Select Committee on Trade and Industry Minutes of Evidence


Examination of Witnesses (Questions 200-219)

DR GEORGE WATKINS, MR DAVID ODLING AND MR RAYMOND HALL

TUESDAY 13 NOVEMBER 2001

Chairman

  200. Good afternoon, gentlemen. Who wants to kick off?

  (Dr Watkins) I am George Watkins. I am Chairman and Managing Director of Conoco UK Limited, but I am here today in my capacity as a member of the UKOOA Council and Chairman of UKOOA's Gas Policy Group. On my left is Raymond Hall. He is the Chairman of the Economic Advisory Group which reports to PILOT, which is a successor to the Oil and Gas Industry Task Force. On my right is David Odling, who is UKOOA's Director of Policy.

  201. Before we go into detail, perhaps you could explain to us a little bit about UKOOA for the record. There is a plethora of oil and gas related organisations and we would not wish to waste your time by asking you the wrong questions. We want to try to limit ourselves as much as possible.
  (Dr Watkins) UKOOA stands for UK Offshore Operators' Association, which means that its members are either exploration or production or exploration and production operators on the UK continental shelf. We have 30 members ranging from the very big to really the quite small with the bulk being somewhere in the middle about the size of my own company.

  202. Do I take it that you have in membership virtually everyone who is operating on the UKCS?
  (Mr Odling) Yes.

  203. Almost a closed shop.
  (Dr Watkins) We have on occasion had some operators who are not members, but that is rare.

  204. You are in effect the voice of the operators on the UK continental shelf.
  (Dr Watkins) That would be right.

Linda Perham

  205. From your memorandum you are obviously confident that the market can be relied upon to satisfy future energy demand and security of supply. You do have the caveat "provided markets are open and barriers to entry for new sources of supply and new technologies are removed". That is quite a large qualification, is it not?
  (Dr Watkins) It is a large qualification. You could say that. What we are suggesting there is that in terms of an open market, the market should not be biased in terms of one sector versus another; certainly not substantially biased access to sources of supply. If we look forward to the future on security of supply, at some point the UK is going to be importing probably both oil and gas, hopefully not for many years, but that time will almost certainly come and leaving it to the companies and the market and presumably governments across Europe to participate in the process which allows that delivery.

  206. What are the barriers to the entry of new sources of supply? What do you see as the barriers?
  (Dr Watkins) A couple of principal barriers. If you look at where the gas is going to come from, in terms of the UK, it is going to come principally from Norway and Russia. There may also be some coming from North Africa. That should not be a surprise nor should it necessarily concern us because in the past the UK has imported gas from Norway, continental Europe still imports gas from Norway and imports substantial quantities of gas from Russia and has done for many years. Delivery of that gas has been remarkable for its reliability. As demand in the gas markets increases then there is going to be a need for new investment in pipeline installations which will deliver gas from Norway and from Russia. Having a market which allows that investment to occur is certainly necessary. In terms of the specific import into the UK, we need to be certain that once the gas gets to the beach it can actually flow into the system. By and large that is okay, but as I am sure you know, there have over the last couple of years been concerns around the entry point at St Fergus in terms of the amount of capacity which exists there.

  207. What about the position of renewables? There are problems with their entry and their position in the energy mix.
  (Dr Watkins) What I would say to that is that as I understand the situation a target of ten per cent regeneration from renewables has been set. UKOOA is comfortable with that and with leaving it to the market to determine the exact scope of those renewables in terms of what they are rather than being prescriptive in terms of what they might be. What you do see, because of their engineering capability, is engineering contractors in the oil and gas industry in the UK beginning to participate in some renewable projects. I am particularly thinking of the wind farm at Blyth, which has Amec involved.

Dr Kumar

  208. Listening to you, you obviously have a great deal of faith in market forces, unlike our previous speakers. Is there not a sense of danger that the markets only see short and medium-term objectives and a sense of danger when providing energy supply in leaving it to only one or two areas, unlike the previous suggestion of one third, one third, one third and therefore having a far more balanced approach to ensure diversity and security? The approach you are suggesting is in complete contradiction to our previous witnesses.
  (Dr Watkins) In our memorandum we do also stress the value of diversity of supply. I would say it depends what you are talking about when you refer to the market. If you look in the UK at the gas business, I would suggest you actually have two distinct markets. You have the onshore market which is very competitive and is seeking to be regulated by Ofgem to be competitive along the whole of the supply chain basically from beach delivery to burn. Then you have the offshore market which is itself also very competitive between the players in that market. There the emphasis is more in terms of security of supply, cost efficiency and maximising economic reserves. To me they are distinct and they do require a different view in terms of policy and perhaps indeed regulation. I am not exactly sure where coal fits into this. On a personal level—and I am not sure I am allowed to do this—I can see the merit of retaining and supporting some coal fired generation. Then the policy question comes: at what level and at what cost?

