First Minister Alex Salmond
SCDI Oil and Gas Conference
Dynamic Earth, Edinburgh
February 21, 2012
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February 1972 may seem distant to us, but it was a remarkable month.
In the international arena, Nixon went to China. On these islands, Prime Minister Edward Heath called a state of emergency as a result of a miners’ strike.
In Glasgow, the Clyde shipbuilders’ work-in was in its 7th month. And in Aviemore, the Scottish Council for Development and Industry hosted the forum “Oil and Scotland’s future”.
That conference was a landmark event. 40 years on, it is clear that several of the hopes of the participants of the 1972 conference have been realised. Ingenuity, courage and skill have contributed to the development of a world-class oil and gas industry here in Scotland.
Much UK Government policy over the last four decades has failed to match that ingenuity, in my opinion.
I am delighted that Professor Alex Kemp is here today because his two volume Official History of North Sea Oil and Gas is undoubtedly the definitive work so far on this subject. It is also at times a profoundly frustrating read – particularly in relation to the failure to establish an oil investment fund.
As Professor Kemp notes in relation to the Government’s discussions about this in 1978 “The notion that rules could be established which would ensure that future generations were guaranteed to receive some of the benefits by maintaining capital in the fund and consuming the income from it were not given serious consideration.”
I see that debate is actually continuing in the columns of The Scotsman newspaper today, where Tom Miers suggests that if we wanted an oil fund, we could have one at the present moment. The only two slight difficulties with that at the present moment, as far as the Scottish Government is concerned, is that we don’t have control of oil revenues, which seems to me to be a fairly central part of an oil fund. But, secondly, actually, under the current powers, we couldn’t; if we started an investment fund the Treasury would take it off us the next year, given the rules of departmental spending limits – small points of detail, but probably best to be clued up on before starting an oil fund.
But, nonetheless, the argument about an oil fund is one of these issues which has swept across the last 40 years – and now at a time when just about every major oil and gas producer in the world has established an investment fund of some sort. Our colleagues across the North Sea now have one of worth over £300 billion, in Norway. And I think it is one of the great sadnesses of our experience over the last 40 years.
I argued at the London School of Economics last week that that was a policy failure of immense proportions – although one which could still be rectified.
But the short-sightedness of Government does not detract from the achievements of the oil and gas industry itself, and of the many parts of the public sector, such as our universities and economic development bodies, which have helped it to flourish.
Oil and gas now contributes £32 billion to the UK balance of payments, with the supply chain adding a further £5-to-6 billion – more than half the UK’s trade deficit. It supports almost 200,000 jobs in Scotland and has generated almost £300 billion, at today’s prices, in taxation revenues over that period. It is a huge success story.
And the key message from this year’s conference is that there is still much more to come.
Maximising the oil extracted from the North Sea
To put this into some sort of context, Sir David Barran of Shell, in his presentation to the 1972 conference, stated that the North Sea reserves uncovered at that point – and of course there was a recognition by Sir David that more discoveries were likely - totalled approximately 3 billion barrels of oil equivalent.
That was at a time when the oil price was around $3 50 cents a barrel (or about $18 dollars in current prices).
And that was what grabbed the imagination of the 1972 conference.
Four decades on, having extracted, not 3 billion but 39 billion barrels of oil equivalent, we now estimate that there are up to 24 billion barrels more left – sufficient to last for a further 40 years.
Perhaps more significantly, however, so far - based on historical prices - we have extracted approximately £960 billion of oil and gas at 2011 prices. Due to an increase in the value of oil, however, there are potentially more than a trillion pounds of oil still left.
In other words, what actually matters in terms of the economic impact of oil and gas, there is more than half of the economic impact of oil and gas still to be realised over the next four years.
So this morning I want to set out how the public sector can work with the oil and gas industry to make the most of our remaining oil resources.
First, I will propose three steps the UK Government should take to deliver a taxation regime which encourages investment.
I will then outline how the Scottish government is acting to promote innovation, skills and internationalisation within the sector.
The latest Oil and Gas UK activity survey highlights the importance of investment to maximising the value of our remaining oil and gas reserves. It estimates that future offshore production could fall by 11% a year - if judged only by output from existing fields and current known investment in new fields.
