UKOOA: Tax Increases Threaten Goal of Maximizing Recovery of UK Oil & Gas

Malcolm Webb, chief executive of the UK Offshore Operators Association (UKOOA), and Mike Tholen, UKOOA's commercial director, today (June 20, 2006) highlighted the risk of failing to maximize UK oil and gas production as a result of increased taxation, continued fiscal instability and rising costs in the UK oil and gas basin. The senior UKOOA figures were giving oral evidence to the Scottish Affairs Committee inquiry into the effects of tax increases on the oil industry in Aberdeen.

The doubling in December 2005 of the supplementary Corporation Tax rate paid by the UK oil and gas industry (to 20%) was the third significant tax move in three years and together these repeated changes have resulted in the UK oil and gas industry being by far the highest tax sector of the UK economy. New developments are now taxed at 50% while older fields, which pay Petroleum Revenue Tax (PRT), are taxed at 75%.

In its written submission to the Committee, UKOOA acknowledged that the tax increase may have limited impact in the short term because most investment on new oil and gas projects was already committed before the latest tax hit and oil prices are historically high. However, it is almost inevitable that there will be a long term impact, the organization said. Oil and gas development in the UK is now less attractive and investors are adding a risk premium to UK investments as a result of the fiscal instability.

UKOOA pointed to increasing evidence that high risk exploration is now being seen as less attractive, marginal developments are not being pursued and despite oil and gas price increases, the minimum field size companies are now prepared to develop appears to be rising.

Malcolm Webb said: "These tax increases are at odds with and undermine much of the good work that industry and government have done together through PILOT. The energy review presents an excellent opportunity for government to form and deliver a consistent policy and approach on energy for the UK."

In the meantime, operating costs continue to rise rapidly. The UK offshore industry must compete both regionally and globally for rigs, resources and skilled personnel. Since the start of 2004, rates for semisubmersible rigs have risen six-fold, while jackup rig rates have risen three-to-four fold over the same period.

Malcolm Webb said: "The post-tax rate of return from the UKCS has declined over the last five years despite increases in the oil price, which reflects the impact of increasing costs and rising taxation."

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.

"Government cannot presume that the UK will remain a preferred location for investment," warns Malcolm Webb. Fiscal risk needs to be taken out of the equation if we are to achieve our goal of maximizing the ultimate recovery from the UK offshore. The industry is now increasingly exposed to lower oil and gas prices and activity would slump if there were to be a significant downward price adjustment without immediate corrective action to reduce taxation.

"The tax hike was inconsistent with the PILOT vision and appeared to demonstrate that the Treasury was more interested in maximizing short term tax receipts than maximizing the ultimate recovery of the UK's oil and gas reserves, which drives the PILOT vision," he added.