Turmoil in the North Sea – An Insolvency Practitioner’s Practice Guide
Until recently the oil and gas sector has not been on the restructuring communities radar. However, last year global oil prices hit an all-time low, which led to a record number of insolvencies in the industry.
Historically, the oil and gas market has been a significant contributor to the UK economy. It has generated over £300 billion and supports a workforce of more than 375,000. However, in 2015-16 UK oil and gas production generated negative receipts to the UK Government of -£24m, compared with +£2.15bn the year before. The North Sea is an increasingly mature basin and consequently it is one of the more expensive places in the world to produce oil. To put this in context it costs US$40 to produce a barrel of oil in the UK compared to less than US$5 in Kuwait. Record low oil prices have therefore significantly impacted the North Sea, leading to a 56% rise in oil and gas insolvencies in 2015. Oil and Gas UK released figures earlier this month showing that employment in the industry has fallen by 8,000 with a further 120,000 jobs being lost in the wider economy.
The economic significance of the sector and the financial difficulties it is facing makes it an complex sector for an insolvency practitioner (“IP”). However, the sector is highly regulated and consequently there are a number of nuances which IP’s should be aware of in a restructuring or insolvency scenario, the key ones being:
1. E&P Licences
A key feature of the UK industry, especially compared to the US market, is that a Government body, the Oil & Gas Authority (“OGA”), will need to be consulted and its co-operation and consent obtained to any restructuring or insolvency process. This is because in the UK, the Crown owns all the oil and gas in the ground, and grants an exploration and production company (“E&P Company”) the right to extract that oil and gas. This licence is an E&P Company’s most valuable asset and can be revoked on the occurrence of a number of events including insolvency, change of control and failure to pay the licence fee. The OGA’s consent is also required to charge the licence.
2. Joint Operating Agreements (“JOA”)
Another feature in the sector is that most E&P Companies enter into joint ventures to spread their expertise, cost and risk. Their relationship is governed by a JOA which is usually based on an industry standard. On any restructuring, the terms of the JOA will need to be carefully considered as it is standard that if one party defaults under the JOA, the other parties can be required to make up that shortfall, and the defaulting party will forfeit their interest in the joint venture and loose the right to receive information and vote. The enforceability of these clauses has yet to be tested.
3. Decommissioning Costs
The UK has very strict decommissioning laws, and decommissioning costs are one of the most significant and unpredictable expense in this sector. Given the maturity of the UK’s basin, the amount spent on decommissioning is predicted to increase from £1 billion in 2013 to £8 billion in 2018, with approximately £60 billion being expected to be spent on decommissioning over the next 30 years. On any restructuring or insolvency, a purchaser will need to provide security for its share of the decommissioning costs. Additionally on any formal insolvency, an IP is likely to want to satisfy himself that he will not run the risk of acquiring personal liability for any environmental breaches before accepting the appointment. The unprecedented levels of decommissioning activity in the North Sea is beginning to lead to a number of disputes and Ben Holland and Michael Davar of Squire Patton Boggs, London have just published a new book on decommissioning: Oil and Gas Decommissioning: Law, Policy and Comparative Practice (Global Law & Business, ed. 2, 2016).
A more in depth analysis of the issues facing IP’s in the sector is contained in the Guide to insolvency in the UK oil and gas industry. Readers may also be interested in our earlier blogs: