Britain needs to adjust declining oil production to reflect realities

Nov 21, 2003 01:00 AM

by Tom Nicholls

It is no secret that the UK's most successful post-war industry -- oil -- is in decline. But the government could dramatically reduce the speed of that decline by adapting investment terms to the realities of producing oil here, according to the companies operating oil and gas fields in the harsh waters of the North Sea.
Government statistics recently showed a small trade deficit in oil for September -- the first since August 1991. Over the long term, oil consumption will outstrip local production by a widening margin, cranking up the import bill. Decline may be inevitable, but the benefits of making it as gentle and as slow as possible are self-evident.

Oil is a massive revenue generator for the Treasury, especially as oil prices are soaring. It is the lynchpin of the local economy, supporting a host of related industries. Since the mid-1960s, it has pumped up to £ 200 bn in taxes into the economy and supports about 265,000 jobs. Preserving indigenous production will alsomean less to worry about in terms of supply security. Encouragingly, the UK Offshore Operators Association (UKOOA), an industry body, believes the UK has probably used up only about half of its exploitable oil and gas.
The snag is that the easy oil has been lifted. Discoveries used to run into the hundreds of millions and even billions of barrels of oil. But the bulk of what is left is tied up in technically complex and far smaller accumulations, many of the order of 20 mm barrels.

The odd bonanza find may turn up. With reserves approaching half a billion barrels, 2001's Buzzard discovery was one of the UK North Sea's largest hauls for a decade. But when it starts producing oil in 2006, it will supply nowhere near enough to arrest the slide in UK oil production. It will be the exception rather than the rule.
"You can't go to a North Sea conference without someone mentioning Buzzard -- an indication of how rare it is," says Al Stanton, an analyst at Deutsche Bank. Nonetheless, UKOOA estimates there are 24 bn to 32 bn barrels of oil equivalent (oil and gas combined) in the North Sea yet to be exploited, in addition to the 31 bn produced -- a figure Rhodri Thomas, an analyst at the Wood Mackenzie consultancy, describes as a "possible, but high-case".

Although oil production is tailing off rapidly, it is still at the formidable level of about 2.4 mm bpd. UKOOA believes it will be about 1.3 mm bpd at the end of the decade. But UKOOA's members say the government must continue to encourage companies to get at what is left, which will be increasingly expensive to produce.
"The UK is one of the highest-cost oil provinces in the world," says a UKOOA spokeswoman. "It is fiscally attractive by comparison with other regions, but the government needs to continue to ensure the fiscal regime is appropriate for its stage of development." Other industry concerns include uncertainties over decommissioning and the spectre of European Union bureaucrats sinking their claws into Britain's energy businesses.

A spokesman for BP, the UK North Sea's largest single operator, says: "It would be good to think the government would keep a continuous eye on maintaining the right fiscal regime, acknowledging the different requirements of a mature North Sea and incentivising brown field developments as much as exploration."
Tom Cross, CEO of Dana Petroleum, one of the band of small companies snapping up acreage as the majors pull in their horns, says: "We want to spend money in the UK, but it has to stack up with investment opportunities elsewhere. To give government credit, it is taking steps to make drilling more attractive, but we are working against the clock."
Analysts echo the companies' view. Tony Wood, senior economist at Royal Bank of Scotland, says: "There is a feeling that an awful lot can be done to smooth the rate of decline in terms of specific tax measures and freeing up access to assets and bringing new independent operators in."

Some progress has been made since last year's Budget, when Chancellor Gordon Brown slapped an extra 10 % on corporation tax for oil and natural gas ventures, giving North Sea operators a nasty shock and doing no favours to Britain's reputation for having a stable fiscal environment -- an essential ingredient for oil companies, whose investments are stretched over many years.
Some tax breaks have been brought in since then and others are under consideration -- signs of government flexibility that have mollified the irate sector. In a survey this year by the Robertson Research consultancy, oil companies voted Britain the most attractive country for new ventures, beating Libya into second place. A healthy response to a licensing round this year has also boosted confidence.

Ministers are studying proposals from UKOOA for incentives to kick-start exploration, which has slumped in recent years. Industry sources hope their pleas, the results of the Government-industry forum Pilot, will be heeded.
Some sources say Brown may even include tax breaks for the oil and gas industry in next month's Pre-Budget Report. That would not be a moment too soon, they say, underlining that investment must be stimulated while infrastructure is still in place, since many of the small fields on which the North Sea's future rests can be developed profitably only by taking advantage of existing pipelines and facilities.

Tom Nicholls is the editor of Petroleum Economist.

Source: Evening Standard
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