S&P calls for broader disclosures of oil, gas reserves

Oct. 11, 2004
Investors and analysts trying to decipher the significance of reported oil and natural gas reserves could benefit from broader disclosures by companies, a credit ratings agency suggested.

Investors and analysts trying to decipher the significance of reported oil and natural gas reserves could benefit from broader disclosures by companies, a credit ratings agency suggested.

The Paris office of Standard & Poor's Rating Services (S&P), New York, issued a Sept. 30 research note detailing lessons that can be drawn from high-profile reserves revisions.

The subject has attracted attention since Royal Dutch/Shell Group announced in January its first of four adjustments that ultimately lowered proved reserves by 24%, mainly through reclassification.

El Paso Corp., Houston, also revised its reserves estimates, as did others, including Forest Oil Corp., Denver; Vintage Petroleum Inc., Tulsa; and Nexen Inc. and Husky Energy Inc., both of Calgary (OGJ Online, Mar. 22, 2004).

Reserves revisions normal

Reserves reports are based on ongoing estimates, and a definite reserves number for any field is known only after all reserves have been tapped and wells are plugged and abandoned.

"Revisions are a normal part of the reserves-quantification process as better information becomes available over time," said S&P, which monitors reserves revisions as an indicator of a company's reserves-booking policy.

Still, reserves reports help analysts assess a company's future cash flow generation under different oil and gas price scenarios, and reserves also are key to assessing creditworthiness.

Disclosure practices vary greatly from one company to another. Unlike with financial accounts, reserves reports do not have to be audited, although some companies hire outside experts to review their disclosures. Most integrated companies and large independents rely on internally prepared reserves estimates.

Statoil ASA is an exception. Its reserves are evaluated every year by a petroleum engineering firm. Shell has said that it will increase its reliance on outside experts.

"Greater transparency about each company's internal process to determine annual reserves figures would therefore be instrumental to confirm the credibility of reported reserve figures," said the S&P research note written by Eric Tanguy and Emmanuel Dubois-Pelerin.

Reporting discrepancies among partners in a given field sometimes stem from diverse reserves-booking procedures. US Securities & Exchange Commission standards about supplementary reserves disclosures are subject to interpretation, S&P noted.

"Some companies are happy to rely mainly on 3D seismic data to book reserves, while others focus more on actual well drilling," S&P said. "Amounts of reserves booked on the very same field can therefore differ from one company to another." In most areas, SEC requires companies to support reserves estimates with results of production tests.

Investors would welcome clarification of SEC standards, S&P said. In its assessment of an exploration and production company, S&P is most interested in proved, developed reserves.

"Booking procedures used by integrated companies with respect to the categorization of proved reserves as undeveloped or as developed also leave some room for judgment," S&P said.

Public disclosure

Most integrated companies limit reserves disclosures to SEC requirements, which "have undergone limited changes over the past 2 decades. Simple changes in disclosures would no doubt contribute to greater transparency," S&P said.

Detailed explanations about year-to-year revisions are not mandatory, but proved-reserves revisions can signal aggressive booking practices, the agency said. S&P advocates that companies provide an aging schedule of proved, undeveloped reserves (PUD).

"In such a schedule, the date [that] a PUD is booked would be disclosed such that S&P and other financial analysts could better understand whether a company is 'gaming' its reserve total (and consequently lowering its finding and development costs) by booking PUDs for which development is unlikely to start soon," the report said.

Anadarko Petroleum Corp. already publishes this information, S&P noted.

"For large fields, publishing an expected date of conversion to proven, developed, producing, or nonproducing reserves would be most helpful as would a reconciliation of the aging schedule," S&P said.

Another helpful disclosure would include estimates of expected oil and gas production for at least 5 years, enumerated by year and a matching schedule of the required capital costs.

S&P also said it would be helpful if more companies reported reserves field by field or country by country. Instead, most companies report by broad geographical regions, such as North America vs. the rest of the world.

"But this is of little use in understanding the importance of key projects to future production and risks that may stem from excessive concentration," S&P said. Norway's Norsk Hydro ASA is the only company that reports its reserves estimates by field, and Spain's Repsol YPF SA is the only company to provide reserves estimates by country.

Shell's Nigerian reserves revisions were significant, and "it would be most interesting to confront proven-reserves booking by all oil majors for this country," the research note said.

"Finally, the vast majority of integrated majors do not, thus far, systematically report all hydrocarbon reserves from proven developed to possible and probable. Some, like ExxonMobil [Corp.] or BG [Group], give a general indication about their overall resources, but no company gives sufficiently detailed information," S&P said.