TECHNOLOGY Field abandonment costs vary widely worldwide

Ashley Pittard
University of New South Wales
Kensington, Australia

Platform removal affects both governments and companies and thus, ultimately, affects the bottom line of a project.

Typically, wells will be plugged and abandoned, topsides will either be taken to shore or recycled, and substructures can be totally or partially removed, or left in place.

Abandoning offshore fields has four distinct stages:¹

1. Develop, assess, and select options and create a detailed planning process that includes engineering and safety preparedness.

2. Cease oil or gas production and safely plug and abandon wells.

3. Remove all or part of the offshore structure (in most cases).

4. Dispose of or recycle removed equipment.

Economic issues include costs, fiscal treatment, and relevant legislation.

Because of regulatory requirements for abandonment, one estimate is that 97% of the world's 6,500 offshore platforms will be completely removed. Primarily because of their weight and water depth, the remaining 3% (about 450 platforms) may be candidates for partial removal.

Estimates vary widely, but decommissioning the 6,500 platforms may cost between $29 and $40 billion. The U.K. and Norway areas, alone, are estimated to represent more than 50% of this cost.

Decommissioning structures

Operators have different options for offshore installation removal and disposal (Fig. 1 [25574 bytes]). The best option depends on several factors such as type of construction, size, distance from shore, weather conditions, and removal complexity.

Leave-in-place

The leave-in-place option entails cleaning the installation and making it safe (Table 1 [97291 bytes]).

This option is often not feasible because of international and national laws that require removing structures no longer having ongoing operations.

Also, maintenance costs, accident liability, collisions, and other potential navigational hazards complicate this option.

Partial removal

In partial removal, the portion of the structure between 55 and 150 ft below the water surface is removed.

Some navigational regulations require a minimum clearance of 55 m (180 ft) water from the sea surface to the remaining structure. The removed top section may be either placed on or toppled to the seabed near the remaining structure. Another option is to tow and dispose of the cleaned structure in a licensed deepwater site, usually at least 200-m (656 ft) deep and 150 nautical miles from land.

The top portion of a structure can be cut using nonexplosive methods or with small explosive charges. Partial removals are easier than total removals and in deepwater, are significantly less expensive.

However, this option is only applicable if economic and safety considerations override environmental concerns.

Topple-in-place

Toppling a structure in place is similar to partial removal. This option involves cutting the structure near the seabed and pulling it over on its side so that it lies on the sea floor.

Because transportation costs are eliminated, this option is less expensive than total removal.

Complete removal

Completely removing a structure is essentially the installation process in reverse.

This option requires cutting a structure at a sufficient depth below the mudline to eliminate any interference with other site users.

Debris must be cleared, usually by trawling.

This option is the most expensive, but because of strict regulations most decommissioning will involve complete removal.

Cost estimates

Field abandonment costs depend on the field's location and the number of structures. The main costs are associated with structure removal.

Costs are extremely difficult to predict because of the lack of standard removing procedures. Depending on whether partial or complete removal is required, the costs can vary widely. In all cases, critical factors include water depth, topsides weight, and weight and material of the structure.

Fig. 2 [45455 bytes] breaks down the major cost elements.

Table 2 [13745 bytes] tabulates the estimated abandonment cost for all existing structures in selected countries.

Because of the harsher North Sea weather conditions requiring more massive structures, U.K. and Norway decommissioning costs represent over 50% of the total

Asian regions

In the Asian region with a 90 m (295 ft) water depth, complete structure removal with deep-sea dumping costs about $16 million/structure. Table 3 [53738 bytes] shows the variance between countries.

Australia has the highest costs in the region, primarily because these costs were based on removing Bass Strait structures which, like in the North Sea, were constructed for harsh weather survival.

Therefore, one would expect lower decommissioning costs in the more benign weather conditions offshore north and west Australia.

North Sea

Table 3 also shows the difference in U.K. and Norway removal costs.

North Sea structures are the most difficult and expensive to remove because they were constructed to survive harsh weather conditions. These structures are typically much larger and heavier than those in the U.S. and Southeast Asian regions.

The heavier steel in North Sea structures requires special cutting techniques, and difficult weather conditions contribute to increased costs.