However, if projects which have an 80% or more chance of proceeding go ahead, the decline would be reduced to 7% a year. And if projects which are 50% or more likely to proceed do go ahead, then production over the next 5 or 6 years falls only slightly.
Encouragingly, we have seen significant new investment in recent months. Last October, for example, BP made a major announcement, together with Shell, ConocoPhillips and Chevron, of four new oil & gas projects, that together involve a total investment of almost £10 billion.
But to encourage further investment, there has to be a sympathetic taxation environment.
The Chancellor of the Exchequer’s decision last March to increase the supplementary charge paid by North Sea operators on their profits has been damaging. The decision – taken without consultation with the sector – will inevitably make some potential investments unviable.
Last year the Scottish Government and the industry provided a range of options to the Chancellor to mitigate the damage caused by the increase in the supplementary charge.
I believe that three steps are of particular importance.
Firstly, it is essential to ensure the tax system maximises recovery rates. The Scottish Government published a number of proposals last year which would ensure that happens and the industry has been in, what I hope are productive talks with the Chancellor.
The key aim is to put in place a system that is more progressive. This would help ensure that production and exploration in the most technically challenging and mature fields remains viable, while ensuring that the Government receives a proper return for the taxpayer.
I hope in the Chancellor will make good his commitment last year to consider the case for introducing a new category to qualify for field allowance.
Secondly, and importantly, there has to be consultation with the industry on future tax reforms.
Long term investment in the North Sea requires policy consistency. The tax hike announced last year without prior consultation damaged confidence within the sector.
So the mandatory consultation period which we have proposed for future reforms would be a way of rebuilding trust and confidence with the industry - and would enhance the credibility of future changes.
At the very least, it would ensure the Chancellor was able to make decisions informed of all the facts and issues in advance of any announcement.
Finally, the Government should provide certainty on future decommissioning relief.
Over the next 20 years, Oil and Gas UK estimates that 470 installations will have to be decommissioned and that the total cost will reach £26 billion by 2040.
Under the current regime companies can claim tax relief against the cost of this decommissioning. However, if companies are concerned that relief will be withdrawn or made less generous, that would lead to an acceleration of decommissioning plans as people try to decommission under a favourable tax system if they believe that system is to be changed at some point in the future
Other companies may be unwilling to invest because they are unsure about the scale of the decommissioning costs they will incur.
So the UK Government must work with the industry to provide long-term guarantees that decommissioning relief will not be restricted or withdrawn in the future.
It is in everyone’s interests for the oil taxation system to be incentivising, stable and fair. It is encouraging that the Government is now working with the industry on the options for reform. In next month’s budget, the Chancellor should follow through on these discussions, and establish a tax regime which delivers for the industry and for taxpayers.
The Scottish Government, of course, plays a significant role in supporting the sector. I want to emphasise our work to promote innovation, skills and internationalisation.
We know that continued innovation will be a crucial part of the industry’s success in Scotland, and it will be central to improving extraction rates in the future.
For that reason, Scottish Enterprise and Scottish Development International work with a number of companies which are developing important new technologies.
For example, Deep Casing Tools has pioneered a new reaming system which has helped to make the well construction business more efficient. It is now developing facilities in the Middle East and America.
Zi-Lift in Aberdeen has developed permanent magnet motors for downhole pumps, which will help to improve recovery rates.
FMC technologies is another good example of an international company – based in Houston – which now invests 25% of its research and development budget for subsea activities within Scotland. It will soon employ more than 900 people in Dunfermline and Bellshill.
The public sector is working closely with industry to ensure that the sector’s demand for skills in the years ahead is met – for example through the Energy Skills Action Group, which is implementing the Skills Investment Plan for the Energy Sector.
The Plan, and our consultation work, has identified areas where industry and government need to do more.
For example, raising awareness of the career opportunities in oil and gas and to ensure that we continue to have highly-skilled people at all levels of the industry – from graduate applications, to technician and trades skills, to project management.
