UK regulator outlines North Sea decommissioning cost target
September 4, 2017
The Oil and Gas Authority (OGA) has advocated that operators adopt different approaches to meet its goal of keeping decom costs below US$50 billion, writes Callum Cyrus
The UK’s Oil and Gas Authority (OGA) has firmed up proposals to ensure industry operators shave 35% from decommissioning costs at end-of-life assets on the UK Continental Shelf (UKCS).
According to the OGA’s new cross-basin study, the industry will need to spend GBP59.7 billion (US$77 billion) at 2016 prices to remove platforms and associated infrastructure.
It hopes technological innovations and cost-cutting strategies will reduce the decommissioning outlay to below GBP39 billion (US$50.4 billion), but argued operators must be willing to try “different approaches”. Earlier reports have shown at least 250 UKCS fixed installations must be dismantled by 2050, along with 250 subsea systems, 3,000 pipelines and 3,000 wells.
The government wants to encourage greater efficiency on decommissioning spending to reduce the state’s revenues shed via tax relief available for decommissioning spends. It believes operators will be content with external guidance in areas which are ripe for savings; at stages such as well abandonment, topsides removal and Cessation of Production (CoP).
Integral part The OGA’s ambition is for decommissioning to become an integral part of the asset management cycle, on the same level as exploration, development or production.
Early evidence of this came in August 2016 when the authority folded its former decommissioning unit into an exploration, production and decommissioning (EPD) directorate.
Both the OGA and the industry have a strong incentive to ensure decommissioning is as efficient as possible. Operators are understood to be able to claim back as much as 50% on decommissioning costs, which gives London an interest in keeping the overall bill low.
A recent study by Wood Mackenzie, an energy consultancy, had indicated the UK taxpayer faced a GBP24 billion (US$31 billion) for North Sea decommissioning.
Meanwhile, operators are keen for restraint on decommissioning costs to avoid draining their cash flow after a turbulent few years defined by the industry crash.
New goals The OGA said it anticipated 48% of the decommissioning spend would fall in the Central North Sea region, with the northern North Sea accounting for a further 31%.
These two regions will represent almost 80% of decommissioning spend before 2025, with the bulk of dismantling in the West of Shetland (WoS) region anticipated beyond 2025.
A Maximising Economic Recovery (MER) framework will be used to encourage investors to dismantle their installations in the most cost-effective manner.
The authority’s MER guidebook states it will “ensure” decommissioning plans are drawn up at an “appropriate” time, while promising to facilitate better cost projections and collaborations between licence holders. Operators will be told to finalise decommissioning preparations at least six years before CoP, with an execution and contracting strategy to follow within three years.
Technological advances are likely to change the course of decommissioning in the UKCS, and operators may be required to deploy innovative approaches while decommissioning installations. While this might help efficiency overall, however, it could also inflate decommissioning expenditures in the short term. OGA has previously said that operators tend to prioritise cash flow over net present value (NPV). The former objective implies investors might select technologies with the lowest price up front to free immediate cash flow, while the latter is important if the industry and OGA are to meet their target.
An OGA spokesperson told InnovOil: “OGA is in a pretty unique position [in] that it has oversight of the whole basin so we see the whole picture. We expect operators to collaborate for sure, but when it’s something like decom where there’s an obvious cost saving then parties are generally going to be quite willing.”
Who pays? OGA’s task widened somewhat with the GBP59.7 billion (US$77 billion) figure, which is higher than previous estimates and thus implies a larger cost-saving target. The estimate is 8.7% more than Wood Mackenzie’s GBP54.9 billion (US$71 billion) projection, though the Edinburgh-based consultancy noted that the “picture is constantly evolving”.
Its senior analyst for UK upstream, Fiona Legate, said around GBP5.8 billion (US$7.5 billion) had already been ploughed into UKCS commissioning projects.
One issue concerns which stakeholder should bear the burden for decommissioning spends. UKCS operators increasingly tend to be start-ups or private equity vehicles, as major IOCs pare back their North Sea exposure in response to low oil prices.
For example, when Royal Dutch Shell agreed to sell several UKCS assets to Chrysaor for up to US$3.8 billion in January, some feared the transaction could be surpassed by a US$3.9 billion decommissioning bill. There are concerns that new investors might be deterred by these sorts of numbers unless the old operators cover a share of decommissioning costs, leaving end-of-life assets with below-optimum yields.
In Chrysaor’s case, Shell agreed to retain a US$1 billion liability for decommissioning its former assets. The UK Treasury also hopes that tweaks to its decommissioning tax regime will help alleviate the concerns of new UKCS investors.
According to Tax Journal, the 2017 Spring Budget promised a review to remove the calculation of historic UKCS profits when calculating decommissioning returns, a formula which plays against new entrants. Another issue is how to ensure operators collaborate across different licences to maximise their efficiencies. Wood Mackenzie believes particular savings could be realised with so-called “batch” decommissioning programmes that group together end-of-life assets by region, operator or play.
In September 2015, it estimated that such batch schemes would save operators 20% on average in the central, northern and southern North Sea regions.
“We’re helping to get a well plugging and abandonment optimisation campaign off the ground which is along those lines,” the OGA official told InnovOil. “[It’s about] sharing resources and looking from a regional perspective.” What next The OGA’s determination to steer decommissioning spending is likely to ensure that substantial headway is made over the next couple of decades.
Whether this will be enough to fulfil the OGA’s 35% target is far less certain, however, though it is reassuring that the OGA intends to update the industry on its progress regularly. Much will depend on to what extent OGA can encourage operators to employ fresh thinking about decommissioning projects. Investors will need to move away from the focus on cash flow that underpinned earlier upstream phases and embrace new technologies or the opportunity to co-operate with others.
Recent acquisitions on the UKCS show that compromises will need to be struck with new entrants to ensure the challenges associated with decommissioning do not deter new investment.
The OGA must then prove it can use MER commitments effectively without irking investors by over inflating short-term investment.