2019 planned upgrader maintenance program was less intensive than the prior year quarter, partially offset by the completion of planned maintenance at Firebag. Production curtailments primarily affected the company's In Situ bitumen production as the company favoured the production to higher value SCO barrels in the second quarter of 2019. The decrease in planned upgrader maintenance combined with improved upgrader reliability resulted in SCO production of 295,500 bbls/d in the second quarter of 2019, compared to 237,900 bbls/d in the second quarter of 2018, which represents utilization rates of 86% and 69%, respectively.

Suncor's Base Plant underwent planned maintenance in the second quarter, during which the company was able to optimize overall Oil Sands production by transferring curtailment credits to Syncrude and Fort Hills, while also selling a lesser volume to third-parties. After completing planned maintenance, the company was in a position to take advantage of available third-party curtailment credits and was a net purchaser during the quarter. The impact of net third-party curtailment credit purchases on bitumen production was an estimated increase of 24,000 bbls/d in the second quarter of 2019.

Fort Hills production increased to 89,300 bbls/d of bitumen, net to Suncor, in the second quarter of 2019, compared to 70,900 bbls/d in the prior year quarter. The increase was due to the successful ramp up of operations during 2018 and the purchase of third-party curtailment credits of 6,500 bbls/d during the quarter helped to partially offset the mandatory production curtailment limit set for Fort Hills.

2019 SECOND QUARTER   Suncor Energy Inc.  15


Sales Volumes

  Three months ended
June 30
  Six months ended
June 30
   

(mbbls/d)

  2019   2018   2019   2018    

Oil Sands operations sales volumes

                   

Sweet SCO

  118.3   59.6   116.0   71.9    

Diesel

  25.2   32.4   27.1   26.4    

Sour SCO

  165.0   159.0   173.7   168.5    

Upgraded product

  308.5   251.0   316.8   266.8    

In Situ non-upgraded bitumen

  115.1   113.7   84.3   115.9    

Oil Sands operations

  423.6   364.7   401.1   382.7    

Fort Hills bitumen

  82.0   64.0   80.3   36.2    

Syncrude

  188.7   117.8   185.5   130.0    

Total

  694.3   546.5   666.9   548.9    

Sales volumes for Oil Sands operations were 423,600 bbls/d in the second quarter of 2019, compared to 364,700 bbls/d in the prior year quarter and were influenced by the same factors as production above, in addition to a small draw of crude inventory.

Bitumen sales at Fort Hills averaged 82,000 bbls/d, net to Suncor, in the second quarter of 2019, compared to 64,000 bbls/d in the second quarter of 2018, with both periods reflecting a build of inventory as increasing production made its way to customers.

Suncor's share of Syncrude production was 188,700 bbls/d in the second quarter of 2019, compared to 117,800 bbls/d in the prior year quarter. The increase in production was primarily due to improved reliability at Syncrude due to the prior year quarter being impacted by extended planned maintenance and a power disruption. Production increases were partially offset by the impact of mandatory production curtailments, which Suncor and the other Syncrude partners helped to mitigate by allocating a portion of their curtailment allotment to Syncrude, on an opportunistic basis. In addition, Syncrude purchased other third-party curtailment allotments. The total curtailment credits received resulted in an estimated increase in SCO production of 21,000 bbls/d. Upgrader utilization at Syncrude improved to 93% in the second quarter of 2019, compared to 58% in the prior year quarter.

16  2019 SECOND QUARTER   Suncor Energy Inc.


Bitumen Production

  Three months ended
June 30
  Six months ended
June 30
   

  2019   2018   2019   2018    

Oil Sands Base

                   

Bitumen production (mbbls/d)

  300.5   195.4   284.2   218.4    

Bitumen ore mined (thousands of tonnes per day)

  433.2   286.5   416.5   324.3    

Bitumen ore grade quality (bbls/tonne)

  0.69   0.68   0.68   0.67    

In Situ

                   

Bitumen production – Firebag (mbbls/d)

  168.4   201.9   178.8   203.8    

Steam-to-oil ratio – Firebag

  2.7   2.7   2.7   2.7    

Bitumen production – MacKay River (mbbls/d)

  36.3   34.4   35.8   34.7    

Steam-to-oil ratio – MacKay River

  2.9   2.9   3.0   2.9    

Total In Situ bitumen production (mbbls/d)

  204.7   236.3   214.6   238.5    

Total Oil Sands operations bitumen production (mbbls/d)

  505.2   431.7   498.8   456.9    

Fort Hills

                   

Bitumen production (mbbls/d)

  89.3   70.9   83.9   50.5    

Bitumen ore mined (thousands of tonnes per day)

  144.5   111.0   138.0   80.5    

Bitumen ore grade quality (bbls/tonne)

  0.62   0.64   0.61   0.63    

Syncrude

                   

Bitumen production (mbbls/d)

  228.5   142.7   219.6   157.9    

Bitumen ore mined (thousands of tonnes per day)

  370.9   233.7   356.4   255.8    

Bitumen ore grade quality (bbls/tonne)

  0.62   0.61   0.62   0.62    

Total Oil Sands bitumen production

  823.0   645.3   802.3   665.3    

Bitumen production at Oil Sands operations increased in the second quarter of 2019 to 505,200 bbls/d, compared with 431,700 bbls/d in the prior year quarter. The increase was primarily due to a reduction in planned upgrader maintenance at Oil Sands Base in the current quarter and the associated increase in mined bitumen volumes, partially offset by lower In Situ bitumen production due to the completion of planned maintenance at Firebag and mandatory production curtailments.

Bitumen production at Syncrude in the second quarter of 2019 increased to 228,500 bbls/d, net to Suncor, from 142,700 bbls/d in the prior year quarter. The increase was primarily due to improved upgrader reliability, partially offset by the impact of mandatory production curtailments.