Just in the last five years or so, through work with the industry and others, the perception and understanding has been growing that someone could start working in the North Sea now and have an entire career working in the waters around Scotland, or indeed have a career in the wider international oil and gas sector.
So future work on these areas will build on strong foundations.
235 Modern Apprenticeships last year were in the oil and gas sector, and last October I announced new investment of £2 million to support at least an additional 1,000 flexible training places in the energy and low carbon sector in the coming year.
OPITO, the international skills body for the oil and gas sector, is also doing excellent work – for example it has formed a partnership with Skills Development Scotland and Aberdeen College to train people with relevant skills who are being made redundant from RAF Kinloss.
We will continue to work with the private sector to ensure the oil and gas workforce has the skills that it needs, and to ensure that our young people have the opportunity for secure employment. Such opportunities are valuable at any time, but especially in these times of economic difficulty.
Finally, internationalisation provides a huge opportunity for Scottish businesses. Ten years ago, for example, international activity accounted for 31% of Scotland’s supply chain sales. The figure is now 45.4% - more than £7 billion out of a total of £15.9 billion. Indeed, our oil and gas supply chain sells to more than 100 countries.
I have seen some fantastic examples of this internationalisation in recent months.
In November, when I visited the Gulf, I saw for myself the number of Scottish companies which are successfully selling their expertise over there. These weren’t just oil firms, incidentally – I also opened the office of our largest law firm, McGrigors, whose new Doha office has a particular focus on energy.
And just last month I opened the offices of Omega Completion Technology, which specialises in well completion. Omega is meeting growing international demand for its products, such as sandface valves. As a result, it has invested in a purpose-built new workshop, and is looking to increase its staffing levels.
Over the coming years, further opportunities beckon for Scottish companies. In particular, Scotland’s vast renewable energy potential offers huge benefits.
In September of last year, Scottish Enterprise published a “Guide to Offshore Wind and Gas Capability”. This demonstrated that using Scotland’s oil and supply chain expertise could potentially reduce the costs of offshore wind operations by at least 20%.
Our oil and gas reserves, combined with our renewable energy resources, give us the potential, over the next 40 years and beyond, to be the energy powerhouse of Europe. Collaboration between the oil and gas sector and the renewables sector would allow Scotland and the energy industry to benefit massively - not just from our energy resources, but from the technologies that are developed through collaboration.
Finally, going back to the excerpts of the 1972 conference, it is clear that people foresaw many of the challenges that lay ahead in developing the oil and gas sector in Scotland.
Sir David Bannan noted that the oil work to extract and transport oil from the North Sea “has never previously been carried out at such depths anywhere in the world. We are moving into a new and uncharted region of oil technology which will have to be implemented in some of the most savage weather conditions known to man.”
The story of the offshore oil and gas sector is a reminder of the engineering skill, the technical ingenuity and the human courage that people can bring to bear in confronting such challenges.
Within seven years of the conference taking place, more than two million barrels of oil equivalent a day were being extracted from the continental shelf.
And so as we embark on the next chapter of that story, more expertise will be needed to make the most of our remaining oil and gas – which as I outlined earlier, is worth more than the reserves which have already been extracted.
Now, the public sector has a duty to provide a framework which supports private sector innovation. I’ve suggested the three proposals that the Government needs to adopt to help deliver a stable, fair and progressive tax system.
To quote Professor Kemp once again, “for facilitating maximum economic recovery of the remaining reserves… it is to be hoped that the gyrations which have personified the evolution of policies in the past will not be repeated.”
The Scottish Government will adopt a consistent approach to supporting your sector. In the Spring we will launch a new strategy to support the oil and gas sector. This is not just a public sector strategy – we want it to be led and supported by industry. We have therefore consulted on it with industry for many months through our industry advisory group.
The themes which I have highlighted for the public sector in Scotland, in my speech – maximising extraction rates, developing skills; and making the most of supply chain opportunities both here and overseas – will be at the heart of the strategy.
So too will collaboration. If we work together, the prize that I outlined earlier- of Scotland using its natural resources to be the energy powerhouse of Europe – is firmly in our grasp. And we can ensure that the next four decades of oil and gas production in Scotland yield even greater benefits than the last four decades.