Gulf of Mexico

The U.S. Gulf of Mexico average abandonment cost in 90-m water depth with complete removal/deepwater dumping is $9.8 million/structure.

This region is characterized by small, lightweight steel structures that are low cost and easier to remove. Support vessels, topsides salvage, and heavy-lift vessels are available at relative low rates.

In addition, decommission requires less barge time because the Gulf of Mexico is a relatively small area with a higher platform concentration than elsewhere. Offshore salvage vessel and crew time contribute significantly to decommissioning costs.

Fiscal treatment

Fiscal terms for abandonment vary considerable from country to country and include such fiscal treatments as:

• Carryback against taxation method

• Tax credit method

• Operating expense method

• Unit of production method.

In royalty/tax regimes, abandonment costs can be:

• Expensed and carried back for 3 or 5 years against either revenue, taxation, or royalties paid. Examples of countries with such mechanisms include Falkland Islands, Ireland, U.K., and New Zealand

• Given as a tax credit on excess cost, such as in Australia

• Included as units of production, such as in The Netherlands and Venezuela

• Unspecified tax treatment, which is the most common case.

• In production sharing regimes, tax treatment can include:

• Estimated abandonment costs being divided into yearly installments and classed as recoverable operating expenses, such as in Indonesia.

• Included as units of production, such as in Angola. Angola requires deposits quarterly, not yearly.

• Unspecified tax treatment, which is the most common case. By not specifying fiscal treatment in PSC regimes, the country will probably be responsible for the entire abandonment cost. This could be disastrous for cash-strapped nations.

In Table 4 [62088 bytes], the term "Taxable Income 1" is defined as gross revenue less operating costs less depreciation. However, no depreciation is included because capital expenditures for developing the field have already been depreciated and little capital expenditures are incurred towards the end of a field's life.

Therefore, Taxable Income 1 is effectively gross revenue less operating costs and Taxable Income 2 is equal to Taxable Income 1 less the effect of abandonment.

U.K. carryback

In the U.K., abandonment costs are carried back for a maximum of 3 years and offset against taxable income. The maximum allowed to be carried back per year is equal to the taxable income for that year.

After abandonment, the tax for the project is recalculated (Table 4). This is done by carrying back any excess abandonment costs against the net revenue and thus recalculating the taxable income.

The maximum allowed deduction in a given year is equal to the taxable income for that year. Therefore, in the example only $5 million can be deducted in the last year. Although $20 million was spent on abandonment, the net revenue in the last year is only $5 million.

Therefore in this case, because there is sufficient taxable income within the 3 years of abandonment, the abandonment costs can be fully deducted and a full tax rebate would be obtained in the last year.

Taxable Income 1 is before abandonment considerations and Taxable Income 2 is after abandonment considerations.

Table 4 also shows an example with insufficient taxable income within 3 years of abandonment. Thus, abandonment costs cannot be fully deducted, and a full tax rebate would not be obtained in the last year.

Countries with this or similar treatment of abandonment costs include Falkland Island, U.K., Greenland, U.S., Ireland, and New Zealand.

Australian tax credit

In Australia a 40% tax credit can be obtained on excess abandonment cost for the year in which abandonment occurs. Abandonment cost can be expensed in the year it occurs to a maximum of the taxable income for that year.

After the abandonment, the cost is deducted in the last year with the excess cost gaining a 40% tax credit. The maximum allowable deductible in the last year is equal to the taxable income in this year. Therefore, in this example only $5 million can be deducted in the last year.

Although $20 million was spent on abandonment, the net revenue in the last year is only $5 million. The remaining $15 million will allow a tax credit as follows:

Tax credit = (Abandonment cost - last year taxable income) x 40%

Tax credits can be refunded or applied against a tax liability.

If taxable income is greater than the abandonment costs in the last year, no excess cost tax credit is given, because the entire abandonment cost can be fully deducted in that year.

Indonesia

In Indonesia, the contractor must deposit money into an abandonment fund. Such costs are treated as part of operating costs for cost recovery.

The estimated abandonment cost is divided by the field life and classed as an operating expense.

Venezuela

In Venezuela, based on estimated abandonment costs, operators are required to supply money to an abandonment fund.