Price Realizations

Net of transportation costs, but before royalties

  Three months ended
June 30
  Six months ended
June 30
   

($/bbl)

  2019   2018   2019   2018    

Oil Sands operations

                   

SCO and diesel

  74.97   80.00   69.83   74.99    

Bitumen

  48.26   42.84   46.18   35.10    

Crude sales basket (all products)

  67.72   68.41   64.86   62.91    

Crude sales basket, relative to WTI

  (12.08 ) (19.77 ) (11.67 ) (20.94 )  

Fort Hills bitumen

  57.10   51.86   53.62   49.70    

Syncrude – sweet SCO

  79.32   86.16   73.74   81.09    

Syncrude, relative to WTI

  (0.48 ) (2.02 ) (2.79 ) (2.76 )  
2019 SECOND QUARTER   Suncor Energy Inc.  17

Average price realizations at Oil Sands operations decreased to $67.72/bbl in the second quarter of 2019 from $68.41/bbl in the prior year quarter, due to a decrease in the WTI benchmark, partially offset by narrower heavy crude oil differentials, resulting from mandatory production curtailments in the province of Alberta and continued strong demand for heavy oil at the U.S. Gulf Coast, the impact of a weaker Canadian dollar and narrower SCO differentials.

Average price realizations for Fort Hills bitumen were $57.10/bbl in the second quarter of 2019, compared to $51.86/bbl in the prior year quarter, and were higher than In Situ bitumen realizations due to a higher proportion of sales being made in the U.S. mid-continent and the U.S. Gulf Coast, where Suncor is able to utilize its logistics network to access favourable pricing in the U.S. market, combined with the higher quality associated with paraffinic froth-treated bitumen produced at Fort Hills. Both Fort Hills and In Situ bitumen benefited from improved heavy crude oil differentials in the second quarter of 2019.

Average price realizations at Syncrude decreased to $79.32/bbl in the second quarter of 2019 from $86.16/bbl in the prior year quarter due to the decrease in the WTI benchmark price, partially offset by the impact of a weaker Canadian dollar and narrower SCO differentials.

Royalties

Royalties for the Oil Sands segment were higher in the second quarter of 2019 compared to the prior year quarter, primarily due to improved bitumen pricing and higher overall production.

Expenses and Other Factors

Oil Sands operating and transportation expenses for the second quarter of 2019 increased when compared to the prior year quarter, as described in detail below. See the reconciliation in the Cash Operating Costs section below for further details regarding cash operating costs and a breakdown of non-production costs by asset.

At Oil Sands operations, operating, selling and general expenses were higher when compared to the prior year quarter, due to an increase in commodity consumption costs, higher ore preparation costs and additional expenses associated with emerging technologies intended to optimize future mining and extraction operations, partially offset by lower share-based compensation expense and a decrease in natural gas prices.

At Fort Hills, operating costs in the second quarter of 2019 increased when compared to the prior year quarter primarily due to crude inventory valuation changes, partially offset by a decrease in project start-up expenses.

Suncor's share of Syncrude operating costs were comparable to the prior year quarter.

Oil Sands transportation costs increased primarily as a result of the additional sales volumes from all Oil Sands assets, as compared to the prior year quarter.

DD&A and impairment expenses and exploration expense for the second quarter of 2019 were higher compared to the prior year quarter due to the addition of DD&A related to the staged commissioning of Fort Hills in 2018, additional depreciation associated with the transition to IFRS 16 and an increase in capitalized turnaround costs following the completion of significant maintenance at the end of the second quarter of 2018.

18  2019 SECOND QUARTER   Suncor Energy Inc.


Cash Operating Costs

  Three months ended
June 30
  Six months ended
June 30
   

($ millions, except as noted)

  2019   2018   2019   2018    

Oil Sands Operating, selling and general expense (OS&G)

  2 060   1 849   4 033   3 724    

Oil Sands operations cash operating costs(1) reconciliation

                   

Oil Sands operations OS&G

  1 219   1 057   2 340   2 127    

Non-production costs(2)

  (38 ) (47 ) (95 ) (81 )  

Excess power capacity and other(3)

  (42 ) (41 ) (117 ) (107 )  

Inventory changes

  (88 ) (29 ) (3 ) (17 )  

Oil Sands operations cash operating costs(1)

  1 051   940   2 125   1 922    

Oil Sands operations cash operating costs ($/bbl)(1)

  27.80   28.65   28.85   27.70    

Fort Hills cash operating costs(1) reconciliation

                   

Fort Hills OS&G

  216   184   449   328    

Non-production costs(2)

  (25 ) (55 ) (72 ) (71 )  

Inventory changes

  (8 ) 56   15   72    

Fort Hills cash operating costs(1)

  183   185   392   329    

Fort Hills cash operating costs ($/bbl)(1)

  22.50   28.55   25.80   35.90    

Syncrude cash operating costs(1) reconciliation

                   

Syncrude OS&G

  625   608   1 244   1 269    

Non-production costs(2)

  (26 ) (5 ) (38 ) (15 )  

Syncrude cash operating costs(1)

  599   603   1 206   1 254    

Syncrude cash operating costs ($/bbl)(1)

  34.90   56.25   35.95   53.25    
(1)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.

(2)
Significant non-production costs include, but are not limited to, share-based compensation expense and research expenses. Non-production costs at Fort Hills also include, but are not limited to, project start-up costs, excess power revenue from cogeneration units and an adjustment to reflect internally produced diesel from Oil Sands operations at the cost of production.

(3)
Oil Sands operations excess power capacity and other includes, but is not limited to, the operational revenue impacts of excess power from a cogeneration unit and the natural gas expense recorded as part of a non-monetary arrangement involving a third-party processor.

Oil Sands operations cash operating costs(1) per barrel were $27.80 in the second quarter of 2019, compared to $28.65 in the prior year quarter, with the increase in production more than offsetting additional operating, selling and general expenses detailed above. Oil Sands operations cash operating costs per barrel were further impacted by mandatory production curtailment, including the change in product mix and the yield loss associated with the increase in higher value SCO production. Total Oil Sands operations cash operating costs were $1.051 billion, compared to $940 million in the prior year quarter.

In the second quarter of 2019, non-production costs, which are excluded from Oil Sands operations cash operating costs, were lower than the prior year quarter, primarily due to a decrease in share-based compensation expense.

Excess power capacity and other costs at Oil Sands operations for the second quarter of 2019 were comparable to the prior year quarter.

Inventory changes at Oil Sands operations in the second quarter of 2019 reflect a draw of crude inventory volumes as well as a decline in crude production costs towards the end of the quarter, as higher cost inventory was expensed and replaced with lower cost inventory. The prior year quarter reflected a draw of inventory.

