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    Future of UK North Sea at risk in upcoming election [Gas in Transition]


Whoever is in power after the next election, policy uncertainty is a long-term problem for the UK North Sea oil and gas industry.

by: NGW

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Future of UK North Sea at risk in upcoming election [Gas in Transition]

Policy affecting the future of the North Sea oil and gas industry is set to be a critical talking point in the runup to the country’s next general election. The ruling Conservatve party are pushing forward a bill that would make annual licensing rounds mandatory, in a bid to spur increased exploration. Meanwhile the opposition Labour party, currently enjoying a sizeable lead in the polls, has said it wants to stop issuing new licences altogether, arguing that developing more resources beyond the current reserve basis is out of step with net-zero ambitions.

In any case, what both parties currently agree on is maintaining a current windfall tax on excess oil and gas profits, despite prices falling from record highs seen in 2022. The tax, which has already led various North Sea players to cancel or defer drilling work, is due to remain in force until 2028. Labour has indicated it may increase the tax burden further, by removing investment allowances. 

This all amounts to a very uncertain investment climate for North Sea oil and gas – an industry has had to cope with frequent changes in policy for years, and can therefore anticipate many more changes in the future, making it hard to weigh up what return would be made on a given investment. Making matters worse, the development of key fields has become a focal point for hardline environmental groups, and the fact that these groups have recently managed to block such projects through the courts is a worrying sign.


Windfall tax set to remain

Through traditionally more supportive of North Sea drilling, it was actually the Conservative party under former Prime Minister Boris Johnson that first introduced the windfall tax, known as the Energy Profits Levy (EPL), in 2022, back when the UK was suffering the worst of the energy crisis and broader cost-of-living crisis. The tax rate was subsequently raised from 25% to 35%, bringing the headline rate on oil and gas profits to 75%.

James Reid, senior research analyst at Edinburgh-based Wood Mackenzie, points to clear examples of how the levy has hit upstream activity, with US player Apache cancelling a drilling campaign and UK operators Ithaca and EnQuest deferring field work. Importantly, the EPL includes a 29% investment allowance that allows operators investing in new projects to reduce how much tax they pay. As such, the impact on companies depends on where they are in their investment cycle, Reid tells NGW.

“So companies such as Harbour and Apache who were in harvest mode, that were just producing from their their portfolio and not really doing major capital investments were hit quite hard, whereas companies that were going through heavy investment such as Equinor and Ithaca were able to utilise the investment allowances,” he explains. 

The EPL will be lifted in the event that prices fall below $71.4 per barrel for oil and £0.54/therm for natural gas for six consecutive months. The problem, Reid says, is that there is little correlation between prices for the two commodities, and both price floors must be breached in order for the tax to be ended.

“So if you’ve got a heavy gas or oil-weighted portfolio, you could potentially be hurt if one commodity price drops but the other stays high. We and most commentators and analysts don’t foresee this price floor being triggered prior to the sunset clause ending the levy in 2028.”

The EPL was more manageable when prices, particularly for natural gas, were soaring in 2022. Now prices are close to what they were prior to Russia’s invasion of Ukraine and the subsequent shock to the global energy market, but the tax remains in place.


Pre-election policies

The next UK general election will take place this year and must be held no later than January 2025. Most polls indicate that Labour is enjoying a consistent, double digit lead for the past 12 months. This puts Labour potentially on track for a landslide victory.

Labour has criticised “loopholes” in the EPL such as the investment allowance, suggesting this allowance may be ended or at least reduced. Conservatives, meanwhile, simply want to keep it in its current form. But the difference in positions is on licensing policy. The opposition wants to stop issuing new licences altogether, while the government is currently in the process of pushing through a new bill that would make it mandatory to hold licensing rounds every year. The bill passed a second reading on January 22.

The opposition has scathingly attacked the bill, describing it as “climate vandalism” that makes the UK look like “hypocrites” when it comes to tackling emissions. At the same time, he said that more licences would have little impact on energy security anyway, as their development would only have a marginal impact on production over the coming decades.

It is debatable whether issuing more licences would “really move the needle” in terms of North Sea oil and gas development, Reid says, as in the last decade, only 400mn barrels of oil equivalent have been discovered on newly issued licences, whereas 733mn boe has been found at pre-existing acreage. Were Labour to go further and block drilling at existing licences, this would have a far more significant impact, he says.

Labour is due to release its manifesto in February, which should make its position clearer. But both parties could well adjust their policies all the way from now until the election, Reid says.

In any case, successive changes in policy from government to government significantly undermine the investment climate in the UK, Reid says, as this makes it very hard for companies to assess the profitability of projects that have production lifespans of years or even decades. He compares the situation in the UK with that in Norway, where even though the tax rate is high, it is more consistent over time, regardless of which government is in office.

Beyond government policy, another threat to the industry lies in opposition by prominent, hardline environmental groups. In what is potentially a worrying precedent, three previously-approved projects off Norway were blocked by a district court in Oslo on January 18, after environmental groups Greenpeace and Nature and Youth filed a lawsuit arguing that the government had failed to consider the impact of the future use of extracted hydrocarbons on global emissions levels. The projects in question – Equinor’s Breidablikk field and Aker BP’s Yggdrasil and Tyrving deposits – are sizeable, comprising a combined 875mn boe in recoverable reserves.

Reid notes that UK projects such as Cambo, Jackdaw and Rosebank have been “lightning rods” for environmental protest, placing them at risk of similar issues.