A Basic Overview: Mineral, Oil & Gas Assets What Every Fiduciary Should Know

Transcription

1 A Basic Overview: Mineral, Oil & Gas Assets What Every Fiduciary Should Know November 5th, 2013 PDS Services, Inc So. Bowen Rd, Suite 335; Arlington, TX This course qualifies for Continuing Education for the CTFA designation. See the last page of this handbook for a CE Credit Application The Institute of Certified Bankers (ICB), a subsidiary of the American Bankers Association, is dedicated to promoting the highest standards of performance and ethics within the financial services industry. This statement should not be viewed as an endorsement of this program or its provider.

2 A Basic Overview: Mineral, Oil & Gas Assets What Every Fiduciary Should Know Join Us For Our Next Webinar December 4, :00AM-12:00PM CST & 2:00PM-3:00PM CST Mineral, Oil and Gas Assets - Fiduciary Management Today s Session A Basic Overview: Mineral, Oil & Gas Assets What is it and where does it come from Who owns it and why Ownership Rights Types of Ownership How does ownership affect revenue & expenses Basic Accounting Principles Oil & Gas Trends 2

3 What are mineral, oil & gas assets and where to they come from Hard Minerals o Coal, gold, silver, copper, etc o A mineral is formally a naturally occurring crystalline "solid". o Found in underground seams where mineral was deposited o Coal is rotten plants Oil & Gas o Not a mineral o A fossil fuel, it is formed when large quantities of dead organisms, usually zooplankton and algae, are buried underneath sedimentary rock and undergo intense heat and pressure. o Found in underground in either source rock or reservoirs Who owns the minerals and why Disposition of the Mineral Estate on United States Public Lands: A Historical Perspective Sylvia L. Harrison Public Land and Resources Law Review 10 Pub. Land L. Rev. 131 (1989) Unique nature of US law regarding real estate Only country that allows individual ownership vs. state ownership The result of a confused merging of English common law, Spanish Crown law modified by Mexico and the Republic of Texas and economic development. Surface owner o Traditionally owns the minerals First disputes and development of law revolved around salt. o Wedge down to the center of the earth Heaven to Hell Concept o Portion below the surface is the mineral estate Mineral Owner a complex concept that has evolved from the Roman Empire claiming salt to a severable estate in American mining law o Owns the mineral estate o Created by severing mineral estate from surface during a transfer or conveyance o Unique nature of oil and gas due to its fluid nature 3

4 Ownership Rights What is the difference between a surface right and mineral rights Surface owner controls access and use of surface Mineral owner controls exploitation of the minerals Mineral interest is the dominant interest o Surface owner must allow access to mineral owner o Mineral owner must pay damages and for long-term use of service Dormancy Statutes The increasing value of mineral rights coupled with the increasing complex ownership (smaller and smaller interests owned by absent or unknown owners) has created a move by some states to create, by statute a mechanism to simplify mineral title under specific circumstances by statute. in certain states, a landowner may reclaim ownership of the mineral rights underlying his property, so long as the minerals have remained unused for a certain period of time. Of course, the landowner must comply with the procedures provided by each statute in order to reacquire those minerals. (Dormant Mineral Statutes: Reuniting The Mineral Interest With The Surface Of The Property In The New Era Of Advancing Technology, Budd Falen Law Offices, Cheyenne, Wyoming) Types of mineral ownership interest Mineral Interest aka MI o Ownership of mineral estate o Has the right to lease minerals for exploration o Bears little or no risk o As outlined in Texas: The mineral estate consists of the following five rights: (1) the right to develop (right of ingress and egress), (2) the right to lease (executive right), (2) the right to receive bonus payments, (4) the right to receive delay rentals, and (5) the right to receive royalty payments. Each of these rights is a separate real property interest and may be owned entirely separate from the others or in any combination. A conveyance or reservation of mineral estates is presumed to include all of the rights, unless a contrary intention is expressed Royalty Interest aka RI - Often, in common usage, so confused with a mineral interest that it has lost its distinct and unique meaning, it is, in fact a distinct type of ownership that can materially impact the value of the property. See Mineral vs. Royalty Distinction Presented by Stan T. Ingram and Travis Conner at the 58 th Annual Meeting of the American Association of Petroleum Landmen o The definition varies state by state o Right to receive portion of mineral sales o Generally created from a producing Mineral Interest o Bears no cost for drilling and operating well o May bear some post-production costs o Share of revenue received and types of expenses to be paid is governed by the mineral lease 4

