With the 26th Seaward Licensing Round announced yesterday (Thursday January 28), a University of Aberdeen researcher has questioned the sustainability of the successful Fallow Initiative system.
In the last decade the UK government has run a series of incentive schemes designed to encourage productivity in North Sea oil fields.
In 2002 it introduced the Fallow Initiative to rejuvenate activity in dormant acreage.
The initiative ensures that companies that are not working on acreage are forced to relinquish it so it can be made available to others who are better placed to exploit its potential.
It has been widely hailed as a success within the industry but researcher Emre Üşenmez, a PhD Candidate in Oil and Gas Law, University of Aberdeen, has questioned the long-term viability of the scheme in a paper published in the International Energy Law Review.
In his article Increase in Influence: How the Independents are Challenging the Authority of the US Government and why the UK Government Should Take Note, he argues that the growing number of smaller and independent oil companies operating in the sector may pose a threat to the current system.
Üşenmez suggests recent challenges through the American courts have highlighted the increasing significance of the independents. The paper emphasises similar weaknesses in the legal basis of the Fallow Initiative process in the UK.
He said: “The idea behind the Fallow Initiative is that when a company has a licence, the government does not want them to sit on it so if there is no work done in the licence area within the prescribed time frame, the company must relinquish part of the field.
“It’s a fantastic idea – the problem is that it is based on the flimsiest of legal foundations.* Recent cases brought against the American government have shown that the independents are now willing to challenge the government and that has serious implications here.
“The reasons why the independents are not challenging, or should not challenge the UK government on these Fallow Initiatives are losing their strength.”
He points to two cases brought before the US Court of Appeals for the Fifth Circuit, Santa Fe Snyder Corp v Norton (2004) and Kerr-McGee Oil and Gas Corp v Allred (2009), which challenged the royalty regulations, and therefore the authority of the Department of the Interior.
“In order to encourage deep water exploration and production activity in the Gulf of Mexico, the US Government enacted the Deep Water Royalty Relief Act of 1995.”
“The regulations of this Act were promulgated in 1998 strictly limiting the eligibility criteria for the royalty reliefs. In Kerr-McGee’s case this meant that when the oil price went up above a certain level, they had to pay royalty on the production from their otherwise eligible field.” he added.
“There was a long established assumption on the parts of the governments that if and when they arbitrarily demand more of the share of the oil production, the oil companies could make some noise but would eventually oblige with these demands.
“However it seems now the independents have the strength to challenge the authority of the governments, as demonstrated by these cases.”
Üşenmez suggests that the assumption that smaller independents will continue to act in the same way as major oil companies is storing up problems for the future.
He said: “With the Fallow Initiative incentive scheme the UK government is relying on the voluntary behaviour of the industry, which has worked out really well until now.
“Challenging the government is like shooting yourself in the foot - when a company wants to apply for a licence next time, it will try to maintain a good relationship with the license issuer – especially if that authority, like in the UK, has wide discretionary powers in its decision making process.
“But when you are asking companies to relinquish half the licence area without any legal basis, even the voluntary behaviour has its limits, particularly if a company doesn’t want to work in the UK anymore.
“Every company has limited resources and the UK has to ensure it remains attractive at a time when supplies in fields are diminishing or are becoming more technically challenging.
“So far acreages have been relinquished without any resistance but what happens when a company decides prospects are better in a competitor’s jurisdiction and is prepared to sacrifice the North Sea for good?
“What happens when this company decides not to relinquish? With the growing number of small independent companies operating in the area, the potential for this increases.”
* This was originally pointed out by Mr. Greg Gordon of University of Aberdeen Law School in the 2007 book Oil and Gas Law: Current Practice and Emerging Trends, which Mr. Gordon co-edited with Dr. John Paterson.
During the mid-1990s, when the oil price was relatively low, there were few companies willing to invest in deep water drilling with its high costs and equally high risks. In order to encourage deep water exploration and production activity in the Gulf of Mexico, the US Government enacted the Deep Water Royalty Relief Act of 1995, or the DWRRA. This Act was giving royalty relief to the deep water leases. In order to implement these new royalty relief programs the Minerals Management Service (MMS) of the Department of the Interior promulgated a series of regulations effective from February 1998. These regulations applied certain limitations on the eligibility criteria for royalty relief which as the Court of Appeals asserted in both cases, were stricter than the DWRRA intended.
Issued by the Communications Team
Office of External Affairs, University of Aberdeen, King's College, Aberdeen
Tel: +44 (0)1224 272014
Contact: Joanne Milne
Issued on: 29 January 2010