The unit of production formula is as follows:

The amount placed in the fund per year = (present yearly production/initial reserves) x estimated decommissioning cost

This is shown by the fourth year prior to the last (Table 4). In this year, the production is 3 million bbl while initial reserves were 50 million bbl and the estimated abandonment cost is $20 million.

Therefore, payment into the fund in the fourth year prior to the last is:

Payment = (3/50) x 20 = 1.2

Depositing of funds can begin when abandonment estimates are provided to the Venezuelan government. The sooner this begins, the better for the company because cash flow can be front-ended.

Countries with this or similar treatment of abandonment costs include Venezuela, Angola, and The Netherlands.

Regulatory framework

With regards to abandonment practices, three regulatory framework levels can be distinguished; each plays a key role, as follows:

• International level

• National level

• Relations between participating producing companies.

At each level, legal requirements impact platform abandonment techniques as well as costs.

Other relevant international legislation includes the 1958 Geneva Convention on Continental Shelf and the 1982 U.N. Convention on the Law of the Sea.

National governments are primarily involved in assessing and licensing abandonment options. For the near future, a case-by-case approach will be the norm.

International level

An extensive, worldwide regulatory framework governs the removal and disposal of offshore installations. This framework includes global conventions and guidelines, regional conventions, and national laws.

International laws relevant to offshore structure removal include the 1958 Geneva Convention on the Continental Shelf and the 1982 U.N. Convention of the Law of the Sea, which says all unused structures must be completely removed.

International Maritime Organization (IMO), which is seen as the prime global regulator, sets standards and guidelines for offshore installation removal. The IMO guidelines require complete installation removal in water less than 75 m (245 ft) if the installation substructure weighs less than 4,000 metric tons.

Platforms in deeper water must be removed to a depth of 55 m (180 ft) below the surface to eliminate navigation hazards.

National level

National governments play a major role in assessing and approving abandonment options as well as fiscal treatment of abandonment costs. This level has evolved different approaches.

Case-by-case approaches in the short-term will be the norm. But, host governments will have to fulfill their commitments at the international level with regards to the required environmental standard or risk world condemnation; thus, national level compromises will have to be made.

Security against default

Security against default is a variable that comes into play in joint venture agreements. From a government point of view, this is important because company defaults and national oil company involvement can raise expensive problems.

In the last few years, financial security relating to field abandonment has been the subject of much debate. Both governments and companies are affected because some license holders may not fund their abandonment obligations, thus leaving governments or joint venture partners with the abandonment cost. As a consequence, many countries are introducing security and abandonment legislation as a protection.

Europe and the U.S. lead the way in security legislation, but industry sources are lobbying to improve their financial security agreements as abandonment dates approach.

Many schemes exist with regards to security. Each has its advantages and disadvantages. It is, therefore, not surprising that no one international law on abandonment security is forthcoming. Table 5 [110513 bytes] contains a list of security arrangements in different countries.

The need for security against members of joint ventures failing to contribute to their share of abandonment costs must be urgently resolved, especially as joint venture developments increase in popularity because of the high risk and cost of offshore petroleum development

Abandonment levy

An abandonment levy is also referred to as a government levy. This scheme involves the government placing a levy on a company's profits by taking an interest in the field.

The levy would be adequate to satisfy the abandonment obligations of all companies in that field. Such a levy would constitute little more than an abandonment tax. This levy would be tax deductible and would raise sufficient revenue to pay for abandonment obligations.

To date, governments have not shown much interest in this concept because it is based on the assumption that governments would assume the abandonment program responsibility. The concept is more popular in some countries with production sharing contracts (PSC), because there, government ownership of fields is not seen as a major issue or hindrance.

Trust funds

Trust funds involve each license group establishing a trust with the objective of paying for the abandonment. At an early stage in a field's life, one would estimate likely abandonment costs and timing.

The estimate would include the likely rate of return on the investment of the trust fund. In addition, contributions from each member of the license group need to be determined over the life of the field. This will ensure that enough money will be placed in the trust fund to pay for the field abandonment.

A trust fund could be established and administered along the same lines as a pension fund. One advantage to this scheme is that administrative and technical know-how to establish and run such funds does exist.

The trust fund would be owned by the trustees and, therefore, provide security against one or more of the license group participants going into liquidation during the life of the field. The trust fund rules need to specify the required money invested in the fund. To be attractive to license holders, the invested funds need to be tax deductible.