5 o Bears little or no risk or liability Working Interest aka WI - Simply put, this is what is owned by the oil company o Responsible for drilling and operating well o Generally created from a mineral lease o Bears all costs associated with drilling and operating well o Bears all risk and liability o Usually a partnership or joint venture to spread cost and risk o Generally governed by an Operating Agreement Overriding Royalty Interest aka ORRI o Carved out of the Working Interest through contractual arrangement o Non-cost bearing o A limited life Due to term of leasehold Or by contractual terms Net Revenue Interest - aka NRI not an actual type of ownership, but actually a definition of the percentage of production that each party actually receives. How does ownership interest affect revenue and expenses Revenue o Surface Interest Damage payment compensation for any damage not remediated after development or other use Seismic study bonus compensation for access to land to perform a seismic study to evaluate the subsurface structure o Mineral Interest Lease Bonus Consideration paid to execute an oil and gas lease; usually calculated on a $ per mineral acre basis. Delay Rental Payments - Consideration paid to the lessor by a lessee to extend the terms of an oil and gas lease in the absence of operations and/or production that is contractually required to hold the lease. This consideration is usually required to be paid on or before the anniversary date of the oil and gas lease during its primary term, and typically extends the lease for an additional year. Nonpayment of the delay rental in the absence of production or commencement of operations will result in abandonment of the lease after its primary term has expired. (Schlumberger Oil Field Glossary) Seismic study bonus payment made to secure the right to perform a seismic study Shut-In Payments A payment stipulated in the oil and gas lease, which royalty owners receive in lieu of actual production, when a gas well is shut-in due to lack of a suitable market, a lack of facilities to produce the product, or other cases defined within the 5

6 shut-in provisions contained in the oil and gas lease. (Schlumberger Oil Field Glossary) o Royalty Interest Generally 1/8 to 1/4 of oil & gas sales depending on the terms of the lease o Working Interest Remainder of oil & gas sales Expenses o Surface Interest Property taxes o Royalty Interest Some post-production expenses determined by the terms of the lease Marketing costs associated with finding a buyer and negotiating the sale of the minerals Gathering costs associated with moving natural gas from the well head to the pipeline Transportation costs associated with moving the natural gas to the point of sale through the pipeline Compression costs associated with increasing the pressure of natural gas in order to facilitate transportation Dehydration costs associated with removing water from natural gas Processing costs associated with removing the natural gas liquids from wet or heavy natural gas Production or severance taxes taxes levied by some states on the production of minerals; for example in Texas the severance tax is 7.5% of mineral sales Ad valorem taxes property taxes levied by some jurisdictions based on the value of the minerals produced o Working Interest Exploration costs associated with determining if minerals exist in sufficient quantity and where the minerals are located: lease, seismic, etc. Drilling costs associated with creating an open path to the mineral deposit: site work, drilling rig, labor, casing, drilling mud, fuel, cement, testing, etc. Completion costs associated with making a well productive: control valve, blowout preventer, more casing & cement, more labor, perforating, fracking, pumps, etc. Production costs costs associated with getting the minerals to the surface Post-production costs costs associated with moving the minerals to the point of sale: marketing, gathering, transportation, etc. Workover costs costs associated with making an existing well more productive 6

7 Plugging costs costs associated with shutting down a nonproductive well Production or severance taxes taxes levied by some states on the production of minerals; for example in Texas the severance tax is 7.5% of mineral sales Ad valorem taxes property taxes levied by some jurisdictions based on the value of the minerals produced Hard Mineral revenue and expenses generally fall within same structure Putting Costs into Perspective 7

8 Basic Accounting Principles Revenue Processing o Bonuses can come in the form of a check or a draft; key point is to not cash a draft without a full understanding of the terms and conditions o Delay Rentals need to confirm timely payment or desire to extend the lease before cashing check o Revenue Checks Working Interest Expenses o AFE authorization for expenditure proposed budget for drilling a well or for the workover of a well o JIB joint interest billing working interest expense billing Income Taxes o Tangible vs. Intangible drilling costs Tangible drilling costs are those spent to acquire and install equipment: must be capitalized and expensed over time Intangible drilling costs are the remainder of the soft costs such as labor, supplies, etc.: may either be capitalized or deducted in the year it occurred o Cost vs. Percentage Depletion Cost depletion is based on the total cost of the well and the estimated volume of recoverable reserves: Total cost / reserve volume x current year volume Percentage depletion is calculated by applying a stated percentage to mineral revenue o Tax Preference Items IDC deducted in the current year The excess of percentage depletion of cost depletion Property Taxes 8

9 Oil & Gas Trends Where is the market going and what does the future have in store? Tight Shales Tipping the Scales Technology o Horizontal vs Classic Vertical drilling o Fracking 9

10 Impact of technology on recoverable reserves Impact of increase in recoverable reserves on prices Geopolitical impact -ExxonMobil projects that by about 2030 North America will transition to become a net exporter of liquid fuels. 10

11 Virtual Events Free Continuing Education Credits for the CTFA Designation I attended the Webinar on November 5 th, 2013 provided by PDS Systems, Inc., entitled A Basic Overview: Mineral, Oil & Gas Assets What Every Fiduciary Should Know, and wish to receive Continuing Education Credit. Name: Address: Signature Date Please Fax back to , or scan and to Misti Davis at mdavis@pdscompanies.com THANKS Please Note: All Credit Applications must be back to PDS no later than one week after webinar presentation to be assured Continuing Education Credits. Thank you. PDS Services, Inc So. Bowen Rd, Suite 335; Arlington, TX