Divorce Costs Could Sour Scotland's North Sea Hopes

By Karolin Schaps, Reuters

Scottish nationalists are betting $2.5 trillion of hydrocarbons trapped miles beneath the North Sea could bankroll an independent Scotland, but winning control of the European Union's largest oil reserves would be no blank cheque.

Scotland says the bulk of Britain's North Sea oil and gas reserves are in its waters, while London says any division would be subject to negotiations should Scots vote to end their 307-year-old union with England in a referendum on Sept. 18.

Oil is the punch in Scottish First Minister Alex Salmond's pitch for independence: he accuses London of squandering the North Sea's mineral wealth and says Scotland would be one of the world's richest countries if it took control of its own destiny.

But North Sea production is in decline, and an independent Scotland would face tens of billions of dollars in reduced revenues because of the tax relief companies need to decommission 6,200 miles (10,000 kilometres) of pipeline, 5,000 wells and 475 rigs and platforms in future decades.

"I think it could be a problem," said Gavin McCrone, a former British civil servant who has written a book about the consequences of independence.

McCrone, who warned in a confidential brief for British ministers in 1974 that North Sea oil would strengthen the nationalist economic case for breaking the union, argues that while an independent Scotland could be viable economically, it could be in for a bumpy ride for a number of years, depending on its currency, fiscal position and how North Sea revenue is handled.

The British government has told Scots they will not be able to keep the pound if they break away and that the size of the United Kingdom - whose economy is 10 times the size of Scotland's - puts it in a better position to support increasingly expensive North Sea production.

Prime Minister David Cameron, while visiting a BP platform last month in the ETAP fields 150 miles east of the Scottish oil city of Aberdeen, made the case for togetherness.

"We can afford the tax allowances, the investment, the long-term structure that is necessary to ensure we recover as much from the North Sea as possible," he said.

Half a century after the first exploration licences were granted, the prospect of carving up one of the world's most mature offshore oil and gas basins has prompted a reassessment of Britain's North Sea oil bonanza and what it would mean for an independent Scotland.

Brent
Since Queen Elizabeth pressed a gold-plated BP button to bring the first oil ashore in 1975, the oil and gas trapped in the ancient valleys below the North Sea has cushioned British manufacturing decline, supported sterling and earned at least half a trillion dollars for the British taxpayer.

Over 42 billion barrels of oil equivalent, enough to satisfy world oil demand for more than a year, has been extracted from the UK Continental Shelf, a vast patchwork of basins where the remains of planktonic algae and rain forests turned into oil and gas over hundreds of millions of years.

Brent, the name of a Shell field that began production in 1975, symbolised Britain's North Sea success: Brent has produced 4 billion barrels of oil equivalent and it became one of the world's dominant oil benchmarks.

Aberdeen, formerly a struggling city nestled on the east coast of Scotland around 120 miles (200 km) north of the capital Edinburgh, boomed as the oil flowed, and 137,000 locals, or 60 percent of the working population, are now supported by the industry.

But production in Britain's North Sea peaked in 1999, and the Brent Delta platform stopped production in 2011. Decommissioning Brent facilities alone will cost several billion pounds, according to Shell.

With depleted reserves, companies have to pay more to extract each barrel, and they face hefty costs to seal wells, dispose of pipelines, and bring rigs back to shore.

The decommissioning will cost the British taxpayer 20 billion pounds in tax relief over coming decades. But if Scots vote for independence, Scotland's taxpayers will have to shoulder at least some of those costs.

"The UK government is obliged to pay a percentage of the decommissioning cost through tax relief; I am unsure how the Scottish Government will meet this liability," said Sarah Hillyear, operations manager at Decom North Sea, an Aberdeen-based industry group focused on oil and gas decommissioning.

'300,000 Pounds per Scot'
The Scottish government said decommissioning costs should be seen in the context of its 1.5 trillion pound ($2.5 trillion) valuation for reserves, that costs would be relatively small in comparison to forecast tax revenue and that it would also seek a contribution from Britain.

But Britain's statistics office has valued the reserves at only 120 billion pounds, and while North Sea revenues make up just 2 percent of the United Kingdom's tax take, they would make up 16 percent of Scotland's, according to the British Treasury.

Nationalist leader Salmond, a former oil economist at Royal Bank of Scotland, has said North Sea reserves are worth 300,000 pounds for each man, woman and child in Scotland.

In an effort to underscore his argument that London has mismanaged the North Sea's wealth, Salmond has pledged to create Norwegian-style stabilisation and sovereign wealth funds to insulate public finances and invest for future generations.

But decomissioning costs and Scotland's spending projections indicate there is likely to be little oil money left over to build that cushion.

Given that an independent Scotland would run a budget deficit on its 63.7 billion pound budget, any reductions to oil and gas revenues from tax relief or production declines could have a significant impact.

"Scotland's higher dependency on oil and gas revenues could limit its fiscal flexibility in the absence of a fund set up to preserve these," Standard & Poor's said. "A new Scottish state would presumably begin life with a high stock of government debt and revenues highly sensitive to the price of oil."

'Black Gold'
Oil majors such as BP and Shell invested heavily in the early years of North Sea exploration, but as the basin matured, smaller firms such as Premier Oil or EnQuest now also operate fields.

BP Chief Executive Bob Dudley said last month that he wanted the United Kingdom to stay together, a view echoed by Shell Chief Executive Ben van Beurden.

"We're used to operating in uncertain political and economic environments. But, given a choice, we want to know as accurately as possible what investment conditions will look like 10 or 20 years from now," van Beurden said.

Though no companies have yet publicly said they would hold off on further investment, the uncertainty over Scotland's future fiscal policy could give some investors pause.

"This pretty much guarantees a dip in production down the line," said an energy industry expert who asked not to be named.

Whatever the fiscal challenges, Aberdeen oozes oil wealth: BMW and Mercedes cars nose along roads with names such as Brent Road or Wellheads Drive; five exclusive golf clubs surround the city; and a 12-bedroom mansion is on sale for 3 million pounds.

Engineering students at Aberdeen's Robert Gordon University are swimming in job offers as oil companies bid for the best students. Specialist engineers can earn 800 pounds a day.

"It's just kind of in the air. Most people here work in the industry," said Jenny McConnachie, subject leader for mechanical engineering at the university, whose engineering department boasts gigantic replicas of Total oil rigs.

For some in Aberdeen, such as Kenny Anderson, the 55-year-old owner of a construction firm that receives around half its business from oil and gas companies, the risks of independence should be embraced, not feared.

"Independence will make us more dynamic; we will have to behave like grown-ups, we will have to take responsibility," he said.