Examination of Witnesses (Questions 240-259)
SHELL UK LIMITED
25 JANUARY 2005
Q240 Mr Berry: `Moving in harmony' meaning
that if one goes up the other will go up?
Mr Smith: Yes, and if one goes
down the other will go down.
Q241 Mr Berry: Nothing tighter than that?
Mr Smith: No, and not necessarily
at the same time. There will be seasonality, there will be geographic
effects. The more the markets get connected, and of course with
LNG moving as far as it does they are tending to connect more,
the more we are going to see energy sources moving in harmony.
Q242 Chairman: Can I ask you about the
UK gas market? We have just had witnesses in from the Chemical
Industries Association. I know that you came in halfway through
but you probably heard them talking about the difficulties they
have in getting a range of quotations for gas. We were led to
believe this morning from witnesses from UKOOA, your trade association—and
BP were alongside them so I am not necessarily saying that they
gave the same evidence, but they did agree on the point—that
okay, there are something like 60 suppliers and maybe five of
them have nearly 60% of the market, but it does seem to be very
difficult for customers, both big and small, to get a range of
quotations, not even just to supply. Does that suggest to you
that there is a stickiness in the market, that there is something
wrong with the competitive nature of the business?
Mr Smith: I do not know. It is
hard for me to tell, I am afraid, because we sell most of the
gas that we produce on a long term basis so we are not directly
involved in that market and those quotations. We are to a small
degree for part of our production, but about 90% or so of our
production goes on long term contracts to the large buyers. Therefore,
the participation in the next phase from the large buyers to others
we do not have such direct information about. We have heard it
said that people cannot get as many quotes as they would like
to have.
Q243 Chairman: When the price is very
high you are just selling it as you always did? It was not as
if you started to sell long when prices were higher?
Mr Smith: We have these long term
contracts which have pricing mechanisms built into them in the
main.
Q244 Chairman: And these pricing mechanisms
are linked to the price of oil?
Mr Smith: They are linked to a
variety of things. They can be linked to the price of gas on the
NBP; they can be linked to the price of oil; they can be linked
to various refined oil products for power generation; they can
be linked to inflation as well. There is a variety of indices
to which our long term contracts are connected.
Q245 Sir Robert Smith: It may be that
you are not best placed to deal with what seems to be at the heart
of a lot of people's concerns, which is the operation of the forward
market in the sense that there are a lot of people out there wanting
to create some kind of certainty for their industry but not be
energy players. They want to concentrate on adding value to whatever
product they are making and therefore are looking to buy in the
forward market but there does not seem to be anyone willing to
sell in the forward market and therefore the price is shooting
up. The message being put out is that the sellers were not wishing
to sell because they did not want to take a risk. Is that the
perception you get as a problem in the forward market?
Mr Smith: Again, we are a relatively
small player in the forward market. We are involved in it but
are well under 10 per cent. As was mentioned earlier, it was observed
that there was quite a spike in forward prices last October but
after that the prices did come down. What I saw was that, yes,
if there was a big player who was prepared to sell forward in
a market like that, even though they did not have the gas, that
might have a mitigating effect on the business, but there do not
seem to be any players of that kind. It certainly is not part
of our business strategy to go into open positions of that kind.
Q246 Sir Robert Smith: Is there a reason
why you are mainly on long term contracts? Your long term contracts
are with the next stage in the market rather than the end user?
Mr Smith: Yes. We have a small
business. As I say, about 10 per cent of what we produce is sold
to consumers but certainly not domestic consumers.
Q247 Sir Robert Smith: What was the history
behind being a long term contractor?
Mr Smith: That is where we started
in the North Sea, of course. We went and explored for oil and
gas and we found it and initially, of course, you are looking
for a long term offtake for those contracts because you have got
a big investment to make if you want to give yourself the best
chance of a pay-off over the long term.
Q248 Sir Robert Smith: Another issue
I do not know if you are aware of from your knowledge of the market
is that it has been put to us that transfer pricing rules and
taxation, and in particular international accountancy standard
39, cause a problem in the idea of derivatives in the future of
gas. Are you aware of any concerns there?
Mr Smith: No. We comply with international
accounting standards, so there are US standards that require us
to mark to our contracts as well. We comply with the standards.
Q249 Sir Robert Smith: Does the standard
in any way inhibit the forward market, do you think? Maybe you
could write to us on this.
Mr Smith: I would hope we are
effective in separating out that which we have to report under
standards and that which makes the most commercial sense for us
and our customers, and if we then have to put that together in
our reporting we are happy to do so. I do not feel that it is
an inhibition.
The Committee suspended from 3.56 pm to
4.16 pm for a division in the House
Q250 Mr Clapham: There have been a number
of suggestions by analysts as to what contributed to the price
increase of 2003-04 and Ofgem noted that most of the companies
that were producing in the North Sea stopped for maintenance about
the same time in the summer of 2003. Is there any way that that
could be avoided or is it a necessity that means that all the
companies have to stop at round about the same time to do their
maintenance?
Mr McFadyen: It should be pretty
obvious why we as an industry try and maintain in the summer period,
because it is easier and we are less exposed to adverse weather.
As I mentioned earlier, it is very hostile out there. We need
to get our plans in place, not only our plans as an operator but
also the plans associated with the people that help us with the
service check, so there is a tendency for platforms or production
installations to be maintained in the summer period. I find it
difficult to get round that because it is practical, it is logistically
sensible and it is safer to do it like that.