  209. You would not be afraid of relying on net imported gas, something like that?
  (Dr Watkins) That is something we are going to have to face up to and therefore no, I am not afraid of it. The reason I am not afraid of it is because we have seen within Europe that there has been security of supply from the same place we would be looking to for future supply. Knowing that there are vast reserves of gas, particularly in Russia, the gas is there, the issue comes down to how it gets from where it sits to the market. Let me put it to you another way. We worry about the security of supply at our end. The person with the asset perhaps worries about security of demand at our end also.

Sir Robert Smith

  210. A question which does not really fit in but which comes from the previous evidence about CO2 sequestration and its possible benefits to enhance oil recovery and some suggestion of something from BP. I just wondered where the industry's understanding was of the use of CO2 as an injection?
  (Dr Watkins) I am going to have to confess to being out of my depth.
  (Mr Odling) I would say that it is extremely early days. It is very much research stuff at the moment. There is one experiment going on now in the Norwegian sector and a number of the oil operators are considering developing some research projects. It is far too early to draw conclusions from the information I have anyway. Clearly technically it could be done. The question is whether it is economic and whether it makes sense. One of the questions is: will the CO2 migrate once it gets down there? That is not clear yet and I understand that in the experimental operation which is going on, one of the things they are doing very carefully is monitoring to see whether it actually migrates, because that is very important. It would be somewhat undesirable if it started to travel through the geological strata and came up somewhere or contaminated water supplies in an extreme case.

  211. Is that current research in Norway?
  (Mr Odling) Yes, it is.

  212. Are you satisfied with the rate of progress on the improvement of network interconnection and the liberalisation of EU markets?
  (Dr Watkins) I should say that is really a question for governments in that as a company we can work either way. There is an issue there, though, and that is if we do in the long term look to be importing gas and it is coming through the European Union, there are two ways you can buy it into the UK. You could buy it at Zeebrugge or some other pipe which may be put in. You can buy it at the coast and you pay a price for it and you are relying on others to deliver it there to you. In that case, as a UK citizen, I would like a liberalised market in Europe. You could actually buy it direct from the supplier, which in this case might be Russia. Then you are faced with the issue of how you transport the gas because you are going to have to pay for it. In that case, I think I would still favour a liberalised market within Europe in a way I described earlier about the UK. But the pipeline network system, the distribution system, may need to be funded on a different basis. Someone is going to have to fund that and certainly the last time that happened it was on the basis of expected throughputs and expected tariffs which could then be taken to the bank to fund the pipelines.

  213. Turning to something which came up this morning, if you get a liberalised market and in effect decouple gas from oil on mainland Europe, one of the things the industry said quite often to the all-party group over the years was that they should not be too enthusiastic just because the oil price has picked up. Unless the gas price picks up the mix of oil and gas in the North Sea means that it is still going to be uneconomic to develop quite a lot of our fields in the North Sea because the gas is not going to be worth having and therefore it is not going to look attractive just because oil has picked up. I am just wondering what the impact would be if we did see the gas price going down on the actual investment in the UK continental shelf, even in a high oil price situation.
  (Mr Odling) The investment would tend towards oil projects then, would it not? New drilling would be after oil and not after gas so there would be an immediate swing in the market. In fact that is precisely what happened in the late 1970s. Gas exploration and new development ground to a complete halt and everything moved into the oil province.

  214. Given the kind of fields out there now is that still a possibility? Are there still oil only provinces out there which would be attractive?
  (Dr Watkins) Yes, there are oil only provinces.
  (Mr Hall) It would have less impact on exploration because when you go exploring you are not actually sure whether you are going to find oil or gas. Perhaps less impact on exploration, but yes, in terms of new developments, you will shift away to developing the oil rather than the gas.
  (Dr Watkins) I am actually rather more optimistic. There is a price for oil and gas at which projects would not go forward. There is no question about that. One of the benefits the UKCS has today is that it has significant infrastructure which does allow lower cost development. I would say we are a pretty resilient industry and we do look for the use of new technology to help us manage costs and we are going for sizes of discovery in pools which 20 years ago people would have thought we would never be able to develop. As a company we are involved with Clare in the West of Shetlands with BP as operator. That field was discovered in the late 1960s but because it is a very difficult, fractured granite reservoir, it is only today that we have really felt confident to put in the large investments to develop it.