Fort Hills cash operating costs(1) per barrel averaged $22.50 in the second quarter of 2019, compared to $28.55 in the prior year quarter, reflecting the impact of higher production volumes in the current period coupled with comparable cash operating costs. Non-production costs were lower due primarily to the prior year quarter including project start-up expenses

   

(1)
Non-GAAP financial measure. See the Non-GAAP Financial Measures Advisory section of this MD&A.
2019 SECOND QUARTER   Suncor Energy Inc.  19

related to the ramp up of operations in 2018. In the second quarter of 2019, the impact of declining inventory costs more than offset a build of crude inventory, whereas the second quarter of 2018 reflects a build of higher value inventory while operations ramped up.

Syncrude cash operating costs(1) per barrel were $34.90 in the second quarter of 2019, compared to $56.25 in the prior year quarter, with the decrease attributable to the increase in production noted above. Suncor's share of Syncrude cash operating costs were $599 million in the second quarter of 2019, comparable to $603 million in the second quarter of 2018.

Results for the First Six Months of 2019

Oil Sands net earnings were $1.750 billion for the first six months of 2019, compared to $500 million in the prior year period. In addition to the factors explained in operating earnings below, net earnings for first six months of 2019 included a one-time deferred income tax recovery of $910 million associated with a staged reduction to the Alberta corporate income tax rate of 1% each year from 2019 to 2022.

Oil Sands operating earnings for the first six months of 2019 were $840 million, compared to $500 million for the same period in 2018. Operating earnings improved as a result of increased production volumes, higher crude price realizations, and lower natural gas costs, partially offset by an increase in operating, selling and general expenses, primarily attributed to the ramp up of Fort Hills operations, the additional 5% Syncrude ownership interest acquired partway through 2018 and increased costs at Oil Sands operations, as detailed below. Production improved as a result of a decrease in planned overall upgrader maintenance, improved reliability at Syncrude and Oil Sands operations and the production ramp up at Fort Hills throughout 2018, partially offset by the impact of mandatory production curtailments in 2019 and completion of a turnaround at Firebag in the second quarter of 2019.

Funds from operations(1) for the first six months of 2019 were $3.050 billion for the Oil Sands segment, compared to $2.473 billion in the prior year period, with the increase primarily due to the same factors that influenced operating earnings noted above.

Oil Sands operations cash operating costs(1) per barrel averaged $28.85 for the first six months of 2019, an increase from an average of $27.70 for the first six months of 2018 due to an increase in operating, selling and general expense related to additional ore preparation costs, higher commodity consumption costs and additional expenses associated with emerging technologies intended to optimize future mining and extraction operations, partially offset by an increase in production and lower natural gas prices.

Fort Hills cash operating costs(1) per barrel averaged $25.80 for the first six months of 2019, compared to $35.90 for the same period of 2018, with the current period reflecting fully ramped up operations, although production was limited by mandatory production curtailments, and the increase in costs associated with a full six months of production. The prior year period was influenced by the ramp up of production in 2018, which led to lower operating expenses.

Syncrude cash operating costs(1) per barrel averaged $35.95 for the first six months of 2019, a decrease compared to $53.25 in the first six months of 2018, due to a significant increase in production, with the prior year period impacted by a power disruption and extended planned maintenance, as well as a decrease in cash operating costs, which was primarily attributed to lower maintenance costs. Syncrude cash operating costs per barrel were also unfavourably impacted by mandatory production curtailment, partially offset by the transfer and purchase of third-party curtailment credits.

Planned Maintenance Update

The company completed maintenance events at Firebag and Upgrader 1 during the second quarter of 2019 and plans to commence scheduled maintenance at Upgrader 2 and at Syncrude late in the third quarter of 2019. The impact of this maintenance has been reflected in the company's 2019 guidance.

   

(1)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.
20  2019 SECOND QUARTER   Suncor Energy Inc.

EXPLORATION AND PRODUCTION

Financial Highlights

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Gross revenues(1)

  904   1 010   1 780   1 948    

Less: Royalties(1)

  (75 ) (65 ) (187 ) (147 )  

Operating revenues, net of royalties

  829   945   1 593   1 801    

Net earnings(2)

  456   312   948   700    

Adjusted for:

                   

Impact of income tax rate adjustment on deferred taxes(3)

  (70 )   (70 )    

Gain on asset disposal(4)

  (139 )   (139 ) (133 )  

Operating earnings(5)

  247   312   739   567    

Funds from operations(5)

  507   539   1 209   1 005    
(1)
Production, revenues and royalties from the company's Libya operations have been presented in the Exploration and Production (E&P) section of this MD&A on an entitlement basis and exclude an equal and offsetting gross up of revenues and royalties of $90 million in the second quarter of 2019 and $122 million in the second quarter of 2018, which is required for presentation purposes in the company's financial statements under the working-interest basis.

(2)
The three and six months ended June 30, 2018 have been restated to reflect the change to the company's segmented presentation of its Energy Trading business, with no impact to overall consolidated results. The Energy Trading business is now included within each of the respective operating business segments to which the respective trade relates. Suncor's Energy Trading business was previously reported within the Corporate, Energy Trading and Eliminations segment.

(3)
In the second quarter of 2019, the company recorded a $70 million deferred income tax recovery in the E&P segment associated with the Government of Alberta's substantive enactment of legislation for the staged reduction of the corporate income tax rate from 12% to 8% over the next four years.

(4)
In the second quarter of 2019, Suncor sold its 37% interest in Canbriam for total proceeds and an equivalent gain of $151 million ($139 million after-tax), which had previously been written down to nil in the fourth quarter of 2018 following the company's assessment of forward natural gas prices and the impact on estimated future cash flows. The equity interest in Canbriam was acquired during the first quarter of 2018 in exchange for the company's mineral landholdings in northeast British Columbia, at which time a gain of $133 million after-tax was recorded on the transaction.

(5)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.
2019 SECOND QUARTER   Suncor Energy Inc.  21

Bridge Analysis of Operating Earnings ($ millions)(1)

GRAPHIC

(1)
For an explanation of this bridge analysis, see the Non-GAAP Financial Measures Advisory section of this MD&A.

