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Oil, the North Sea and Scottish independence: North Sea Investment

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This is the fifth in a series of researched articles on the oil and gas industry, the situation in the North Sea and the relation of this overall picture to a potentially independent Scotland.

We are publishing these as a series because oil is one of the most important, complex, contentious – and fascinating – matters of wide interest, given its role in the ongoing campaigns for independence from the United Kingdom and for the retention and revisioning of that union.

Articles – some short, some longer – will cover, in this order:

The purpose of the series is to inform, not to promote any political stance, although there are political indicators in the facts of the matter.

oil platform north sea, Nasa, Public domain

North Sea Investment

This fifth article in the series moves on from Sir Ian Wood’s report on how best to maximise the recovery of remaining North Sea resources – which focuses on strategies to get the government to invest in the industry and the industry to invest in scraping out the UK’s Continental Shelf.

The situation is that the North Sea is no longer of serious interest to the industry and while they will want to return to it some day, they have plenty of more potentially rewarding opportunities to go for in the immediate and mid-term future. Think Alaska.

It is the UK, not the industry, that needs to get as much as possible out of the North Sea and, because of that imbalance of need and the imperative for government, the name of the game is incentivising.

Driving that need is the impact of the industry’s vigour on the UK economy – and the maintenance of security of supply during the UK’s transition to a low-carbon future, most probably to a baseload from new nuclear generation. The timescale of this projected transition can be read from the Department of Energy and Climate Change’s latest projections. These  show that in 2030 oil and gas will still be providing 70% of the UK’s primary energy mix.

Since at the moment, the North Sea provides 66% of the UK’s oil needs and 50% of its gas needs, in the context of falling production capacity, it is clear what drives the government to invest in the industry.

This is accelerated by the fact that these days new finds are usually smaller and North Sea fields that are in production are getting out less than 15,000 barrels per day. As a result of these factors, development costs per barrel have risen five fold over the decade. This erosion of profit margins brings fading industry interest in the North Sea – and in turn that compels the Government to invest in the inducements of various tax reliefs.

The North Sea industry’s falling production capacity – as opposed to actual production, which is always commercially driven – is currently at 60% of potential. In 2012, that cost the UK Treasury £6 billion in lost tax revenues and returned £6.5 billion.

Investment in the North Sea from the industry prior to 2012 had been hampered by two years of uncertainty in the UK tax regime. This fiscal instability which, with political instability, is one of the two factors that spook the industry, has been a significant factor in an underperforming situation.

The Chancellor, George Osborne, then brought in new relief measures in 2012, making a £3 billion allowance to support investment West of Shetland; a £500 million allowance for large shallow water gas fields; offering tax allowances for some new fields; a brownfield allowance for incremental projects in existing fields; and – a new and costly initiative -  creating allowances to support decommissioning.

These strategies bore swift results, with the level of investment this year, 2013, estimated at £13 billion, seeing new fields brought into play – like EnQuest’s Kraken [a £4 billion investment in 134 million boe of heavy crude] and BG Group’s Jasmine [a £4.3 billion investment in 170 million boe of condensate gas]. And Apache brought a new £400 million FPSO [Floating Production Storage and Offloading] vessel into play this August, 2013, in the Forties Field, following its £4.9 billion investment in renewing and repairing the Forties infrastructure.

This investment though, masks underlying problems – like a 38% fall in production over the past three years, 72% of which is due to the steep drop in production efficiency – from 70% to 60%. This was the picture that drove the commissioning of the Wood Report.

In large measure, the UK government’s ground-breaking commitment to offer guaranteed tax relief on decommissioning has now prompted global corporates and independent businesses to look again at the UK as an investment destination.

Malcolm Webb, CEO of Oil and Gas UK, says: ‘Here is some really good news for the UK. After two disappointing years brought about by tax uncertainty and consequent low investment, the UK continental shelf is now benefitting from record investment in new developments and in existing assets and infrastructure, the strongest for more than three decades.’

Scotland’s First Minister, Alex Salmond, has offered the industry deals similar to those offered by the UK, should Scotland choose next year to become an independent country.

Future investment – from government and industry alike – will depend on the continuing success of the government’s current tax regime and on Sir Ian Wood’s initiative.

The consequence of the tax regime is that the UK government is looking at little in the way of tax revenues from the oil and gas industry for some time.This is the cost of assuring the industry’s future beyond the mid term.

The same position would be the case for an independent Scotland, where it would be a greater burden on a country with a much smaller population and significantly higher social costs.

The industry’s value to the state – as it would also be to Scotland -  lies in:

  • its contribution to GDP, a standard measure of economic health which underpins a state’s borrowing capacity and the interest rates it is charged for this;
  • the associated business development across the spectrum of the supply chain of goods and services supporting the frontline work of the industry;
  • the contribution made to the local economies of shore-base areas and of the areas sourcing the supply chain;
  • jobs and job creation, although the frontline workforce will not exclusively be drawn from the host state. The industry world wide sees the shortage of skilled workers as one of the major threats it is facing.

Highlands and Islands MSP, Jamie McGrigor has, in the past week called for government support for training such workers in Scotland and pointing to the value of the Nigg Academy, a facility championed by the First Minister.

There is an issue on what training is actually useful, with on-site, in-operation experience the richest route; but whatever the best balance of solutions, the industry remains seriously short of a mid and upstream skills base.


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