Q251 Mr Clapham: I can see that and I
can well understand why the maintenance is done in summertime,
but is it not possible over that summer period for companies to
have an arrangement whereby they stagger their maintenance so
that some are in production while others are stopped for maintenance?
Mr McFadyen: In some cases where
we use a shared resource, and this is not a good example but I
will give it anyway, if we take a floating barge to assist in
lifting operations and there is only one barge in the area then
we are obviously constrained as an industry, and therefore we
need to co-ordinate the use of that barge. In the context of UKOOA
there is a discussion which is evolving with respect to how we
can better co-ordinate the use of shared resources where there
is clearly a win-win associated with everybody involved. Again
I will give you an example. If you are looking at the availability
of semi-submersibles for drilling and there is a company like
Shell which is keen to drill in the northern North Sea but only
keen to drill two wells, then we are looking at how we can get
together to convince a drilling operator that it is worth his
while to move that vessel to the northern North Sea. That level
of co-ordination is evolving.
Q252 Mr Clapham: Would it be possible
to say that over the next couple of years you are likely to be
in a position where there is such an understanding between the
companies of the need to maintain over a staggered period that
we may see that happening?
Mr McFadyen: Yes.
Q253 Mr Clapham: But you could not give
a guarantee on that?
Mr McFadyen: It would be very
difficult to give a guarantee. I am absolutely convinced that
the discussion is happening and I am convinced that it will evolve
further as parts of the North Sea consolidate. As I said before,
it is difficult out there and we need to lever all the possibilities
that we have as an industry. I do not know if UKOOA or BP mentioned
it this morning, but there was an industry initiative launched
about a year ago called the brownfields initiative, where the
industry recognised that it was absolutely essential to co-operate
and co-ordinate on a number of fronts. Again, I will give you
an example: testing new technology and sharing the risks associated
with the testing of that technology. It is happening and I think
the discussion is evolving. One thing that I have observed over
the last year is that the industry is doing a great job (and I
am talking about the upstream industry) at helping itself and
moving these discussions forward. It is difficult to give commitments
though because commitments mean, "That is what I am definitely
going to do and I sign on the bottom line", but that is definitely
where we are going.
Q254 Mr Clapham: Turning to another aspect
of it, have legacy contracts reduced the amount of gas that is
available, that is, gas coming through to the market?
Mr Smith: Could you say a bit
more?
Q255 Mr Clapham: Have legacy contracts
contributed to reducing the amount of gas that is coming through
to the market?
Mr McFadyen: What do you mean
by "legacy contracts"?
Q256 Mr Clapham: I am assuming from my
note that we are talking in terms of contracts that have come
from an understanding previously and have carried through to the
future.
Mr Smith: We do have long term
contracts. Those contracts are set up between the buyer and the
seller for the best interests of both. I suppose the best way
to answer it is that we are anxious to sell as much oil and gas
as we can and bring it to market and I do not know that there
are any instances where we are feeling that we are not able to
do so through the contracts that we have got.
Q257 Chairman: What we are really getting
at is that in the Ofgem report the legacy contracts were identified
as being those contracts that were harking back to the old long
term contracts, BG Mark I as it were, when there were serious
big monopoly players in the North Sea, and that when some of these
were disposed of they were not recalibrated, if I can use such
an expression for a contract. They were not renegotiated; they
were just kept in their entirety and there was a sense in which
Ofgem felt that they may have been contributory factors to the
shortage of supply which resulted in the price rises.
Mr Smith: I can only say again
that our business drive is to produce as much hydrocarbons as
we can and get them to the marketplace as much as we can and we
are not feeling that we are inhibited from getting our oil and
gas to the market.
Q258 Chairman: Let me ask a question
about the money that you guys have been making. This has been
a bonanza period, if I can use an expression like that, and it
has been suggested by some people that you do not want to have
windfall profits taxes, but you are going to bed at night and
waking up incredibly rich people in the morning, doing nothing
different from what you did two years ago except that the prices
are a wee bit higher, considerably more than what is required.
We were given this morning late twenties to $30, which is as much
as you need to make a reasonable living out of the North Sea,
but at the moment it is $45 and it has been high for quite a wee
while now, longer than some of the dips. Have you any plans to
indulge in a bit of philanthropy as a consequence of your enrichment?
Mr Smith: We recognise the high
prices. We remember that only seven or so years ago the price
was $10 a barrel. As I said at the introduction, we are confronted
with major capital investments over projects that have to last
20 years or longer, considerable uncertainties in the technological
sense and considerable uncertainties in the commercial sense,
and we are looking for fiscal stability over that period, so there
will be times of high prices but we expect there will be times
of low prices as well. With regard to any thoughts about windfall
profits taxes we say consider hard the unintended consequences
of those, that we end up denting investor confidence, not getting
the full potential out of the North Sea, not getting all the production
we want, not getting the hydrocarbons to market, putting a quarter
of a million jobs at risk.
Q259 Chairman: What about the fact that
more people will be put into fuel poverty as a consequence of
these profits being made, for whatever purpose? There are a number
of other players. You do not sell the gas to the public; you sell
it to the people who generate electricity or you sell it to the
people who sell it to the public for their home heating and cooking
and the like. How are we supposed to help these people?
Mr Smith: We do have a programme
of social investment and in the government's Energy White Paper
there are four principles as I remember in the first report and
one of them is about addressing energy poverty, and rightly so.
Those companies who are closest to the customer I know have programmes
for doing it. There is the Warm Front programme from the Government
as well and all of that I think is a good thing. I think what
people need to do is concentrate on those areas where they have
the best skill and opportunity and—
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