Tackling issues such as decommissioning, overcoming the inappropriate tax regime and funding exploration will force everyone to work harder at making the UK North Sea a sustainable environment in the future. Ensuring the maximization of the 24 billion to 32 billion boe still underground will require the industry to act at speed. Time is of the essence to ensure throughput and securing of the long-term future of the region's pipeline and process infrastructure - key to maximizing the region's reserves and the development of marginal fields. More needs to be done, and we need to do it faster.

Throughout 2003 we witnessed a new wave of merger and acquisition (M&A) activity as a host of independent exploration and production (E&P) companies entered the region keen to gain a share of the UK's vast oil and gas reserves. A host of asset deals in the first quarter of 2003 prompted what was thought to be the "asset cascade." Free from the burden of meeting production targets, the majors focused on return on capital employed (ROCE) as the primary indicator of performance. This allowed them to release "under-performing" and under-invested assets located in the United Kingdom Continental Shelf (UKCS), and concentrate on higher ROCE projects elsewhere in the world.

In 2004 it is likely the UKCS will see a continuation in the transfer of oil and gas field ownership as major E&P firms continue to rationalize their portfolios. Early in 2003 Ernst & Young identified over 30 fields that were prime for disposal. Only a fraction of these have been divested to date. The pace at which the transfer of ownership is occurring, however, is not fast enough to allow for independent E&P companies to enter the shelf.

It is important that the independents gain a position, as they are more willing to invest in the region. Some of the assets that were disposed in 2003 are already starting to see increased activity. Apache may drill as many as 18 new wells in 2004 post its entry into the North Sea through the acquisition of the Forties field earlier in 2003. Paladin and new entrant Energy North Sea are also planning a large redevelopment program on the Montrose, Arbroath and Arkwright cluster of fields, all purchased last year.
As far as the government has been concerned, the Department of Trade and Industry (DTI) made positive strides in 2003 to ensure the competitiveness and long-term future of the region. The advent of the Promote license in the 21st round reduced the barriers to entry for smaller organizations to enter the oil and gas industry, attracting some 27 new entrants alone. Other DTI-driven initiatives to promote the UKCS as an attractive area for investment in North America and beyond have assisted in attracting inward investment into the region from large Canadian and US independent E&P firms.

Both the deal activity and the promote licenses have created fresh impetus in the UKCS, but there are still big challenges to overcome if the full potential of the UKCS reserves are to be realized. November 2003 saw a large increase in the UK's balance of payments deficit as a result of lower than expected oil and gas production. This is a trend set to increase over the next few years as the United Kingdom becomes gas deficient and the larger oil fields experience further production decline.

As well as the DTI, the Treasury has a critical role to play in maximizing oil and gas production. In the past the industry has been successful in working alongside the Treasury in adapting the fiscal regime in the UKCS. The Exploration Expenditure Supplement announced in the Pre-Budget Report last December is the third positive fiscal change this year after the abolition of royalty and petroleum revenue tax on tariff income from pipeline infrastructure.

Looking ahead however, the industry will need to increase its efforts in influencing government if it is to ensure that we maximize recovery of UK oil and gas reserves. The changes that have occurred this year to benefit the industry don't come close to the negative impact on the industry from the introduction of the supplementary charge to corporation tax introduced last year.

Alec Carstairs is head M&A, Ernst & Young UK Oil and Gas.

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