New Tax Regime Casts Doubt on North Sea Investment

Chancellor Osborne's tax hike on profits from North Sea production could threaten future investment and asset sales in the region

Allen Good 4 April, 2011 | 1:51PM

The recent decision by the Chancellor of the Exchequer to raise taxes on oil profits from North Sea production could threaten future investment and asset sales in the region. Potentially more important, in our opinion, is the tax changes represent another form of nationalisation already prevalent around the world. The new tax regime makes one of the few remaining accessible basins less attractive and could further limit opportunities for exploration and production for national oil companies.

Introduced as part of the Chancellor's March Budget announcement, the supplementary charge on oil and gas production was increased to 32% from 20%, bringing the total tax burden including income taxes to 62%. Following the announcement, Norway's Statoil (STO) placed plans for a $10 billion development of the Mariner and Bressay fields in the UK on hold. Under the new tax regime, Statoil's profits may be reduced to the point that investment no longer makes sense. The company also said it will be less likely to buy UK assets. Total also believes the new taxes could affect its future exploration spending in the area. The company currently plans to spend about $275 million on North Sea exploration and is the second largest UK producer after BP (BP.). The impact on Canadian producers Nexen (NXY) and Talisman Energy (TLM) may be felt in their other operating regions. Both producers view North Sea operations as a source of stable cash flow generation and funding for their international exploration and development budgets outside of the North Sea.

We think the rapid increase in Brent crude that spurred the tax increase may offset lower North Sea profitability in the near term. If Brent declines significantly from current levels, the impact may be altogether muted--the marginal tax increase is based on a trigger price of $75 per barrel on a “sustained basis.” If prices fall bellow that threshold, the tax rate could move lower, although the UK government has left “sustained basis” undefined. As a result, we remain sceptical as to whether a tax decrease would actually occur. Regardless, if prices settle at lower levels without falling below $75, profits would suffer.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar
Rating
BP PLC305.75 GBX-2.61

About Author

Allen Good  Allen Good is a senior stock analyst covering the oil and gas industries.

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