Operating earnings for the E&P segment in the second quarter of 2019 decreased to $247 million, from $312 million in the prior year quarter, primarily as a result of a decrease in the Brent crude benchmark price and charges for non-commercial drilling results off the east coast of Canada and the U.K. North Sea.

Production Volumes

  Three months ended
June 30
  Six months ended
June 30
   

  2019   2018   2019   2018    

E&P Canada

                   

Terra Nova (mbbls/d)

  11.3   13.6   12.2   14.5    

Hibernia (mbbls/d)

  23.8   25.5   24.7   25.8    

White Rose (mbbls/d)

  3.2   6.0   2.1   7.4    

Hebron (mbbls/d)

  23.6   13.5   21.0   10.9    

North America Onshore (mboe/d)

        1.0    

  61.9   58.6   60.0   59.6    

E&P International

                   

Buzzard (mboe/d)

  35.0   39.4   35.8   39.9    

Golden Eagle (mboe/d)

  8.2   12.6   9.2   13.4    

United Kingdom (mboe/d)

  43.2   52.0   45.0   53.3    

Norway – Oda (mboe/d)

  4.0     2.1      

Libya (mbbls/d)

  2.6   3.5   2.2   3.0    

  49.8   55.5   49.3   56.3    

Total Production (mboe/d)

  111.7   114.1   109.3   115.9    

Total Sales Volumes (mboe/d)

  106.1   110.2   108.9   116.0    
22  2019 SECOND QUARTER   Suncor Energy Inc.

Production volumes for E&P Canada were 61,900 boe/d in the second quarter of 2019, compared to 58,600 boe/d in the prior year quarter. The increase in production was primarily due to increased production from Hebron, partially offset by the continued impact of White Rose's staged return to full operations, completion of planned maintenance at Terra Nova and natural declines.

E&P International production decreased to 49,800 boe/d, from 55,500 boe/d in the prior year quarter, primarily due to natural declines in the U.K. and a third-party outage impacting Golden Eagle, partially offset by increased production from the Oda project offshore Norway, which began production near the end of the first quarter of 2019 and averaged 4,000 boe/d in the second quarter of 2019.

E&P sales volumes were 106,100 boe/d in the second quarter of 2019, and were comparable to 110,200 boe/d in the prior year quarter.

Price Realizations

  Three months ended
June 30
  Six months ended
June 30
   

Net of transportation costs, but before royalties

  2019   2018   2019   2018    

Exploration and Production

                   

E&P Canada – Crude oil and natural gas liquids ($/bbl)

  90.48   95.06   87.48   88.53    

E&P Canada – Natural gas ($/mcfe)

        1.94    

E&P International ($/boe)

  87.56   91.81   85.30   86.36    

Price realizations at both E&P Canada and E&P International in the second quarter of 2019 were lower than the prior year quarter due to the decrease in Brent crude benchmark pricing during the second quarter of 2019, partially offset by the impact of a weaker Canadian dollar on U.S. dollar denominated sales.

Royalties

E&P royalties in the second quarter of 2019 were higher due to an increase in East Coast Canada sales volumes, partially offset by lower price realizations.

Expenses and Other Factors

Operating and transportation expenses for the second quarter of 2019 were comparable to the prior year quarter.

DD&A and impairment expense in the second quarter of 2019 was lower when compared to the second quarter of 2018, primarily due to lower overall production, partially offset by an increase in DD&A at Hebron associated with higher production.

Exploration expense in the second quarter of 2019 was higher as compared to the prior year quarter as a result of exploration charges for non-commercial drilling results off the east coast of Canada and the U.K. North Sea.

Results for the First Six Months of 2019

Net earnings for E&P were $948 million for the first six months of 2019, compared to $700 million in the prior year period. In addition to the factors explained in operating earnings below, net earnings for first six months of 2019 included an after-tax gain of $139 million on the sale of the company's interest in Canbriam and a one-time deferred income tax recovery of $70 million associated with a staged reduction to the Alberta corporate income tax rate of 1% each year from 2019 to 2022. The equity interest in Canbriam was acquired during the first quarter of 2018 in exchange for the company's mineral landholdings in northeast British Columbia, at which time a gain of $133 million after-tax was recorded on the transaction.

2019 SECOND QUARTER   Suncor Energy Inc.  23

Operating earnings for E&P for the first six months of 2019 were $739 million, compared to $567 million in the first six months of 2018. The increase was primarily due to the receipt of $264 million, after-tax, for insurance proceeds related to the company's Libyan assets and lower DD&A, partially offset by a decrease in sales volumes, higher exploration expense and lower crude price realizations. The insurance proceeds received may be subject to provisional repayment that may be dependent on future performance and cash flows from Suncor's Libyan assets.

Funds from operations were $1.209 billion for the first six months of 2019, compared to $1.005 billion for the first six months of 2018, due to the same reasons noted in operating earnings above, adjusted for the impact of non-cash DD&A expense.

Planned Maintenance Update for Operated Assets

A planned ten-day maintenance event was completed at Terra Nova during the second quarter of 2019. There are no major maintenance events scheduled at Terra Nova in the third quarter of 2019.

24  2019 SECOND QUARTER   Suncor Energy Inc.

REFINING AND MARKETING

Financial Highlights

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Operating revenues

  5 626   5 921   10 830   11 359    

Net earnings(1)

  765   671   1 774   1 460    

Adjusted for:

                   

Impact of income tax rate adjustment on deferred taxes(2)

  (88 )   (88 )    

Operating earnings(3)

  677   671   1 686   1 460    

Funds from operations(3)

  932   892   2 185   1 803    
(1)
The three and six months ended June 30, 2018 have been restated to reflect the change to the company's segmented presentation of its Energy Trading business, with no impact to overall consolidated results. The Energy Trading business is now included within each of the respective operating business segments to which the respective trade relates. Suncor's Energy Trading business was previously reported within the Corporate, Energy Trading and Eliminations segment.

(2)
In the second quarter of 2019 the company recorded a $88 million deferred income tax recovery in the R&M segment associated with the Government of Alberta's substantive enactment of legislation for the staged reduction of the corporate income tax rate from 12% to 8% over the next four years.

(3)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.

Bridge Analysis of Operating Earnings ($ millions)(1)

GRAPHIC

(1)
For an explanation of this bridge analysis, see the Non-GAAP Financial Measures Advisory section of this MD&A.

