Select Committee on Trade and Industry Appendices to the Minutes of Evidence


APPENDIX 35

Third Supplementary memorandum by UKOOA

  Please find attached the latest information regarding production forecasts for the UK Continental Shelf, prepared by the Economic Advisory Group for PILOT, using data provided by UKOOA's members and analysed by Prof. Alex Kemp and his team at Aberdeen University. This information supersedes that supplied to you in our evidence which was based upon data collected in 2000.

  Please note, in particular, the term "unrisked" attached to some of the graphs and the explanation of this term which is to be found on page six.

INDUSTRY ACTIVITY SURVEY 2001

Note for PILOT by the Economic Advisory Group

Executive Summary

  The annual Industry activity survey was commenced in August 2001 and followed the format of previous years with Operators providing detailed project data to both UKOOA and the DTI. Aggregation and analysis of the data continues but it is now timely to provide feedback on the high level messages of the survey. These are:-

    —  The forward production profile and remaining reserves are broadly unchanged from the year 2000 survey.

    —  Capital costs necessary to deliver the above production have increased sharply.

    —  Intermediate targets for 2005 (proposed in June) are realistic and appropriate.

    —  The "Vision 2010" production target of three million boepd remains a challenge, a gap of at least 0.8 million boepd remains to filled in year 2010.

  The survey is based on the investment intentions of Operators in the summer of 2001, at that time oil prices were close to $25 a barrel. Since then oil prices have fallen to below $20 a barrel, continued weakness in the oil price could have a significant impact on investment plans for 2002.

CONTEXT

  Following the success of the joint industry/DTI activity survey of year 2000 an update was initiated in August 2001 with a joint invitation from UKOOA/DTI to Operators requesting their participation in the year 2001 survey. All Operators were requested to provide data (production profiles, capex, opex, tariffs and removal costs) on all UKCS projects for which they are the Operator. These projects are classified by maturity status, namely Sanctioned, Incremental, Probable and Possible; for the latter three categories Operators were requested to indicate the probability of the project proceeding within the next five years. The definitions of these categories are given below:

    —  Sanctioned: Fields in production or under development

    —  Incremental: New projects within sanctioned fields (typically infill drilling, compression and/or EOR)

    —  Probable: New fields with greater than 50 per cent chance of proceeding within five years

    —  Possible: New fields with less than a 50 per cent chance of proceeding within five years

  The survey data have been collected under a strict confidentiality process with subsequent data aggregation and analysis being carried out on behalf of UKOOA by Professor Alex Kemp (University of Aberdeen). The DTI has received the same data and is undertaking similar analysis in-house. To respect the confidentiality process this paper contains no data or commentary on the characteristics of individual projects or the investment intentions of individual Operators.

  The survey does not cover exploration or appraisal activity. Such expenditure is not included in the capex data. Similarly, the production forecasts do not include any contribution from future exploration success. To the extent that exploration success has been delivered since the last survey and that such discoveries merit classification, in the opinion of the Operator, as a Probable or Possible development then such data are captured by the survey.

  The purpose of this paper is to provide PILOT with a summary of the conclusions from the survey and implications for Industry activity levels and PILOT targets.

DATA RESPONSE

  An excellent response to the year 2001 survey has been achieved with information on many new projects being provided. The table below summarises the response and compares this with the data from earlier surveys. The data reflect the investment intentions of Operators during the summer of 2001. The survey data and subsequent analysis does not take account of any adverse impact the events of 11 September 2001 may have on future investment levels in the UKCS. The oil price has fallen significantly since the late summer, when the data were collected from Operators, further declines may put at risk the projections of production and capex contained in this assessment.

UKOOA SURVEY—OCTOBER 2001
Number of fields/projects
October 2001
Survey
September 2000
Survey
November 1999
Survey
Sanctioned248257 240
Incremental9697 78
Probable6465 54
Possible8456 19
Total492475 391


  The survey confirms that the number of Possible projects is significantly higher than last year.

PRODUCTION

  This section provides an overview of UKCS production and compares the forecasts with those from the previous survey. The chart below illustrates aggregate UKCS production on an unrisked basis. Overall production is expected to be lower in the next three years with slight increases thereafter. (Gas production has been converted into barrels of oil equivalent—boe—terms using a factor of 5,800 scf/boe.) In the period 2001-20 production is shown to be lower by some 86 million boe compared to the year 2000 survey. Although we have more potential projects going forward than in the year 2000 survey this has not translated into higher reserves. Indeed it is perhaps disappointing that, despite some notable exploration success over the last year, the overall production prognosis is broadly similar. By way of contrast the year 2000 survey revealed an increase in projected 2000-10 production of 1.5 billion boe over the year 1999 survey.


