Wood Mackenzie reviews UK Upstream sector

Investment continued to boom in the UK in 2014 with US$19 billion (£12 billion) of capital expenditure pumped into the sector – keeping the UK in the top 10 countries for upstream spend globally.

Wood Mackenzie’s annual United Kingdom (UK) Upstream review, says this investment meant after several years of steep decline, UK production stabilised and is even expected to grow in the near term. However, Wood Mackenzie also warns that 2014 was a very challenging year for the United Kingdom Continental Shelf (UKCS) with rising costs, poor exploration results and falling oil prices squeezing already tight project economics – casting further concern over the outlook for 2015 and beyond.

Erin Moffat, UK Upstream Senior Research Analyst for Wood Mackenzie explains: “In 2014, the investment boom that began in 2011 continued with capital investment at US$19 billion, driven by sustained high levels of activity and high costs including progress on the development of more technically challenging projects.”

“The UK remained in the top 10 countries for upstream spending globally”

According to Wood Mackenzie’s latest analysis, this sustained level of investment ensured the UK remained in the top 10 countries for upstream spending globally, with nearly a third of the total UK spend – around US$6 billion (or £3.8 billion) – associated with just five assets last year – Mariner, Schiehallion, Laggan, Clair and Golden Eagle.

Pressure for tax cuts

However, Moffat continues: “The high cost environment in the UK meant that project returns were already subject to increased scrutiny during 2014. The dramatic fall in oil price towards the end of last year only adds to this. The UK Government reduced the tax rate by 2% in December 2014, but we expect growing pressure to reduce it further. At an oil price of $60/barrel, 95% of pre-sanction oil & gas reserves in the UK generate less than a 15% return on investment.

“UKCS exploration and appraisal activity continued to fall in 2014, with the number of exploration wells decreasing by 18% to just 23 wells”

“This has intensified concerns over future UKCS investment as further cuts or delays to projects are likely. A low oil price could also impact producing fields with high operating costs, with the potential for shut-ins. We estimate US$3.2 billion (£2.0 billion) of spend associated with pre sanction projects could be at risk over the next two years as a result of current oil prices. Without this, UK Upstream spend in 2016 would be around US$10 billion (£6.3 billion) – just over half of 2014 levels.”

“UKCS exploration and appraisal activity continued to fall in 2014, with the number of exploration wells decreasing by 18% to just 23 wells. 2014 drilling was considerably lower than the previous ten year average of 81 wells per year, due to restricted access to finance for some players, high costs, a stretched service sector, and a focus by some companies on progressing large, capital intensive development projects. The current oil price means 2015 will unsurprisingly bring further budget cuts – with exploration spend top of the list.” Moffat adds.

Only 4 fields brought online

According to Wood Mackenzie, only four new fields were brought onstream in 2014, with total recoverable reserves of 185 million barrels of oil equivalent (mmboe), but as Moffat cautions: “This is a drop of 54% on the previous year, due to project delays caused by modifications to existing facilities and commissioning issues, the number of new fields to start production was far below the 11 expected at the start of the year. However, the outlook for 2015 is more positive, as we expect 12 new fields will start production, adding around 100,000 barrels of oil equivalent per day (boe/d) in 2015 – around 6% of total UK production.”

M&A spend continued to fall in 2014, following a slump in activity during 2013. “In contrast to the high levels of Global M&A spend, the total value traded in UK focused deals was just US$2.2 billion (£1.3 billion). The majority of deals traded were smaller asset packages, similar to 2013. However, in contrast to the conventional asset focus of deals in previous years, the two largest deals by value in 2014 were infrastructure and unconventional focused. “ Moffat explains.

“…industry must now work hand-in-hand with Treasury and the new Oil and Gas Authority (OGA) to secure further investment…”

Wood Mackenzie’s report notes that UK Onshore activity picked up in 2014 with the 14th Onshore Licensing round opening in July. Ms Moffat expands, “This was the first onshore licensing round since 2007. 290 blocks received offers and although no firm date has been announced for the final results, we expect the licence offers to be made public in the first half of 2015. We could see further development in the UK onshore sector this year.”

“On reflection, the events of 2014, including the Wood and Fiscal Reviews, had the potential to make it a game-changing year for the UKCS. However, the immediate impact has yet to be felt. Looking ahead to 2015 and the threat of further spending cuts and prolonged lower oil prices looming, industry must now work hand-in-hand with Treasury and the new Oil and Gas Authority (OGA) to secure further investment and extend the life of the UKCS industry,”Moffat offers in closing.

Source: Wood Mackenzie