R&M operating earnings in the second quarter of 2019 were $677 million, compared to $671 million in the prior year quarter. Increased crude throughput, improved refining margins and favourable risk management activities more than offset a smaller FIFO gain, lower retail and marketing margins, and an increase in operating and transportation costs and higher DD&A.

2019 SECOND QUARTER   Suncor Energy Inc.  25


Volumes

  Three months ended
June 30
  Six months ended
June 30
   

  2019   2018   2019   2018    

Crude oil processed (mbbls/d)

                   

Eastern North America

  170.0   182.0   193.0   199.8    

Western North America

  229.1   162.1   228.9   198.7    

Total

  399.1   344.1   421.9   398.5    

Refinery utilization(1) (%)

                   

Eastern North America

  77   82   87   90    

Western North America

  95   68   95   83    

Total

  86   74   91   86    

Refined product sales (mbbls/d)

                   

Gasoline

  235.3   242.0   241.0   237.9    

Distillate

  206.1   181.7   213.9   192.9    

Other

  66.7   76.3   70.5   75.7    

Total

  508.1   500.0   525.4   506.5    

Refining margin(2) ($/bbl)

  33.45   30.25   34.95   30.40    

Refining operating expense(2) ($/bbl)

  5.90   6.25   5.75   5.45    
(1)
Refinery utilization is the amount of crude oil and natural gas plant liquids run through crude distillation units, expressed as a percentage of the capacity of these units.

(2)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A. Refining margins include the impact of the FIFO method of inventory valuation.

Refinery crude throughput was 399,100 bbls/d in the second quarter of 2019, compared to 344,100 bbls/d in the prior year quarter. Both periods were impacted by major planned maintenance, however, the maintenance completed in the current period was less significant when compared to the second quarter of 2018, which included the first full turnaround of the Edmonton refinery, as well as additional turnaround activities at the company's other three refineries. Completed second quarter 2019 maintenance included turnaround activities at the Sarnia and Montreal refineries, and planned maintenance at the Edmonton and Commerce City refineries, resulting in refinery utilization of 86%, compared to 74% in the prior year quarter.

Refined product sales increased in the second quarter of 2019 to 508,100 bbls/d, compared to 500,000 bbls/d in the prior year quarter, with the increase due to higher refinery crude throughput in the second quarter of 2019 and the associated increase in refined product availability. The prior period quarter included a significant draw of product inventory that was built up in advance of the planned turnaround of the entire Edmonton refinery in the second quarter of 2018.

Prices and Margin

Realized refined product gross margins were higher in the second quarter of 2019, compared to the prior year quarter, and were influenced by the following:

Overall improved refining crack spreads and the impact of a weaker Canadian dollar, partially offset by narrower crude oil differentials and unfavourable product location differentials.

In the second quarter of 2019, the impact of the FIFO method of inventory valuation, relative to an estimated LIFO(1) accounting method, resulted in a positive impact on the company's results of $38 million, after-tax, compared to a favourable adjustment of $151 million after-tax in the prior year quarter, for an overall unfavourable quarter-over-quarter impact of $113 million.

   

(1)
The estimated impact of the LIFO method is a non-GAAP financial measure. See the Non-GAAP Financial Measures Advisory section of this MD&A.
26  2019 SECOND QUARTER   Suncor Energy Inc.

Marketing gross margins in the second quarter of 2019 were lower than in the prior year quarter, primarily due to the impact of continued competitive pricing, partially offset by an increase in Canadian retail and wholesale sales volumes, setting a new second quarter and year to date record for those channels.

Expenses and Other Factors

Operating expenses in the second quarter of 2019 increased compared to the prior year quarter, primarily due to higher refinery maintenance expenses, an increase in variable selling costs associated with the increase in sales and higher commodity input costs, which were tied to the increase in refinery throughput.

DD&A increased in the second quarter of 2019 due to the accounting treatment of capital leases under IFRS 16 in addition to the depreciation associated with the major turnarounds completed in the prior year quarter.

Results for the First Six Months of 2019

Net earnings for R&M were $1.774 billion for the first six months of 2019, compared to $1.460 billion in the prior year period. In addition to the factors explained in operating earnings below, net earnings for first six months of 2019 included a one-time deferred income tax recovery of $88 million associated with a staged reduction to the Alberta corporate income tax rate of 1% each year from 2019 to 2022.

Operating earnings for R&M in the first six months of 2019 were $1.686 billion, compared to $1.460 billion in the first six months of 2018, with the increase attributable to a larger FIFO gain in the current period, an increase in refinery crude throughput, resulting from a decrease in planned maintenance, and higher benchmark cracks spreads, partially offset by narrower crude differentials and unfavourable product location differentials, higher operating, selling and general expense and an increase in DD&A. For the first six months of 2019, the impact of the FIFO method of inventory valuation, as used by the company, relative to an estimated LIFO method, had a positive impact to operating earnings and funds from operations of $505 million after-tax, compared to $204 million after-tax in the first six months of 2018.

Funds from operations were $2.185 billion in the first six months of 2019, compared to $1.803 billion in the first six months of 2018, and increased primarily due to the same factors that influenced operating earnings described above, adjusted for the impact of non-cash DD&A expense.

Planned Maintenance

The company has completed major planned maintenance at the Montreal, Sarnia, Edmonton and Commerce City refineries and does not have any significant maintenance scheduled for the third quarter of 2019.

2019 SECOND QUARTER   Suncor Energy Inc.  27

CORPORATE AND ELIMINATIONS(1)

Financial Highlights

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Net loss(1)

  (53 ) (414 ) (273 ) (899 )  

Adjusted for:

                   

Impact of income tax rate adjustment on deferred taxes(2)

  (48 )   (48 )    

Unrealized foreign exchange (gain) loss on U.S. dollar denominated debt

  (221 ) 218   (482 ) 547    

Operating loss(3)

  (322 ) (196 ) (803 ) (352 )  

Corporate

  (261 ) (231 ) (563 ) (420 )  

Eliminations

  (61 ) 35   (240 ) 68    

Funds used in operations(3)

  (300 ) (60 ) (854 ) (255 )  
(1)
Beginning in the first quarter of 2019, results from the company's Energy Trading business will be included within each of the respective operating business segments to which the respective trade relates. The Energy Trading business was previously reported within the Corporate, Energy Trading and Eliminations segment. Prior periods have been restated to reflect this change. The results from the company's Renewable Energy business are included within Corporate results.

