US Minerals Management Service Director Johnnie Burton questioned comparisons that apparently were the basis of allegations that federal natural gas royalty collections have not kept pace with rising prices.
She made that point in a response to a Jan. 23 New York Times article that prompted Sen. Jeff Bingaman (D-NM) and 21 other US senators to request a Government Accountability Office review of MMS royalty collections (OGJ Online, Jan. 25, 2006).
House Resources Committee Chairman Richard W. Pombo (R-Calif.) also reacted to the article when he asked Interior Sec. Gale Norton in a Jan. 23 letter to supply the committee with “all relevant data so that we can ensure the public is getting full compensation for the production of oil and gas on lands belonging to them.”
Pombo has not decided if he will hold a hearing on the subject, a committee spokeswoman said Jan. 26.
In her response, Burton said MMS bases royalties on prices at the wellhead. Such wholesale prices are lower than those that companies report to the Securities and Exchange Commission, which are similar to retail prices. The reported prices include processing and transportation costs and often are averages of gas from federal, state, and private lands, she said.
Burton said that for the first 10 months of 2005, the US Energy Information Administration showed an average $1.15/Mcf differential between the wellhead and delivery price, “reflecting the type of difference one might expect to see between the prices reported to the SEC and the royalty values reported to MMS.”
She said this differential might help explain the approximately $700 million more that the New York Times article said MMS would have collected in royalties during fiscal 2005 if federal gas royalty payments had kept pace with market prices.
Other factors
Burton said federal gas royalties also might not have increased because Gulf Coast area producers were not able to report the information on time because of Hurricanes Katrina and Rita.
MMS subsequently received that information, but it will appear as part of the fiscal 2006 data, “thereby making 2005 royalty collections appear to be less than what we will actually receive for 2005 production,” she said.
Royalties also have not increased as quickly as gas prices because a large share of production from federal leases comes from properties with lower royalty rates, according to the MMS director.
“Over the past few years, a greater proportion of federal production has come from deepwater Gulf of Mexico and onshore leases, where royalty rates are typically 12.5%, while production from shallow-water offshore leases, where the royalty rate is 16.67%, has fallen,” she said.
Gas production from federal shallow-water Gulf of Mexico leases has dropped by more than 50% since 1990, Burton pointed out. She also noted that the Deep Water Royalty Relief Act of 1990 allows for some deepwater oil and gas to be produced royalty-free.
While today’s high market prices mean most of that production no longer qualifies for royalties to be waived, such a royalty relief cap does not cover production from 1998 and 1999 leases, she said.
Burton questioned other points that the article raised. She said a new management strategy that MMS implemented a few years ago allows it to use fewer auditors to do more or as many audits. The administration also asked the agency to reduce its audit and compliance cycle from 5 years to 3 years, she said.
The result, she indicated, is that 71% of 2002 royalties were reviewed in fiscal 2005, compared with 46% of the 2000 royalties that were reviewed in fiscal 2003.
Royalties in-kind
Burton noted that MMS also takes 80% of its offshore oil and 20% of its offshore gas royalties in-kind. Because it then sells this oil and gas, producers do not pay royalties as cash, and audits are not as necessary.
She said MMS has not relaxed its valuation rules, although it has clarified some requirements. “Indeed, oil sales between affiliated companies (i.e., non-arm’s length transactions), for the first time, are valued using the New York Mercantile Exchange index price,” which is more transparent and objective than previous valuation methods, she said.
MMS has asked its royalty policy committee to study a similar approach for gas and is awaiting its report, Burton said. MMS has fully implemented recommendations in the Interior inspector general’s 2003 royalty audit program review. An independent auditor conducted a 4-month peer review of the program in 2005 and approved it, she said.