On balance, it is likely that many companies will find such a scheme unattractive because they may believe that they can supply this security at lower cost and improved cash flow.

Reserve funds

Reserve funds would operate similar to trust funds. In this case, a percentage of recovered oil would be placed in the fund each year to cover future abandonment costs. Abandonment cost would need to estimated using the following equation:

The amount placed in the fund per year = (present yearly production/initial reserves) x estimated abandonment cost

Reserve funds would probably be more popular with production sharing contracts.

Mutual guarantee

A mutual guarantee would underwrite a license holder's failure to meet abandonment costs. On the face of it, this scheme is attractive.

Only a very small minority of companies are likely to fail to contribute their share of abandonment costs. To the extent that such mutual guarantees cater to only a small minority of companies, it means that, on an industry-wide basis, the cost of supplying security would be substantially less than required to fully secure all companies.

The scheme would, however, provide less than complete security and some companies would probably feel concerned about the size of the fund. Companies with interests in the last fields to be abandoned in an area might be fearful that the fund could become exhausted.

A company's contributions would have to be referenced to its likely abandonment obligations, as opposed to the relative likelihood of it failing to perform its abandonment obligations. Such a scheme would not inhibit a company from enjoying the full benefits of a field's production and then, at the end of a field's life, refuse its abandonment obligations.

Companies less likely to fail in their abandonment obligations would, through such a scheme, effectively be subsidizing other companies.

Government bonds

Under a government bond scheme, license holders would buy special abandonment bonds. Costs for purchasing the bonds would be tax deductible in a royalty/tax regime or cost recoverable under a production sharing contract (PSC).

The objective would allow companies to use the bonds themselves as security, with liability reverting back to the government after the abandonment program is completed.

The U.S. favors this approach, but in other countries more work needs to be done.

Bank guarantee

A bank guarantee could be useful for small companies. It has the advantage that the guaranteed amount is limited to an investor's individual share of abandonment costs.

A bank will require security for providing a guarantee but investors with only one field may have difficulties in providing collateral. If a bank had to foreclose, it could become a co-licensee that in turn becomes liable for abandonment costs. A further problem is that an investor's borrowing powers would be adversely affected.

Various variations to the basic guarantee scheme are being developed. One notable variation is called a "rolling guarantee." In it, a bank provides a guarantee for a 1-year period. The terms would allow other members of the license group to draw down on the guarantee if the guaranteed member either fails to make yearly contributions or fails to renew the guarantee at the end of each year.

Insurance

Under an insurance scheme, license holders would pay a single premium to an endowment fund to meet future abandonment costs. This premium would be sufficient to generate the annual costs needed for any required reinsurance protection. The premium could be tax deductible.

A disadvantage to insurance is that coverage might be very expensive.

Acknowledgment

The author thanks Petroconsultants Australasia Pty Ltd, Charles Smith from U.S. Mineral Management Service, and Dulip Jayawardena from the UN Economics Affairs Office of the Mineral Resources Section for providing the required information for this article. Thanks also go to Guy Allinson who assisted with the fiscal analysis.

Reference

1. U.K. Offshore Operators Association (Ukooa), E & P Forum 1995

Bibliography

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2. Kemp, A.G., The Economics of Field Decommissioning in the UKCS, 1986.

3. County Natwest, Woodmac, North Sea Report Number 216, Apr. 30, 1991.

4. County Natwest, Woodmac, North Sea Report Number 266, June 1995.

5. Acreage Law Transactions for the Oil and Gas Industry, Petroconsultants U.K., 1995.

6. National Research Council, "An Assessment of Techniques for Removing Offshore Structures, 1996.

7. UKOOA, Decommissioning Offshore Oil and Gas Installations: Finding the Right Balance, 1995

8. UN, Waste Recycling for Sustainable Development. The Case of Absolute Oil and Gas Production Structures, Vol. 1 and 2, 1994.

9. Acreage, Law and taxation review, Petroconsultants, November 1996

10. Beazley, R.H., "Security for decommissioning of offshore installations the legal dimension," Oil and gas law and taxation review," Vol. 6, Issue 2, 1988.

The Author