Budget 2024: What comes next for North Sea stocks?
The cycles of the energy industry are striking. Here’s what Serica Energy’s (SQZ) chief operating officer had to say in 2006 about an exciting new deal: “We are delighted to have been awarded this extremely promising Indonesian [production sharing contract], which fits in with our strategy to expand our south-east Asia portfolio into new areas in which we have specific technical knowledge.”
The company eventually pulled back from the region and foundered for some time before the deal to take over the Bruce, Keith and Rhum (BKR) fields in the North Sea from BP (BP.) proved a winner. This turned Serica into a serious producer of hydrocarbons, and the company has clocked up free cash flow of $1bn (£760mn) since 2019.
But now Serica is considering what to do next, with a decision looming from the government on whether to extend capital allowances that cut tax bills in relation to investment in the North Sea. Last week, Serica boss Chris Cox said the company was facing an “unjustifiably punitive fiscal regime”.
EnQuest (ENQ) is also considering where to invest in future. The company’s North Sea director, Steve Bowyer, said the management team was “very focused on capital reinvestment in other areas and in other countries”, and would “direct a large chunk of our capital elsewhere” if the 30 October Budget is not supportive of energy companies.
The mid-caps are often looking for in-production assets that can be expanded through near-field exploration or operational improvements, as Serica has done at its UK fields.
The options are limited for this elsewhere, though: west Africa needs a specialist (like Afentra), while Norway is very expensive. South America and southern Africa have fewer mature assets, while areas such as the Gulf of Mexico are dominated by large-scale projects the majors are keen to hold on to. There is the Mediterranean, but low investment means these are largely exploration opportunities.
South-east Asia ticks plenty of boxes, such as stable governance and mature assets.
EnQuest has already invested in Malaysia, and in a statement said the country was “a natural fit for the operational expertise we have honed in the North Sea to be effectively transferred”.
Juniors also look to be making a move. Earlier this year, Sunda Oil (SNDA), then still called Baron Oil, announced its joint venture partner in a North Sea project had handed back an exploration permit partly because continuous wind farm operations meant the required seismic surveys could not be completed. It was also knocked back for a licence in the North Sea under the most recent round, which marked the end of the company’s involvement in the UK sector.
This has led to a full commitment to south-east Asia, in Timor Leste, as well as applications filed in the Philippines.
Dealmaker
Serica has yet to publicly say where it would invest if the Budget is not to its liking. Its top dealmaker is chief financial officer (CFO) Martin Copeland, an experienced M&A operator who joined the company earlier this year. He advised Tailwind on its £367mn sale to Serica, and worked with Premier Oil when it sold its listing and tax losses to Harbour Energy in 2020.
Copeland said successful M&A was a “hard nut to crack”, especially with alternatives such as buybacks given the share price weakness.
Considering where to invest comes down to a few factors, he told Investors’ Chronicle. “We [will] follow the same business model broadly, which is ideally buying mid- to late-life assets from majors and operating [them] better and hopefully unlocking subsurface potential from them,” he said. Working with governments that are supportive of oil and gas is also important, he added.
The shape of any deal would also depend on the region. “If we were going to operate in a new basin, it’s likely to be the case that we would buy an existing company or business that already has that capability,” Copeland said.
This is due to operational expertise as well as using existing relationships with regulators and potentially national oil companies (NOCs), which are often junior partners outside the UK. Serica is keeping its options open in terms of jurisdictions, but the CFO said south-east Asia was “a region that I think UK stock investors and retail companies have been in [before] and understand”.
UK remains on the table
EnQuest did not just talk up its options outside the North Sea. It said alongside interim results that a “transformational North Sea acquisition” was also a target.
This is driven by sizeable tax losses on its balance sheet, which cut the corporate tax rate (40 per cent of profits).
Serica also holds tax losses on the balance sheet, and Copeland said looking elsewhere did not stop the company considering North Sea deals. In fact, the torrid atmosphere driven by the fiscal changes since 2022 has opened doors.
“We’re not ruling out the UK. And that sounds a bit perverse, but the reality is, I think that there will be significant opportunity in the UK, because the impact that the actions of the last and current governments will not get forgotten in the boardrooms of a lot of the bigger companies,” he said, adding that BP and Shell (SHEL) would be unlikely to commit to significant expansion spending in the UK again.
Repeating the brilliant BKR deal would be a major feat but turning around unwanted assets is a UK midcap speciality.