Chairman

  215. We heard from some witnesses this morning the suggestion that there were still fields which could be exploited which were not being fully exploited. The suggestion was that maybe the tax regime was inhibiting that. I know that UKOOA is often reluctant to get into the stormy waters of fiscal matters, but speaking if not for UKOOA, speaking even for Conoco, are there areas which you find it is no longer economic to operate in and if they are would it be a change in taxation which would make it more attractive for you to stay or would it be that you would want to give it up and leave it to smaller specialist organisations which clear out the last areas of the fuels?
  (Dr Watkins) Speaking for UKOOA and for Conoco the most important thing we see is fiscal stability, the ability to plan and know the basis of where we are going to be in future years. That is not to say that on the margin there cannot be assistance. An example of what I mean by that is the royalty relief which was given to Talisman to go back into the Beatrice field. That is within the current remit. Obviously it also required Talisman as the operator to demonstrate that it could happen with that royalty relief, but it was not economic without. I do not know the details of the contract but my guess is that there are some metrics in there which allow both sides, and particularly the Government, to be satisfied that this was worth doing. On the margin certainly those sorts of things in mature fields almost on a case by case basis would seem to be able to be done now. In a broad sense, we would go for fiscal stability.

  216. Except when the alternative benefits you. I am putting words into your mouth. I realise the point you are making. In small micro situations it could be of assistance to have a bit of flexibility.
  (Dr Watkins) Yes, but we would say that we do not see a way that across the board at the moment would make that much difference. What we look for is stability. What concerns us perhaps more, particularly in the gas area is regulatory uncertainty. There are a number of issues which are discussed about gas operations which are up in the air. I refer to things like hourly balancing, there has been discussion of additional metering offshore, coming back again to the issue of capacity at St Fergus, which would seem to have come out of a regulatory regime. Those are the things which give us far more concern.
  (Mr Hall) On the tax point, it is worth remembering that we have had fiscal stability since 1993, eight years, and during that time the production level in the UK has increased substantially, far more than anybody would have predicted back then. The fiscal stability is one of the key reasons why that has been brought about. For new fields the taxation regime is corporation tax at 30 per cent which is the same any other industry in the UK would experience. If one went beyond that one would come almost into subsidy territory and this is an industry which has never sought or needed subsidies of any nature. I do not think tax is preventing the development of new fields, but there are cases on some of the older fields where a case by case approach might make a difference. Overall, the regime we have has served the industry very well in delivering the record levels of production we have seen in the last couple of years.

  217. It has been suggested that the figures you have given us for projections of production might be too cautious, given the underestimates which seem to be the fashion. Are you being too cautious? Is there a range within which you could operate rather than be quite so specific?
  (Mr Hall) There is certainly a range and it is right to point out that over the past, most projections of North Sea production have been far too pessimistic and they have been beaten time and time again. The situation today is different because the annual rate of production which is roughly about 1.6 billion barrels or equivalent is far greater than the volume of new discoveries, it is far greater than the volume of new developments. There is a certain mathematical inevitability about production decline setting in. We could probably keep today's level of production flat, sustain it, for another five or six years but thereafter it will decline. The issue really is the pace of decline and there is clearly a number of scenarios which evolve with that. Building beyond today's level of production is really pushing the envelope in terms of the numbers. The rate of replacing what we are producing is much much less. The conveyor has slowed right down.
  (Mr Odling) It is true to say that we did in our opening paragraph give you a range of estimates of overall recoverable reserves going forward.

  Chairman: As a Scot one is always very cautious about people from Aberdeen giving us forecasts because they tend to be a gloomy lot at the best of times. We have one on the Committee as well!

Mr Djanogly

  218. In your written submission you highlight the value of having additional gas storage capacity within the UK. The DTI has estimated that there has been an increase of about 10 per cent since deregulation. This was something we discussed at some length this morning with the Gas Forum. Their view was essentially that if we intervened in the market the prices would increase and that would have a detrimental effect on the customer. Are you of the view that would necessarily be the case or is there more scope in it than perhaps the way they put it rather bluntly? Do you think that there is a figure which should constitute a reasonable target? Clearly the reserves which are held in the European countries are larger than we have in this country. Do you think there should be another figure that we should aim for? Do you agree with their 15-day supplies which they mentioned this morning? Do you concur with that figure?
  (Dr Watkins) Let me take the first points. I shall leave someone else to deal with the 15-day supplies. There is considerably less gas storage in the UK than there is in continental Europe and the reason for that has to do with the nature of our gas fields and particularly the southern basin gas fields which have what I would call significant swing capacity, in other words the initial British Gas contracts had a daily contract quantity of one level but in the contract was the requirement to be able to deliver 50 per cent more than that which was what I call the swing. So they could draw on fields as and when they needed them. This is basically what you do with storage. In terms of the UK, gas storage by and large has been within the existing fields. To some extent that continues today. That is one of the reasons why the southern basin is so valuable as a resource, because it still has a swing capacity. Over time, as those fields deplete, clearly that swing capacity is not there and it is not there today to the extent that it was 10 or 15 years ago. At that point, if you ask where to put the gas storage, clearly you would put some onshore, but you would also seek to use some of those fields; they are potentially ready-made for gas storage. Then you get down to economics and whether you can actually make it work in terms of the cost, buying the gas, putting it in storage, keeping it there and bringing it out, and today you cannot.

  219. What is the cost in storage?
  (Dr Watkins) I do not know. We may be able to find that information.


 
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