Thrusting beyond the North Sea; Small companies could benefit as the

Graeme Sword enjoys a unique vantage point on the changing face of the North Sea oil and gas sector. As the director of oil and gas operations for venture capitalists 3i, Sword is at the sharp end of many of the most significant investments taking place in the sector and is far from despondent about its future prospects.

Fresh from a (pounds) 27 million investment in Petrofac, a Texas- based oil services business, Sword views the onset of globalisation as the next stage in the life cycle of the North Sea sector which will stimulate smaller, independent companies, in particular, to broaden in to international markets.

"If you look at the majors like BP Amoco, ExxonMobil and ChevronTexaco that have consolidated and increased their scale they are requiring bigger and bigger suppliers," says Sword. "They are wanting businesses that can provide them with a service in the North Sea and in the Gulf of Mexico. The model has changed and our business has to follow that."

Despite the North Sea barrel price of oil remaining relatively stable at around the $25 mark, spending by the five majors has declined and activity levels have fallen by as much as 10% in the last few months. Chancellor Gordon Brown's 10% tax on oil company profits has further clouded the pool and caused consternation in many quarters. As the majors increasingly focus on the Gulf of Mexico, West Africa and the Far East, Sword sees a silver lining in the opportunities this leaves for emerging companies to buy up some of the assets that are becoming available.

For the venture capital market Sword says this opens up three strands of opportunities.

In the oilfield production sector he believes the tax change will prompt people to look again at their North Sea portfolios. With many firms looking to provide oilfield production services in the North Sea he forecasts a rise in activity in the sector on the last two years.

In the buy-out private equity market, the consolidation of the majors will continue to lead to corporate disposals and opportunities for emerging companies. Sword says: "If you look at a lot of the major oilfield service companies they have been through a period where they have made a lot of acquisitions but not sold much. That has to change at some stage."

Finally, Sword believes that with activity down and the uncertainty created by the 10% tax on profits, many oil companies are being forced to internationalise. "I think there are a lot of people owning private companies thinking 'Is this the time to do something?'. Whatever happens, I think the status quo is not an option."

3i's strategy is to develop an international portfolio and support some of its investments in making international acquisitions, particularly in the Gulf of Mexico. It is also looking to provide funding for its investments such as Asco, Sparrows and SPS-AFOS to take their leading edge technology or unique North Sea oil services into this fast growing market.

Sword says: "If the technology works in the harsh environment of the North Sea then you have got an international product with a global market. The question is how far you can take it as an independent before one of the majors sees that they could take it forward and acquire it."

Founded in 1945 as the Industrial and Commercial Finance Corporation to fill the gap between what banks would loan and businesses needed in the aftermath of second world war, the firm repositioned itself as 3i (Investing in Industry) in 1994 when it floated on the FTSE 100. It employs 1000 people in 32 offices spread across Europe, Asia and the US. With a portfolio of about $500m and 32 investments, the five strong team of investors in its Aberdeen office oversees 3i's oil and gas operations across all the regions in which it operates.

Sword, from Dundee originally, joined 3i in London in 1995 having held marketing positions at Unilever and Birdseye. He was posted to the Aberdeen office until last year when he moved to Reading to join the buy-out division.

The departure of Lawrence Ross, director of the oil and gas operation in Aberdeen, in January to join American private equity rivals Lime Rock, forced a restructuring of 3i's operations and Sword returned to the northeast as his successor. Sword was sad to see his friend leave but welcomes the healthy competition.

"Having a competitor you respect and trust can be a positive," he explains. "We have a completely different offering at 3i. I have come in with a different approach and set of challenges. The team has also changed and we are trying to do things differently to get oil and gas to a different level."

With his feet firmly under the desk, Sword is focused on achieving 3i's targets for six new investments in 2002/03. As part of the drive to widen its geographical spread, 3i is aiming to secure one in Europe, three in Aberdeen and two elsewhere in the UK. Most will be in oil services but 3i is also keen to secure investments in oilfield production and renewables.

Petrofac represents the main investment for 3i so far this year. It became the first external shareholder, taking up a 13% stake in the Texas-based company which aims to float in five years' time. Petrofac, whose UK operation is based in London, specialises in engineering, procurement and construction (EPC) and logistics support for exploration and production companies.

It employs 1000 people in the UK, United Arab Emirates and the US. 3i was attracted by Petrofac's stake in the (pounds) 685m Ohanet four field gas development in Algeria as well as its wide-ranging capabilities.

"This is exactly the kind of company we want to invest into," says Sword. "It goes from front-end engineering to design, facilities and management capabilities."

Sword believes 3i's clout in the oil and gas sector is based on the power of its brand image as the largest investor in the sector in Europe, and the third largest in the world. He also sets great stall by the ongoing service it can provide over and above simply investing funds through its network of managers and entrepreneurs and its ability to call on the resources of the corporate finance community.

As an example he cites its ongoing support for Wood Group which saw 3i make a (pounds) 13m investment last year. "Wood Group had eight rounds of funding over 18 years," he adds. "I think that shows commitment to growing and building an international business."

The second half of the year promises to be a hectic period for 3i with several investments in the pipeline. As an indication of future activity levels this would seem to paint an encouraging picture for the North Sea oil and gas sector at least in the short to medium term.

"Now we are very focused on the market," says Sword. "At the moment we are seeing plenty of opportunities and a lot of transactions in progress. I think in the next few months we will close out four or five new deals."

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