(2)
In the second quarter of 2019, the company recorded a $48 million deferred income tax recovery in the Corporate and Eliminations segment associated with the Government of Alberta's substantive enactment of legislation for the staged reduction of the corporate income tax rate from 12% to 8% over the next four years.

(3)
Non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.

Corporate

The Corporate operating loss was $261 million for the second quarter of 2019, compared to an operating loss of $231 million for the prior year quarter, with the increased loss attributable to the prior period including the receipt of interest income related to a prior period tax settlement, lower income tax recoveries and an operational foreign exchange loss, as compared to an operational foreign exchange gain in the prior year quarter, partially offset by a decrease in share-based compensation expense. Suncor capitalized $28 million of its borrowing costs in the second quarter of 2019 as part of the cost of major development assets and construction projects in progress, compared to $25 million in the prior year quarter.

Eliminations

Eliminations reflect the deferral or realization of profit on crude oil sales from Oil Sands to Suncor's refineries. Consolidated profits are only realized when the refined products produced from internal purchases of crude feedstock have been sold to third parties. During the second quarter of 2019, the company deferred $61 million of after-tax intersegment profit, compared to a realization of $35 million of after-tax intersegment profit in the prior year quarter, due to an increase in intersegment inventory volumes.

Corporate and Eliminations funds used in operations in the second quarter of 2019 were unfavourable when compared to the prior year quarter due to the elimination of profit held in intercompany inventory, as compared to a realization of profit in the prior year quarter, the prior period including the receipt of interest income related to a prior period tax settlement, an operational foreign exchange loss, as compared to an operational foreign exchange gain in the prior year quarter, and lower current tax recoveries.

Results for the First Six Months of 2019

The net loss for Corporate and Eliminations was $273 million for the first six months of 2019, compared to $899 million in the prior year period. In addition to the factors explained in operating earnings below, net earnings for first six months of 2019 included a $482 million unrealized after-tax foreign exchange gain on the revaluation of U.S. dollar denominated debt and a one-time deferred income tax recovery of $48 million associated with a staged reduction to the Alberta corporate income tax rate of 1% each year from 2019 to 2022. Net earnings in the prior year period included an unrealized after-tax foreign exchange loss of $547 million on the revaluation of U.S. dollar denominated debt.

28  2019 SECOND QUARTER   Suncor Energy Inc.

The operating loss for Corporate and Eliminations for the first six months of 2019 was $803 million, compared to $352 million in the first six months of 2018. The increased loss was attributed to a significant elimination of profit held in intercompany inventory, as compared to a realization of profit in the prior year period, an operational foreign exchange loss, as compared to an operational foreign exchange gain in the prior year period, the prior period including the receipt of interest income related to a prior period tax settlement, lower capitalized interest and an increase in interest costs associated with IFRS 16, partially offset by lower share-based compensation accruals. The company capitalized $56 million of its borrowing costs in the first six months of 2019, compared with $102 million in the first six months of 2018, with the decrease resulting from the staged commissioning of Fort Hills in 2018. The elimination of intercompany profit in inventory was due to an increase in crude margins as well as an increase in intercompany inventory volumes.

Corporate and Eliminations funds used in operations for the first six months of 2019 were $854 million, compared to $255 million in the prior year period. In addition to the cash factors noted above in operating earnings, funds from operations in the first six months of 2019 were favourably impacted by a decrease in share-based compensation payments.

2019 SECOND QUARTER   Suncor Energy Inc.  29

5. CAPITAL INVESTMENT UPDATE

Capital and Exploration Expenditures by Segment

  Three months ended
June 30
  Six months ended
June 30
   

($ millions)

  2019   2018   2019   2018    

Oil Sands

  856   1 122   1 440   2 114    

Exploration and Production

  268   250   496   415    

Refining and Marketing

  220   370   302   487    

Corporate and Eliminations

  20   20   29   37    

Total capital and exploration expenditures

  1 364   1 762   2 267   3 053    

Less: capitalized interest on debt

  (28 ) (25 ) (56 ) (102 )  

  1 336   1 737   2 211   2 951    

Capital and Exploration Expenditures by Type, excluding capitalized interest(1)

  Three months ended
June 30, 2019
  Six months ended
June 30, 2019
   

($ millions)

  Asset
Sustainment and
Maintenance(2)
  Economic
Investment(3)
  Total   Asset
Sustainment and
Maintenance(2)
  Economic
Investment(3)
  Total    

Oil Sands

                           

Oil Sands Base

  416   24   440   619   39   658    

In Situ

  46   153   199   67   336   403    

Fort Hills

  87   29   116   170   46   216    

Syncrude

  83   1   84   131   1   132    

Exploration and Production

  2   256   258   3   470   473    

Refining and Marketing

  173   45   218   232   67   299    

Corporate and Eliminations

  9   12   21   13   17   30    

  816   520   1 336   1 235   976   2 211    
(1)
Capital expenditures in this table exclude capitalized interest on debt and the classification of the company's capital expenditures has been updated to "asset sustainment and maintenance" and "economic investment" to better reflect the types of capital investments being made by the company. Comparative periods have been updated to reflect this change.

(2)
Asset sustainment and maintenance capital expenditures include capital investments that deliver on existing value by: ensuring compliance or maintaining relations with regulators and other stakeholders; maintaining current processing capacity; and delivering existing developed reserves.

(3)
Economic investment capital expenditures include capital investments that result in an increase in value through adding reserves, improving processing capacity, utilization, cost or margin, including associated infrastructure.

The company spent $1.336 billion on capital expenditures in the second quarter of 2019, excluding capitalized interest, a decrease from $1.737 billion in the prior year quarter, primarily due to the decrease in capital associated with the completion of a more significant planned maintenance program in the prior year quarter at both Oil Sands and R&M, as well as the decrease in capital associated with the staged completion and commissioning of the Fort Hills extraction plants in the first half of 2018.

Activity in the second quarter of 2019 is summarized by business unit below.

