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Slashing Costs Alone Won't Create a Future for the UKCS, Ref: Hurricane Energy

By Steve Brown | Friday 30 October 2015

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from ShareProphets). I have no business relationship with any company whose stock is mentioned in this article.

Here's the thing, cutting costs is all well and good, indeed getting rid of waste and unnecessary expenditure is essential to create a platform for growth, but without growth, there is no future for the oil and gas business in the UK. Without growth then next year's production will decline and more costs need to be cut and the year after that even more, until one day the only option left is to shut everything down.

Everyone knows the UKCS cost base had become overheated. It was inevitable when the oil price was so high. Operators were more focussed on delivering production than the cost of doing that and more importantly, activity levels followed the oil price and so contractors had to add capacity, be it in drilling rigs, supply vessels or staff. Most contractors are canny folk, they have been through many cycles in the business, so they only add capacity when there are great profits to be had. Even then they resist the temptation, but when their peers are running ahead of them in capturing market share they capitulate and start building rigs and vessels and hiring folk on better and better deals.

Then the music stops.

So the industry cuts everything in sight. Every contract that can be cancelled is; every cost is re-examined to see if it is worth spending the money. The whole industry goes through a torrid process of redundancies, contract renegotiations and budget reductions. No one wants to do it, but no one has a choice. It is essential to get the industry fit for a lower price environment.

But as cuts are made, the seeds of growth and new opportunity are often discarded along with the waste.

Exploration grinds to a halt, every licence is re-examined to see if it is worth holding. Anything that doesn't have a clear and tangible value is put on the market, but there aren't many buyers around so even decent prospects end up relinquished.

Meanwhile the great and the good set up task forces to do this that or the other, and some times those task forces can actually accomplish something but very often an awful lot of talk doesn't make a darned bit of difference. They are worth doing as there is much to be gained by standardising and simplifying the way the industry goes about its business, but by definition you can't innovate by committee.

So where do the new opportunities emerge from, how does growth happen when every major is postponing projects and every independent struggles to keep within its banking covenants? That means there is no money to invest in the development projects that drive growth. 

The answer is the growth comes from the side and below. New capital doesn't come from the long established energy players, it comes from companies and investors who have been on the sidelines as the oil price crashed, companies like Ineos who are now buying into oil and gas production at a low point in the cycle. Mr. Ratcliffe will be as rich as Croesus.

That's a great example of capital coming in from the side with its eyes wide open for growth opportunities. 

But what do I mean by from below, well I mean entrepreneurs and small companies with great ideas that haven't yet been seized upon by the big players. Companies like Hurricane Energy (HUR) with their fractured basement play and our own company, The Steam Oil Production Company Ltd, with our plan to develop over 300 mmbbls of heavy oil in a steam flood project on the Western Platform (more on that another time). Or companies like Encounter Oil who have been promoting the Bagpuss & Blofeld prospects in the Outer Moray Firth, ironically with oil probably in fractured basement that would come out a treat with a steam flood.  These are the seeds of growth and the opportunities that the big players should be offering to nurture and support, for these are the new ideas that can revitalise the UKCS.

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  1. Great article , explains perfectly that growth is necessary for the UKCS .

    The UK appears to be becoming increasingly socialist and left wing .

    A huge proportion of MP’s , the trade union movement and green NGO’s have made “profit” a dirty word .

    Many such people still have defined benefits pensions and thus no comprehension of risk .

    If for instance Hurricane went from a £100m company and was bought out for £2billion , they would be screaming for a windfall tax .

    Onshore there is little incentive for a company to search for the sweet spots in a shale play if the MP’s will give in to public opinion and either ban it or make the reward less than commensurate with the risk – geological and political .

    Unless the message changes , I can’t see why companies which (unlike Ineos) do not have existing interests to protect would want to invest in the UK in oil and gas or anything else .

    Even some which do have interests to protect have chosen to abandon the UK rather than invest in upstream energy . E.g. the steel industry have not chosen to invest in onshore shale which would create demand for casing and enable it to invest in tube mills and secure it’s energy supply .

    By the time the UK comes to it’s senses and attempts reopening for business it will probably be too late .

  2. Fantastic article, that shows a deep understanding of the U.K. Oil and Gas industry Steve.

    Even before the oil price dive, many companies knew they’d have to reduce OPEX to remain productive.

    I’m an engineer, with 20 years experience in O&G, recently joined an innovative SME. We constantly get told to reduce our baseline rate though we can make some real and eye- catching cost savings. My arguememt is, that’s the Majors are targeting the wrong innovative companies to hit with the constant slash – we reinvest to innovate and potentially realise further efficiencies.

    I believe it’s time that a cultural change is required and the likes of Hurricane are able to change attitudes to make marginal fields viable (though Lancaster is a monster!).

    Be very interested in keeping in touch, not though a public forum Steve?

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