Thought leadership from our experts

Can Fracking Revolutionise the UK Energy Market?

Anna Nerush, Haynes and Boone, United Kingdom

Natural gas plays an important role in the UK energy mix. According to the Department of Energy and Climate Change ("DECC"), oil and gas provide more than 70% of the UK's total primary energy, of which 50% is supplied from domestic production. The decline in North Sea production of conventional gas has resulted in a transition from self-sufficiency as recently as 2004 to imports in 2014 of about 50% of annual gas intake. North Sea production is expected to further decline, and the United Kingdom Onshore Operators Group ("UKOOG") estimates that by 2030 the UK will import at least 70% of its gas. Geopolitical conditions have also threatened the supply of Russian gas and forced Europe, including the UK, to rethink its reliance on imports. Although we have seen an increase in coal-generated power in the UK, consumption of gas remains high due to its importance for domestic heating, industrial feedstock and heat processing. If the UK is to reduce its dependency on imported gas, it must look to its domestic industry and given declining conventional gas reserves, this means serious development of unconventional gas extraction.

The rise in production of unconventional gas, and in particular shale gas, has revolutionised the US energy market, transforming it from an LNG importer to a major LNG exporter in less than five years. There has been discussion of whether this success can be replicated in the UK, and following the recent parliamentary election development of unconventional gas appears high on the political agenda. Many in particular viewed the appointment of Amber Rudd – a keen shale gas advocate – as Energy and Climate Change Secretary as a signal of intent, supporting David Cameron's position that his government is "going all out for shale".

The government has announced tax reductions on early profits to encourage investment in onshore oil and gas, and government agencies, including DECC, the Department for Communities and Local Government, and the Environment Agency, are working to simplify existing regulations.

Unlike the US or Australia, however, where the shale gas industry is well established, the UK lacks data about the extent of its technically recoverable resources and the impact of fracking on the environment. This has fuelled media speculation about potential pollution levels and the effect of shale gas production on the UK economy.

While it is generally believed that the UK has significant shales at depth, their geological characteristics and gas storage compositions are unknown. The Government has commissioned studies (including one by the British Geological Survey) to estimate total volumes of shale gas, but accurate prediction of technically and commercially recoverable reserves is difficult. These can only be established by exploration drilling and testing.

According to UKOOG, around 2,000 wells have been drilled in the UK, of which only 200 have been hydraulically fractured. There are reasons to believe, however, that an increase in the currently modest levels of shale exploration may be forthcoming: in addition to Cuadrilla's resumption of operations and recent acquisition of exploration licences by a European major, recent legislation permits horizontal drilling under protected areas provided that wells start outside their boundaries. Technical and geological challenges aside, however, public opinion remains negative and the industry's success will largely depend on its ability to demonstrate that the onshore extraction of shale gas can be commercially viable and environmentally safe.

Shale gas extraction differs from other types of hydrocarbon extraction in a number of ways. The larger scale entails a greater number of wells, many of which are often drilled more deeply. This depth, combined with a lack of natural fissures in the rock formation, means that extraction requires large volumes of high pressure water and chemicals, and the reservoirs' low permeability at such depths means that a high number of production wells is needed to produce gas at a commercial rate. These levels of activity are unwelcome to local communities, and in contrast to the US or Australia the UK's relatively small size results in dense areas of activity.

Mineral rights in the UK vest in the Crown. This is again in contrast to the US, where it is common for landowners to own mineral rights and receive up to 20% of production revenues. As such, there is little encouragement in the UK for people to support exploration or production activities in their communities. An incentive package has been proposed by the industry with government support, comprising £100,000 for the affected community and 1% of revenues from production, with the local authority retaining 100% of the business rates collected from the exploration sites. Whether this is sufficient to overcome negative public opinion and planning objections remains to be seen, and while the Institute of Directors has welcomed the proposal to allow local authorities to retain all business rates, others have raised concerns over potential conflicts of interest.

The UK shale gas industry faces a number of challenges, some of which are inherent to the UK given its geology and mineral rights laws, and others which are more reflective of the European unconventional gas industry as a whole. For now, though, the greatest hurdle is negative public perception. Many of the environmental concerns might be assuaged through further studies, as well as regulation and technological improvements. Provided that the industry can convince communities in this way and offer attractive financial incentives, it should be in a strong position to reiterate the benefits of a developed domestic industry and a reduced dependency on imports.