Expected drop in oil and gas demand could blindside North Sea investors, Carbon Tracker warns

Pictured: Platform operations in the Grane oil field in the North Sea. Image C: Equinor

That is the warning from Carbon Tracker this week. The think-tank assessed the likely cash flow impacts on ten major North Sea investors of a more rapid energy transition, in which oil and gas demand drops as sectors such as transport and heating are increasingly electrified and as energy efficiency efforts accelerate.

Carbon Tracker concluded that, through to 2030, each of the companies would see a drop of at least 63% in aggregate cash flows from existing oil and gas assets compared with their expectations.

“Companies are chasing marginal, more expensive barrels of oil in an already difficult cost environment,” said ‘Eyes Wide Shut’ report author Maeve O’Connor, of Carbon Tracker. “The likelihood of these higher-cost barrels remaining economic in a fast transition scenario seems to be decreasing.”

Carbon Tracker’s assessment is based on the International Energy Agency’s (IEA) scenario founded on national policy pledges globally which, if delivered in full, would put the world on a 1.7C warming pathway. These pledges include an internationally shared ambition to double the rate of energy efficiency improvements this decade and treble the world’s installed renewable generation capacity.

In comparison, most oil and gas firms operating in the North Sea align their strategic planning with the IEA’s scenario based on policies already enshrined in law. This is aligned with 2.4C of warming – a level which breaches the Paris Agreement and would risk large parts of the world becoming ‘unliveable’.

The IEA has repeatedly stated that this scenario is unlikely to come to fruition. It is foreseeing the global demand for oil and gas peaking by the end of the decade – an outcome most oil and gas majors are not prepared for.

Most of the private equity companies assessed by Carbon Tracker have significant portfolios of projects yet to be approved that are not even consistent with the IEA’s 2.4C-aligned scenario.

Broader risk

The ten firms assessed by Carbon Tracker collectively control 13% of North Sea production. The organisation is warning that the risks on the horizon for these firms are shared across the wider private equity sector.

Burdened with heavy debts from previous purchases, these firms will need to ensure that they do not lose out by oversupplying the market and selling at a loss, the think-tank has argued.

Private equity firms source most of their capital from investors such as insurance companies, pension funds and asset managers. Another risk would be losing the support of these partners due to poor climate or transition risk management.

Carbon Tracker’s head of oil and gas Mike Coffin summarised: “The energy transition is accelerating and will erode demand for oil and gas, with severe repercussions for the financial health of many oil and gas companies.

Private equity firms investing in such companies at this stage of the transition are taking a serious gamble. Firms could be left holding companies whose value has cratered, with no buyers willing to take them off their hands.

“Even under a transition progressing at a moderate pace, the value of these oil and gas investments could be significantly lower than anticipated.”

Offshore Petroleum

The publication of the analysis is timely. Earlier this week, the UK Government held its second reading in Parliament of new legislation designed to force mandatory annual licensing rounds for expanded North Sea oil and gas extraction.

The Offshore Petroluem Licencing Bill, confirmed in the King’s speech last September, passed its second reading by 293 votes to 211 on Monday night (22 January).

Labour MPs had attempted to block the progression of the Bill, with Shadow Climate and Net-Zero Secretary Ed Miliband stating that it would “drive a coach and horses through” the UK’s legally binding climate commitments.

As well as facing opposition on climate grounds, questions have been asked about whether the Bill would result in any meaningful reductions to energy bills or have a significant impact on preserving energy sector jobs.