SMALLER North Sea companies face going bust under Labour’s proposals to severely limit profits from oil and gas, a new report has found.
Wood Mackenzie’s analysis indicates that the plans by the UK Government to hike the windfall tax and reduce investment allowances could fatally damage the industry within five years.
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It cautions that the sector is “hoping for the best, but planning for the worst” with a potential tax situation that could lead to a loss of £19 billion in investments, a halving of UK production by 2030, and the near-elimination of the sector’s cash flow by the mid-2030s.
The new government has promised to overhaul the UK’s upstream fiscal framework for the fourth time in the last two years, with details on the new energy profits levy (EPL) terms set to be revealed in the October budget.
It intends to cut capital allowances but has not specified the reduction amount, and it plans to replace the EPL after 2030, without detailing the new terms.
The announced adjustments include raising the marginal tax rate to 78% from 75%, starting on October 30, eliminating the 29% EPL investment allowance (IA), and extending the EPL to March 31, 2030, from 2029.
Wood Mackenzie says for companies trying to allocate capital to the sector “planning against this backdrop is almost impossible”.
The report adds: “The retention of the EPL capital allowance (CA) is imperative for investment to continue, as the direct damage done to the industry and the indirect impact on its support services and energy security would quickly become irreversible”.
The government argues that the current EPL terms – which impose a 75% tax rate and offer an effective 91.4% tax relief on capital expenditures (75/91.4) – are overly generous to the companies.
The elimination of the EPL CA and IA would introduce a 78/46 system, significantly reducing company cash flows and severely damaging the UK’s ability to attract investment. Even a balanced 78/78 system would represent a significant increase in tax from the previous 40/46 system.
Wood Mackenzie adds: “The current uncertainty and frequency of fiscal changes means that operators are prudently testing the potential removal of the EPL CA and indefinite EPL for planning purposes. This scenario would wipe-out £19 billion or 65% of the UK’s remaining development capex, halve UK production by 2030, and all but eliminate industry cash flows by the 2030s.
“The reality could be even worse. Smaller companies would likely fail through lack of cash flow, with implications for JV partners and the UK government in terms of decommissioning liability.
“We do not expect the government to select the worst case outcome, but having stated it believes UK oil and gas must be kept healthy and productive ‘for decades to come’, it is creating an investment environment where the industry is fatally wounded in less than five.
The government has stated the EPL will be replaced after 2030, but has not said how. Wood Mackenzie says “prudent investors need to include something for investment decisions and are testing the indefinite continuation of EPL.”
It adds: “Government will counter that this is not their plan. But until it reveals what that plan is, the impact on investment will be very significant.
“At this very late stage of maturity, the sector requires careful handling and stability if it is to remain sustainable for the decades the government believes the country will continue to need oil and gas supplies.
The EPL’s successor must be transparent, predictable and investible. But it must also be imminent.”
