Memorandum submitted by UKOOA
(i) Introduction
UKOOA was extremely disappointed with the tax
increase imposed in December 2005. This was the third significant
tax increase in three years (2002 Budget, 2005 Budget and 2005
PBR) and together these repeated increases have resulted in the
UK oil and gas industry being by far the highest taxed sector
of the UK economy.
The UK Offshore Oil and Gas industry (the Industry)
makes a vital contribution to both the Scottish Economy and the
wider UK Economy, providing energy, investment and employment.
After a decade of fiscal stability, the UK has acquired an international
reputation of fiscal instability within the industry and UKOOA
is concerned about the consequences of the tax increase which
we outline below. With production beginning to decline, it might
be expected that the tax burden should be reduced, rather than
increased, to encourage investment and help extend the productive
life of the basin.
— The latest tax increase will have
a detrimental long term impact on the recovery of oil and gas
reserves from the UK Continental Shelf;
— The Fiscal and Regulatory regime
as now constituted is unsuitable for the second half of the life
of the North Sea;
— Industry makes a substantial contribution
to the UK economy both directly and through investment in a world
class supply chain, providing highly skilled employment and substantial
total tax revenues to the Exchequer.
(ii) After four decades
the UK still remains a significant oil and gas producer
— Whilst production peaked in 1999
(oil) and 2000 (gas), in 2004 the UK remains the fourth largest
gas producer and thirteenth largest oil producer in the world;
— In 2005, the UK produced 1.2 billion
boe (barrels of oil equivalent[1])
from the continental shelf, adding to the total of 35 billion
boe produced since 1970;
— The Industry provided a reliable,
dependable supply of gas to the UK market throughout the winter
and it has the potential to do so for many years to come if investment
and activity can be appropriately sustained.
(iii) Development of the UK's oil and gas
reserves has come as a result of massive investment and expenditure
to the benefit of the whole economy
— Since 1970, the Industry has (in
2005 money)
— Invested £222 billion in
exploration and capital development,
— Spent £120 billion on operating
these oil and gas fields and assets;
— The UK Continental Shelf (UKCS) will
need to attract £100s of billions of new investment if the
full potential of the basin is to be realised.
(iv) The UK will become more dependent on
oil and gas over the next decade
— Oil and gas, predominantly from the
UKCS, provided 75% of the nation's primary energy needs in 2005;
— DTI figures show that, even with
rapid growth of the renewables sector, UK reliance on oil and
gas could increase to 83% of primary energy demand by 2020;
— To the extent that we do not produce
oil and gas from the UKCS, we will have to import it, to the detriment
of the balance of payments, economy and Exchequer.
(v) Sustained investment is essential to
deliver the second half of the UKCS
— The UK has produced 35 billion boe
from the UKCS since gas production first commenced in 1967. Substantial
opportunities remain and existing reserves and new exploration
may deliver another 16-27 billion boe over time. However the drive
to explore and develop these reserves will depend on the competitiveness
of the UK as an oil and gas producing province and requires an
appropriate fiscal and regulatory environment suited to the second
half of the life of the basin;
— This is still a high risk industry,
where three in four exploration wells are unsuccessful, failing
to discover economic reserves. New discoveries in the UKCS are
now typically 10 to a hundred times smaller than in the past.
Recent discoveries have averaged at 20-30 million boe and were
less than 20 million boe in 2005. Rising costs and an increasing
tax burden are eroding the attractiveness of many of these opportunities.
(vi) The UK Exchequer has been a major beneficiary
of the UKCS
— The UKCS has provided £215 billion
in direct tax revenues to the UK Exchequer since 1970. The
total tax contribution is much larger through the economic activity
generated by the supply chain and individuals employed by the
Industry;
— Direct fiscal revenues have increased
rapidly over the last three years, even before the latest tax
increase, rising from £4.3 billion in fiscal year 2003-04
to £9.6 billion in 2005-06;
— Maximising recovery from the UKCS
has the potential to double fiscal revenues over the remaining
life of the basin and sustain the large number of companies working
in the supply chain plus the jobs which they provide.
(vii) Activity increased in 2005 on the back
of higher oil prices, however rapidly rising costs are now a threat
to long term competitiveness
In 2005:
— The UK produced 3.2 million boe per
day, (645 million barrels of oil and 85 billion cubic metres of
gas);
— Total investment rose 30% to £4.8
billion, the largest of any industrial sector in the UK;
— The number of wells drilled increased
30% on 2004;
— The Industry spent £5.2 billion
to operate the offshore fields, pipelines and onshore terminals,
an 11% increase on 2004;
— Unit costs (per boe) increased 20%,
underlining the competitive pressures.
In 2006:
— The UK will produce around 3.0 million
boe per day;
— Total expenditure, covering investment
and operations, will rise to around £11 billion, halving
the rate of production decline;
— If prices average $57, the Industry
will pay £10.3 billion in 2006 and will be proportionately
higher if oil prices remain above this figure.
