The Fastest Way to Stop Oil and Gas Drilling, Part 1

In today's sometimes desperate world, even nations blessed with ample supplies of fossil fuels often search for ways to prop up their sagging economies. In those places, the most obvious targets for funding frequently involve companies that are producing hydrocarbons from beneath the ground. You get the picture: Tax 'em, and then tax 'em some more.

A prime example of this phenomenon lies with our British friends. And we'll detail in the second part of this article that in the U.S, the Obama administration isn't far behind in what's almost certain to become a major tax-centered ballyhoo. However, the head start across the pond appears to have already resulted in a substantial 52% quarterly drop in North Sea drilling activity -- a phenomenon that could foreshadow our fate should our administration's proposed ramp in energy taxes become reality.

Floundering North Sea
You probably know that many oil and gas fields dotting the North Sea are becoming tired and producing less than they have in the past. Nevertheless, with the British economy in desperate straits, Chancellor of the Exchequer George Osborne has laid on his citizenry a 2011 budget that -- since it includes a windfall tax on energy -- is forcing North Sea oil companies to cough up considerably more in production taxes than before.

Actually, Osborne's complex gambit can be reduced to a couple of key parts. First, the government's tax withdrawal on North Sea oil and gas has been boosted by more than 50%, from 20% to 32%, a hike that --- as would be expected -- hasn't set well with the industry. Conversely, with inflation hitting the nation, British motorists are being protected -- by Osborne's boost in taxes -- from the need to ante up additional pounds at petrol and diesel tanks.

When the budget was unveiled, James Smith, the chairman of Royal Dutch Shell's (NYSE: RDS-B  ) U.K. operations, essentially dismissed any notion that the companies might pass along their higher North Sea costs. As he correctly pointed out, oil trades globally. As such, isolated changes in a single producing venue -- e.g., the North Sea -- generally have minimal effect on the prices of worldwide crude.

If you follow the potential chain of events from imposing higher North Sea taxes, you'll be struck by its possible damage to the British economy. For instance, the country's energy industry accounts for about 500,000 jobs and brings in approximately $30 billion a year.

Furthermore, there's a real possibility that 25 or more planned developments, representing about 1 billion barrels of reserves, could be halted by Osborne's increased levies. Amazingly, it appears that North Sea offshore exploratory drilling plummeted in short order. Lest you blame that precipitous drop on blanket economic softness, you should know that activity on Norway's Continental Shelf increased by 10% during the same time and that the Netherlands maintained rates comparable to those of 2010.

Big Oil bailing
And here's a cynical believe-it-or-not: The industry has noticed the potential damages and is taking steps to avoid them. For instance, ConocoPhillips (NYSE: COP  ) and France's Total (NYSE: TOT  ) have figuratively hung for-sale signs on at least a portion of their assets in the affected area. And as time passes, I'm inclined to look for offerings from other operators.

Indeed, just last week, ExxonMobil (NYSE: XOM  ) announced that, because of the more onerous taxation, it is selling a portion of its North Sea assets to Apache (NYSE: APA  ) for $1.75 billion. The fields involved in the transaction produce about 19,000 barrels of oil and 58 million cubic feet of natural gas per day.

Norway's Statoil (NYSE: STO  ) also temporarily halted work on a pair of North Sea projects in an effort to avoid the tax hit -- and on the probable assumption that the heightened tax rates would revert to prior levels. According to the company, the two fields, called the Mariner and Bressay, had been intended to begin production around 2017. In any event, we Fools should continue to pay attention to added changes to Chancellor Osborne's windfall tax, additional asset sales in the North Sea, and reductions in the British government's tax receipts from the North Sea, which clearly would constitute a disaster for the country's overall economy.

As for those of us in the U.S., we can only hope that the powers-that-be opt not to follow the approaches taken by the U.K. From an investment perspective, my primary inclination is to watch ExxonMobil closely -- considering its role as the first to unload North Sea assets, for its new Arctic partnership with Russia's OAO Rosneft, and its role as our nation's leading producer of natural gas. You might join me in my vigil by adding the company to your version of the Fool's My Watchlist.

In Part 2, I'll take a close look at potential energy tax changes in the U.S.  

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Motley Fool newsletter services have recommended buying shares of Total and Statoil. Try any of our Foolish newsletter services free for 30 days.

Fool contributor David Lee Smith doesn't own shares in any of the companies named in the article above. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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