  The following two charts illustrate the specific contribution of oil and gas on an unrisked basis. Both register lower production in the early years. For oil the shortfall is recovered in the later years leaving oil production higher (to 2020) by 430 million bbls. Gas production is sharply lower in the period to 2006 and in cumulative terms remains some 3 TCF below the prognosis of year 2000. It is difficult to be specific on the causes of this without compromising the confidentiality of the data, but it is clear that the contributions from Incremental, Probable and Possible projects are all down from the year 2000 survey data. It is likely that some of the individual projects in these categories have experienced a material reduction in reserves.


  Of course, the production prognosis is far from certain and results from the aggregation of a large number and variety of projects. The following graph illustrates the risk associated with the production profile by highlighting the contribution from the maturity categories and the inclusion of a risk weighted profile. The latter is derived by simply multiplying the relevant production stream by the probability of the project proceeding, as advised by the Operator. Visually, the impact of risking the production is to flatten the production profile in the early years. Note that a significant gap remains with respect to meeting the Vision target of 2010 production of three million boepd. Some progress has been made towards narrowing this target over the last year though a considerable challenge remains.



  Arguably the risking approach above is too severe with low probability projects shown as making too little contribution. An alternative is to build some additional slippage into the timing of the projects but without risking the actual production contribution. It is generally the case that survey data from Operators are provided on the basis that the phasing of first production from new projects is the most optimistic date achievable. Such projects are unlikely to be accelerated but are vulnerable to slippage as a result of various factors, such as unresolved technical and commercial issues, economic viability, partner alignment, transportation ullage, etc.

  The graph below assumes that all the Probable projects are slipped one year and all the Possible projects slipped two years. The timing of Sanctioned and Incremental projects are unchanged; the data itself are unrisked.


  The graph illustrates that slippage flattens the UKCS production profile with the prospects of more or less static aggregate production for the next four to five years. It is debatable how realistic such arbitrary assumptions are but perhaps this representation is indicative of the production outcome that would transpire if oil prices continue to soften or resource constraints emerge in delivering the near term increases in demand from the supply chain.

CAPEX

  The analysis on Industry capex complements that on production, discussed above. On a cautionary note EAG would advise that capex projections beyond the first five years are not particularly meaningful. Many operators do not forecast detailed investment projections beyond this period. Such projections therefore have the familiar rapid decline in expenditure in the more distant years.

  The first graph and table of statistics below compares the year 2001 survey results with the previous year. The most notable feature is the higher capex in all categories of projects. On an unrisked basis the potential expenditure is some £5 billion greater in the period 2002-05. Over the longer period from 2001-20 this increase is close to £6.5 billion. Most of this increase is attributable to increased expenditure expectations on the sanctioned and probable portfolio. Recognising the fact that the production outlook, discussed above, indicates a small change over the same period the analysis indicates a deterioration in basin economics. We would normally expect an increase in capex on this scale to deliver an increase in reserves. The fact that this has not occurred could be a signal that the sanctioned production profile is not fully costed; further increases in capex in the medium term could become a feature of subsequent surveys. Other explanations for the capex increase could be from cost pressures (such as rising rig rates) and deferral of expenditure from year 2000 and 2001. Drilling costs represent nearly 50 per cent of the future industry capex.

  Despite this deterioration in basin economics it is encouraging to note that the Industry is maintaining its commitment to the UKCS by maturing the many investment options summarised in the survey aggregations.


UKOOA SURVEY—STATISTICS (2001 SURVEY)
Field CategoryNo of Fields Reserves Million boeCapex £ millions
Sanctioned fields248 10,938 (11,253)8,105 (4,450)
Incremental961,797 (1,687) 4,046 (3,369)
Probable fields642,612 (2,239) 6,778 (4,954)
Possible fields841,600 (1,784) 3,523 (3,035)
TOTAL49216,946 (16,963) 22,453 (15,808)


  Data from 1 January 2001.

  2000 Production = 1.6 billion boe, figures in brackets denote 2000 survey data.

  The following chart illustrates the capex projection by exposing the probability categories. The solid line represents the risked capex, derived by multiplying the relevant capex stream by the probability of the development proceeding. This approach to risking still produces arguably a somewhat peaky profile, with risked capex in 2002 rising close to £4 billion. It should be remembered that a large and growing proportion of the expenditure remains to be sanctioned and is therefore at risk. The sanctioned (blue) capex is less than half the potential spend in the year 2002 and a much smaller proportion thereafter.


  Complementing the approach taken with the production forecast, the graph below illustrates the impact of slipping all the Probables one year and all the Possibles two years. This generates a smoother capex profile with estimates averaging circa £3.5 billion pa until 2005.


Opex

  Operating costs remain a stable feature of UKCS activity with the trend forecast close to £4 billion pa until 2005. The graph below represents the unrisked opex picture.