(viii) This industry provides employment
for a highly skilled workforce which is sustained by the continued
investment in the UKCS
— The industry will provide employment
for 380,000 in 2006, an increase of 20,000 over the last two years:
— comprising 290,000 directly employed
by oil and gas companies and the supply chain, with another 90,000
jobs supported by their economic activity;
— Employment is spread across the UK,
with over a 100,000 skilled people in Scotland directly employed
by the industry.
(ix) The supply chain which developed on
the UKCS has an increasing global presence
— The supply chain has grown rapidly
over the last two decades and now serves both the UKCS and many
other oil and gas provinces. Its presence in the UK still relies
on there being a robust offshore industry in the UKCS;
— Scottish export earnings alone have
grown from £2 billion since 1998 to £4 billion in 2004,
the contribution to the UK economy is conservatively estimated
at double this;
— The UKCS supply chain is now diversifying
to work in the renewables sector and other parts of the energy
industry.
(x) Continued Fiscal instability will damage
UK competitiveness
— SCT, the Supplementary charge to
Corporation Tax, was doubled to 20% from Jan 2006; new developments
are now taxed at 50%, older fields which pay PRT are taxed at
75%.
— The tax increase may have limited
impact in the short term because most investments were already
committed before this latest blow. It is almost inevitable though
that there will be a long term impact on recovery:
— Oil and gas activity in the UK
is now 16% less attractive,
— Investors now add a risk premium
to UK investments because of fiscal instability,
— The post-tax rate of return from
the UKCS has declined over the last five years despite increases
in the oil price, reflecting increasing costs and rising taxation;
— The UK fiscal regime has failed to
provide long term stability to encourage investment. There is
increasing evidence that high risk exploration is less attractive
and marginal developments are not being pursued. Despite recent
oil and gas price increases, the minimum field size now being
developed appears to be rising as a result of higher costs, the
tax increase and a perception of increased regulatory and fiscal
risks;
— The UKCS is now increasingly exposed
to lower oil and gas prices. Without very prompt activity by Government,
activity would decline sharply if oil and gas prices revert towards
previous norms.
(xi) There are lessons to learn from the
2002 increase in taxation
— Whilst it is not easy to provide
a simple econometric measure to demonstrate the impact of the
2002 tax changes on the UKCS, it had a demonstrable detrimental
impact on activity and investment.
— It was already becoming difficult
to attract new investment into the UKCS even before 2002. The
number of new development wells drilled per year had been reducing
sharply and exploration and appraisal drilling had also exhibited
a similar trend. These trends were accelerated by the imposition
of SCT. By the end of 2003, the number of stacked rigs and the
lack of activity across the supply chain in the UK demonstrated
the size of the challenge the industry was facing;
— DTI and Industry both separately
and through PILOT have done a lot to rebuild confidence and improve
the investment climate since 2002. This has also been aided
by the recent surge in oil prices. Measures such as the Fallow
process and Promote licences plus the 100% First Year Capital
Allowance and the Infrastructure Codes of Practice have led to
a significant improvement in Commercial and Exploration activity
and encouraged investment in new projects. The focus on Brownfields
now appears to be having a similar positive impact. The number
of new entrants to the UKCS over the last couple of years is also
testament to this work and the future opportunities which remain
in the basin.
(xii) Rising costs and increased taxation
may determine the outlook for 2006 and beyond
— Costs continue to rise rapidly on
the back of higher oil prices;
— Rates for semi-submersible rigs have
risen six-fold since the start of 2004, with jack-up rig rates
rising three-to-four fold over the same period;
— The UKCS must compete both regionally
and globally for rigs, resources and skilled personnel;
— Government can not presume that the
UK will remain a preferred location for investment;
— Production has the potential to decline
at less than 5% pa over the remainder of the decade provided current
rates of investment can be sustained;
— The latest survey forecasts production
of around 2.7 million boe per day in 2010. However, 20% of
this forecast production has yet to receive final investment decision
and it will be critical to sustain this rate of production.
(xiii) Energy Policy needs to be better aligned
and represented within Government
— There are too many different and
unnecessarily burdensome regulatory influences from the UK and
EU which fail to recognise the objective of maximising economic
recovery of UK oil and gas reserves;
— The unsatisfactory rules regarding
decommissioning provide an example of conflicting policies which
hinder the trading of assets and may well result in the premature
removal of existing pipelines to the detriment of future production;
— A single focused approach on energy
is essential to develop a diverse supply mix which maximises the
opportunities presented from indigenous resources;
— Currently, energy policy is being
determined by a number of separate teams, including DTI, Treasury,
DEFRA, Foreign Office and the Prime Minister's office;
— UKOOA believes that this is not sustainable
and that a more efficient and coherent approach is required, preferably
managed by a dedicated department and headed by a Secretary of
State for Energy.
14 June 2006
1 "barrel of oil equivalent" (boe) equates
gas volumes with oil, so that a single measure can be made of
the two in combination. Back
|
