UKCS Projects at Break (Even) Point

Updated article and charts from August 2015 are here

When the oil price is in three figures there isn't too much angst about what price it takes to payback the investment in a project, but flirt with forty dollars a barrel for a fortnight and suddenly breakeven price is the metric in vogue.

So, if you aren't a petroleum economist, how do you work that out? Well, the simplistic way is to add up all your costs: capital, operating, abandonment, the lot, and then divide by the barrels you think you will produce; but that ignores a long hallowed economic concept – "the time value of money".

Or more straightforwardly, the simple fact that investors won't invest if there isn't some profit for them. So you really ought to discount your revenues and balance those discounted revenues off against your costs when you do the calculation. That can lift the "breakeven" costs by 20% to 60%. It all depends on how quickly the oil is produced, and how much of the costs are deferred, such as an FPSO lease or the operating costs, and can therefore be discounted in just the same way you need to discount the revenues.

One project might look like a winner if you do a simple calculation whereas it might not be quite so pretty if one is a bit more rigourous. Of course oil companies all run fully fledged economic models with complex cash flow and tax calculations in them, but too much use of "black boxes" to run your economic evaluations can lead to the decision makers being just a little out of touch. I like to do a complex model, some say my models are impenetrable, but I also like to do the equivalent of an electronic "back-of-the-envelope" calculation to make sure the complex model is right. Or if my complex model isn't perfect (and they never are) at least I know the errors are cancelling each other out.

My preferred "back-of-the-envelope" metric is capex per discounted barrel plus discounted opex per discounted barrel. No tax, but don't worry, if you aren't breaking even you won't pay much tax, though if the UKCS still had royalties we would have needed to add that particular cost in to the analysis. If we are comparing projects, and that is my plan, we should probably also add in to your cost base any oil quality discount as well.

The advantage of this approach is that with even the tiniest smattering of data you can work out where a project stands. Most Operators will tell us the total capital cost, they will certainly talk about the reserves they expect and they will often mention the peak oil rate in their press releases. That's all I need to make a reasonable stab at evaluating the project economics. Environmental impact statements are also a handy source of information, especially for production profiles.

Finally, if you are lucky a company will publish a Competent Person's Report (CPR) and you will get all the detail you need, capital costs, operating costs per year and detailed production profiles; but there are perfectly good rules of thumb if all the data isn't to hand.

I have taken a look at some recent oil projects on the UK continental shelf, some completed and some underway right now, and then I added in a few prospective projects where the operator's have provided a CPR.

Capex & quality discount not discounted; opex & reserves discounted at 10%. Skipper, Lancaster & Bentley most recent CPR; Catcher Premier pres. March 2014; Kraken Enquest pres. Nov 2013; Western Isles Dana pres. Nov 2014 and press releases; Mariner Statoil pres. Dec 2012 (quality discount and opex estimated). Golden Eagle GEAD EIS Dec 2010 & press releases; Solan, Chrysoar CPR June 2014; Clair Ridge & Kinnouil BP press releases & EIS. If opex data unavailable, opex estimated at 4.5% of capex p.a. (except Kinnouil). Pilot based on internal Steam Oil Production Company estimates as of February 2015.


Capex & quality discount not discounted; opex & reserves discounted at 10%. Skipper, Lancaster & Bentley most recent CPR; Catcher Premier pres. March 2014; Kraken Enquest pres. Nov 2013; Western Isles Dana pres. Nov 2014 and press releases; Mariner Statoil pres. Dec 2012 (quality discount and opex estimated). Golden Eagle GEAD EIS Dec 2010 & press releases; Solan, Chrysoar CPR June 2014; Clair Ridge & Kinnouil BP press releases & EIS. If opex data unavailable, opex estimated at 4.5% of capex p.a. (except Kinnouil). Pilot based on internal Steam Oil Production Company estimates as of February 2015.

Apologies for the exceedingly long caption, but anyone whose project is on the chart will doubtless want to double check where I got the numbers from. I don't promise 100% accuracy and I am more than happy to update the data if anyone wants to make better information public.

However, don't expect the total number on my chart to match the breakeven number quoted in any CPR. There are two reasons for this: firstly, I don't discount capex; secondly in the CPR the competent person normally inflates the future oil price which means that their effective discount rate is really lower than the 10% rate I use. When I do discount the capex costs and use an 8% discount rate I can get roughly the same breakeven price that is quoted in the CPR's. You can say that the number in the CPR is more correct so I should use it, but then I wouldn't be able to compare that number to other projects where I have just a smidgeon of information.

On the other hand, there are a few extra costs out there that I haven't included; it is hard to lay hands on good estimates of decommissioning costs and of course there are the costs involved in either finding the oilfield, or buying it from someone else, or appraising the field before you can take the risk of actually developing it.  I have also ignored tax; which is a pretty safe assumption when you are calculating breakeven price, but not quite so clever if you want to know the project value, more on that in another post.

But setting all that aside, based on this analysis it looks like most projects will at least breakeven with a long run price of about $80/bbl; about half of the recent projects I have analysed would still make some money at $60/bbl; and most of the new projects are interesting as long as prices are over $70/bbl. So, given that long run oil prices have already recovered to more than $80/bbl, North Sea development projects are not dead; they are just resting, while we all work out how to squeeze the capital budgets, and hope the Government shifts the tax system just enough to make the projects compelling rather than just interesting.

Mature producing fields are quite another matter, for some of those, this spell of low prices will be terminal.

Cash Brent contract and December 2021 contract from July 2014 to February 2105

Cash Brent contract and December 2021 contract from July 2014 to February 2105