As anticipated 2015 proved to be a difficult year for both oil and gas companies and the supply chain companies that make up the oilfield services sector. The average price of a barrel of Brent crude in 2015 was $52.35 dollars, less than half of the average price for the years 2011 to 2013, and a little over half the average price for 2014. The average to date for 2016 has fallen further to $30.70 per barrel, less than the average Brent price for each of the years 1979 to 1982 even in nominal terms!
The reaction of the upstream companies to the collapse in the price has been to slash capital expenditure, cut headcount and latterly, for some of the large listed companies, reduce their shareholder dividends. Optimism of a swift recovery in price has ebbed away and most in industry seem reconciled to a “lower for longer” commodity price.
To a large extent the capital and debt markets are closed to any further exposure to oil and gas, and there are clear signs that the banks are seeking to very carefully manage existing debt facilities, and are reluctant to enter into new resource based lending arrangements. There have already been some insolvencies as companies were unable to service their debt, and it is likely that there will be more as commodity hedges expire and the banking sector takes more proactive measures to protect their positions.
Cost cutting and a much greater focus on operational efficiency has seen significant reductions in the operating costs per barrel for some fields, and overall the UKCS saw an increase in production for the first time since 2000. However, industry continues to grapple with how it can achieve greater collaboration and standardisation. Whilst some progress has been made it remains very difficult for companies to behave in a collaborative manner where they are focused on their own cash flows and fearful of increasing exposures to counter-party risk.
The government’s reaction to the unfolding crisis in the sector has been to deliver a package of measures in the Budget of 2015 including reversing the ill-fated increase in corporate tax in 2011, introducing a basin wide investment allowance which applies to capital expenditure and some elements of operating expenditures, and reducing the Petroleum Revenue Tax rate from 50% to 35%. Whilst all of these changes were welcome the capital investment in the UKCS in 2012-2014 followed by the rapid fall in commodity price, and high cost base of the basin, has meant that many companies see no short to medium term benefit because they have significant tax losses.
The further slide in oil price in January 2016 and announcements of more job cuts in the sector have given rise to fresh appeals for fiscal support from the sector. There are probably no oil and gas fiscal changes that will have a material positive short term effect on the sector, and at the same time be acceptable to government at a time when projections of achieving a budget surplus by 2020 are under great pressure. However, the government still has an important role to play in creating the most attractive and competitive fiscal regime for a mature oil and gas basin like the UKCS. It is creating that longer term, positive, investment environment and removing any impediments to deal flow in the UKCS that ought to be the focus of the Budget on Wednesday as far as oil and gas is concerned.
Look out for my predictions of oil and gas measures in Budget 2016 in Energy Voice tomorrow.
Derek Leith is a tax partner at EY and head’s up the firm’s Aberdeen base.
Recommended for you