Oil Sands

Oil Sands Base

Oil Sands Base capital and exploration expenditures were $440 million in the second quarter of 2019, the majority of which was focused on asset sustainment and maintenance activities related to the company's planned major maintenance program, which included the completion of the spring turnaround at Upgrader 1, the continued development of tailings infrastructure, and other reliability and sustainment projects across the operations.

30  2019 SECOND QUARTER   Suncor Energy Inc.


In Situ

In Situ capital and exploration expenditures were $199 million in the second quarter of 2019, and were primarily directed towards economic investment activities, including well pad construction and drilling activities that are expected to maintain existing production levels at Firebag and MacKay River.

Fort Hills

Capital expenditures at Fort Hills were $116 million in the second quarter of 2019, with the majority related to tailings infrastructure projects to sustain operations.

Syncrude

Syncrude capital and exploration expenditures were $84 million in the second quarter of 2019, the majority of which was for asset sustainment and maintenance capital expenditures focused on improving asset reliability.

Exploration and Production

Capital and exploration expenditures at E&P were $258 million in the second quarter of 2019 and were primarily focused on economic investment projects, including development drilling at Hebron, Hibernia, White Rose, Buzzard and Terra Nova, and continued development work on Fenja and the West White Rose Project.

During the second quarter of 2019, the company sanctioned the Terra Nova asset life extension project, which is expected to extend the life of Terra Nova by approximately a decade and is planned for execution in 2020.

Refining and Marketing

R&M capital expenditures were $218 million and were primarily related to the ongoing sustainment of operations, enhancements to retail operations and planned major refinery maintenance.

Corporate and Eliminations

Corporate capital expenditures were $21 million, primarily directed towards the company's information technology initiatives.

2019 SECOND QUARTER   Suncor Energy Inc.  31

6. FINANCIAL CONDITION AND LIQUIDITY

Indicators

  Twelve months ended    

  Previous leasing
standard
June 30
2019
  IFRS 16
impact
  IFRS 16
June 30
2019
  June 30
2018
   

Return on Capital Employed(1) (%)

                   

Excluding major projects in progress(2)

  10.7   (0.1 ) 10.6   9.5    

Including major projects in progress

  10.5   (0.1 ) 10.4   8.3    

Net debt to funds from operations(3) (times)

  1.3   0.2   1.5   1.5    

Interest coverage on long-term debt (times)

                   

Earnings basis(4)

  8.0   (0.3 ) 7.7   7.4    

Funds from operations basis(3)(5)

  14.6   (0.5 ) 14.1   13.7    

Total debt to total debt plus shareholders' equity (%)

  26.5   2.0   28.5   28.3    
(1)
Non-GAAP financial measure. See the Non-GAAP Financial Measures Advisory section of this MD&A.

(2)
ROCE excluding major projects in progress would have been 8.7% in the second quarter of 2019 if the $1.116 billion deferred tax recovery for the Alberta corporate income tax rate change was excluded.

(3)
Funds from operations and metrics that use funds from operations are non-GAAP financial measures. See the Non-GAAP Financial Measures Advisory section of this MD&A.

(4)
Equal to net earnings plus income taxes and interest expense, divided by the sum of interest expense and capitalized interest on debt.

(5)
Equal to funds from operations plus current income taxes and interest expense, divided by the sum of interest expense and capitalized interest on debt.

Capital Resources

Suncor's capital resources consist primarily of cash flow provided by operating activities, cash and cash equivalents, and available lines of credit. Suncor's management believes the company will have the capital resources to fund its planned 2019 capital spending program of $4.9 to $5.4 billion and to meet current and future working capital requirements, through cash and cash equivalents balances, cash flow provided by operating activities, available committed credit facilities, issuing commercial paper and, if needed, accessing capital markets. The company's cash flow provided by operating activities depends on a number of factors, including commodity prices, production and sales volumes, refining and marketing margins, operating expenses, taxes, royalties and foreign exchange rates.

The company has invested cash in short-term financial instruments that are presented as cash and cash equivalents. The objectives of the company's short-term investment portfolio are to ensure the preservation of capital, maintain adequate liquidity to meet Suncor's cash flow requirements and deliver competitive returns derived from the quality and diversification of investments within acceptable risk parameters. The maximum weighted average term to maturity of the short-term investment portfolio is not expected to exceed six months, and all investments will be with counterparties with investment grade debt ratings.

Available Sources of Liquidity

For the six months ended June 30, 2019, cash and cash equivalents decreased to $2.061 billion, from $2.221 billion at December 31, 2018, with uses of cash in respect of the company's capital and exploration expenditures, dividend requirements, the purchase of $1.066 billion of Suncor's own shares under its NCIB and a net debt reduction of $540 million of debt, inclusive of lease payments, marginally exceeding cash flow provided by operating activities.

For the three months ended June 30, 2019, cash and cash equivalents increased to $2.061 billion, from $1.875 billion at March 31, 2019, due to cash flow provided by operating activities exceeding the company's capital and exploration expenditures, dividend requirements, the purchase of $552 million of Suncor's own shares under its NCIB and a net debt reduction of $796 million, inclusive of lease payments.

32  2019 SECOND QUARTER   Suncor Energy Inc.

As at June 30, 2019, the weighted average term to maturity of the company's short-term investment portfolio was approximately fourteen days.

Available credit facilities for liquidity purposes at June 30, 2019 increased to $4.688 billion, compared to $3.608 billion at December 31, 2018, primarily as a result of a significant reduction in short-term indebtedness noted above, partially offset by the improvement in the Canadian dollar on U.S. dollar short-term debt.

Financing Activities

Management of debt levels continues to be a priority for Suncor given the company's long-term growth plans and future expected volatility in the pricing environment. Suncor believes a phased and flexible approach to existing and future growth projects should assist the company in maintaining its ability to manage project costs and debt levels.

Total Debt to Total Debt Plus Shareholders' Equity

Suncor is subject to financial and operating covenants related to its bank debt and public market debt. Failure to meet the terms of one or more of these covenants may constitute an "event of default" as defined in the respective debt agreements, potentially resulting in accelerated repayment of one or more of the debt obligations. The company is in compliance with its financial covenant that requires total debt to not exceed 65% of its total debt plus shareholders' equity. At June 30, 2019, total debt to total debt plus shareholders' equity was 28.5% (December 31, 2018 – 28.3%) and now reflects the impact of additional capital lease liabilities of $1.792 billion recorded on January 1, 2019 as part of the adoption of IFRS 16. The company continues to be in compliance with all operating covenants.