TARGETS

  There are currently a number of metrics covering investment and production that PILOT has established for the UKCS. These are well known but in summary these are:

    —  PILOT Vision for 2010: Production at three million boepd and capex at £3 billion per annum (the later to include removal costs plus E&A costs); and

    —  Intermediate Targets for 2005: Aspirational production target of four million boepd and capex at £3 billion per annum (this to be measured on a three year rolling average).

  The two graphs in this section illustrate the challenges that remain in meeting these aspirations, starting with production.


  For production the gap to the "Vision 2010" target of three million boepd has narrowed by some 0.3 million boepd since the year 2000 survey and now stands at around 0.8 million boepd on an unrisked basis. The risked production forecast for 2010 is 1.8 million boepd leaving a very large gap to the target. Whilst modest progress has been made over the last year there is still time to close the gap through future exploration success, deeper development of undeveloped discoveries and further incremental activity in existing fields.

  The survey confirms that the aspirational production target of four million boepd for 2005 remains feasible though it will require the development of nearly all of the incremental reserves and Probable fields to secure it. Interestingly, the risked production outcome for 2005 is 3,897 mboepd whilst the outcome from slipping Probable and Possible fields by one year and two years respectively is virtually identical at 3,915 mboepd.

  For capex (graph overleaf) the large visual gap in 2010 is to be expected at this stage. It is envisaged that the gap will begin to narrow once 2010 becomes within the detailed five year capex planning horizon that many Operators adopt. The extent of this will depend in large measure on as yet unidentified new developments arising from future exploration success and progress towards further commercialisation of existing discoveries.

  The graph below includes the removal cost estimates captured by the survey and estimates of future E&A spend (though not contingent development capex), conservatively included at £300 million per annum. The most recent DTI survey on exploration activity (January 2001) indicated that such expenditure could be as high as £500 million in 2002, falling thereafter.

  In the medium term the target of £3 billion in 2005 looks achievable. The capex slippage case discussed earlier generates capex of £3.2 billion in 2005 (this excludes the contribution from E&A and removal costs). The risked capex figure for 2005 is £1.3 billion, which is unrealistically low for the reasons given above.



  As an Industry the pressure continues to ensure that development costs are kept as low as possible as improvements are made though sharing best practice and applying new technology. The notion of a capex target is therefore secondary to the objective of securing maximum production, capex is simply a means to an end. If projects can be delivered at lower costs this is in the best interest of all the stakeholders. The key measure for success is sustaining capital efficiency.

DECOMMISSIONING

  The survey has also collected data on the expected timing and magnitude of removal costs for the UKCS. The graph below represents the profile of cumulative removal costs for the UKCS alongside a comparison with forecasts from earlier surveys. The current survey predicts that the aggregate removal costs for the basin are broadly unchanged from data in the year 2000 survey (circa £8 billion year 2001 money) though there are phasing changes. Overall the timing of the spend has been brought forward by comparison to the year 2000 data. These data are important in respect of the Vision target for capex which includes expenditure on removal costs.


SUMMARY

  The higher cost trend without any corresponding material increase in reserves revealed by the survey is unexpected, and represents a key cause for concern. It is unclear whether this survey had identified a trend or whether there are special "one-off" factors.

  In many ways this analysis confirms the growing maturity of the basin and the continuing challenge to curb the adverse trend in basin extraction costs.

  Many opportunities remain as evidenced by the large number of individual projects that Operators have identified. Bringing all these to fruition along with future exploration success will be necessary if the Vision 2010 is to be delivered.

RECOMMENDATION

  Following on from this analysis, EAG makes the following recommendations to PILOT.

Intermediate targets

  The new survey data suggests that the proposals for intermediate targets (for year 2005) on production and capex presented by the EAG to PILOT in June 2001 remain valid. The EAG therefore proposes that PILOT should endorse these intermediate targets on the following basis:

    —  production: an aspirational target of four million boepd in year 2005; and

    —  capex: a target (three year rolling average) of £3 billion per annum. The capex target includes development expenditure, removal cost expenditure and exploration and appraisal costs.

  These interim targets are however, subject to caveats for adverse changes in oil prices and the fiscal regime.

Year 2002 capex

  The analysis suggest a wide range of capex outcomes for year 2002 ranging from £2 billion for sanctioned expenditure to in excess of £4.5 billion if all possibilities are included. History suggests that the recent surveys have been over optimistic in the early years and that a prudent approach should be taken. For the current survey we also have the renewed uncertainty over the direction of oil prices through the next year. If the slide below $20 continues then it is likely that some slippage to project schedules will begin to become more significant. Taking account of these factors the survey suggest that capex for 2002 will be at or around similar levels for 2001 and that an outcome in the range £3.3 billion to £3.8 billion is likely.


 
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