($ millions, except as noted)

  June 30
2019
  December 31
2018(1)
   

Short-term debt

  2 198   3 231    

Current portion of long-term debt

    191    

Current portion of long-term lease liabilities

  307   38    

Long-term debt

  12 984   12 668    

Long-term lease liabilities

  2 693   1 222    

Total debt

  18 182   17 350    

Less: Cash and cash equivalents

  2 061   2 221    

Net debt

  16 121   15 129    

Shareholders' equity

  45 509   44 005    

Total debt plus shareholders' equity

  63 691   61 355    

Total debt to total debt plus shareholders' equity (%)

  28.5   28.3    
(1)
Excludes the impact of IFRS 16, which was prospectively adopted on January 1, 2019 in accordance with the standard.

In May 2019, the company issued $750 million of senior unsecured Series 6 Medium Term Notes maturing on May 24, 2029, with a coupon of 3.10%.

2019 SECOND QUARTER   Suncor Energy Inc.  33

Change in Debt

($ millions)

  Three months
ended
June 30, 2019
  Six months
ended
June 30, 2019
   

Total debt – beginning of period

  19 173   17 350    

Increase in long-term debt

  557   557    

Decrease in short-term debt

  (1 281 ) (955 )  

January 1, 2019 increase in lease liabilities associated with IFRS 16

    1 792    

Increase in lease liability

  41   92    

Lease payments

  (72 ) (142 )  

Foreign exchange on debt, and other

  (236 ) (512 )  

Total debt – June 30, 2019

  18 182   18 182    

Less: Cash and cash equivalents – June 30, 2019

  2 061   2 061    

Net debt – June 30, 2019

  16 121   16 121    

The company's total debt decreased in the second quarter of 2019 due to a significant reduction of short-term indebtedness, favourable foreign exchange rates on U.S. dollar denominated debt compared to March 31, 2019, the repayment of US$140 million of maturing higher interest long-term debt and lease principal payments made during the second quarter of 2019, partially offset by a $750 million increase in long-term indebtedness and leases entered into during the period.

The company's total debt has increased in 2019 due primarily to the impact of the adoption of IFRS 16, which added $1.792 billion in lease liability to the company's balance sheet, a net increase in long-term debt and leases entered into during the first six months of 2019, partially offset by the repayment of $955 million of short-term debt, favourable foreign exchange rates on U.S. dollar denominated debt, as compared to December 31, 2018, and lease principal payments made during the first half of 2019.

Common Shares

Outstanding Shares

(thousands)

  June 30,
2019
   

Common shares

  1 560 729    

Common share options – exercisable

  21 236    

Common share options – non-exercisable

  14 156    

As at July 22, 2019, the total number of common shares outstanding was 1,557,613,662 and the total number of exercisable and non-exercisable common share options outstanding was 35,381,135. Once exercisable, each outstanding common share option is convertible into one common share.

Share Repurchases

In May 2018, Suncor renewed its NCIB to continue to repurchase its common shares through the facilities of the Toronto Stock Exchange (TSX), New York Stock Exchange (NYSE) and/or alternative trading platforms between May 4, 2018 and May 3, 2019. The TSX subsequently accepted a notice filed by Suncor of its intention to amend the NCIB effective as of November 19, 2018 pursuant to which Suncor was permitted to increase the maximum number of common shares that it was entitled to purchase for cancellation between May 4, 2018 and May 3, 2019 to 81,695,830 common shares.

During the second quarter of 2019, the TSX accepted a notice filed by Suncor of its intention to renew its NCIB to continue to repurchase shares under its share buyback program through the facilities of the TSX, NYSE and/or alternative trading platforms. The notice provides that, between May 6, 2019 and May 5, 2020, Suncor may purchase for cancellation up to 50,252,231 common shares, or approximately 3% of Suncor's issued and outstanding common shares as at April 30, 2019. Suncor security holders may obtain a copy of the notice, without charge, by contacting the company.

34  2019 SECOND QUARTER   Suncor Energy Inc.

During the second quarter of 2019, Suncor repurchased and cancelled 13,001,087 common shares at an average price of $42.46 per share, for a total of $552 million, compared to the prior year quarter when the company repurchased and cancelled 11,860,356 common shares at an average price of $51.33 per share, for a total of $609 million.

  Three months ended June 30   Six months ended June 30    

($ millions, except as noted)

  2019   2018   2019   2018    

Share repurchase activities (thousands of common shares)

  13 001   11 860   24 952   20 859    

Weighted average repurchase price per share (dollars per share)

  42.46   51.33   42.71   47.86    

Share repurchase cost

  552   609   1 066   998    

Contractual Obligations, Commitments, Guarantees, and Off-Balance Sheet Arrangements

In the normal course of business, the company is obligated to make future payments, including contractual obligations and non-cancellable commitments. Suncor has included these items in the Financial Condition and Liquidity section of the 2018 annual MD&A with no significant updates to note during the first six months of 2019. Suncor does not believe that it has any guarantees or off-balance sheet arrangements that have, or are reasonably likely to have, a current or future material effect on the company's financial performance or financial condition, results of operations, liquidity or capital expenditures.

2019 SECOND QUARTER   Suncor Energy Inc.  35

7. QUARTERLY FINANCIAL DATA

Trends in Suncor's quarterly revenue, earnings and funds from operations are driven primarily by production volumes, which can be significantly impacted by major maintenance events, changes in commodity prices, including widening of crude differentials, refining crack spreads, foreign exchange rates and other significant events impacting operations, such as the Government of Alberta's mandatory production curtailments implemented in the first six months of 2019.

Financial Summary

Three months ended
($ millions, unless otherwise noted)
  June 30
2019
  Mar 31
2019
  Dec 31
2018
  Sept 30
2018
  June 30
2018
  Mar 31
2018
  Dec 31
2017
  Sept 30
2017
   

Total production (mboe/d)

                                   

Oil Sands

  692.2   657.2   740.8   651.7   547.6   571.7   621.2   628.4    

Exploration and Production

  111.7   107.1   90.2   92.1   114.1   117.7   115.2   111.5    

  803.9   764.3   831.0   743.8   661.7   689.4   736.4