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Summaries of Oil Royalty and Valuation Hearings (6-24-99)

In the nearly three years since President Clinton signed the Federal Oil and Gas Royalty Simplification and Fairness Act into law, the Minerals Management Service (MMS), oil industry, and Congress have been engaged in a debate over how to develop regulations from the law. The debate involves determining what constitutes fair valuation of oil and gas royalties and how to simplify the collection of royalties from federal lands.

Oversight Hearing of the Mineral Management Service's Royalty Valuation Program
House Government Management, Information, and Technology Subcommittee
May 19, 1999

Members Present
Chairman Stephen Horn (R-CA) Carolyn Maloney (D-NY)
Thomas Davis (R-VA) Jim Turner (D-TX)

Introductory Remarks
Chairman Horn set the stage by recounting the history of the Mineral Mangement Service (MMS) rule controversy.  In 1996, allegations were made that oil companies were selling their oil at "posted prices" that were less than the market prices.  By undervaluing the oil, companies reduced the amount of royalties they paid to the federal government for removing resources on federal land.  A hearing was held in June of 1996 which elicited that oil companies owed as much as $856 million dollars in royalties if prices were based on market prices, not posted prices.  Chairman Horn stated that the goal of this hearing was to evaluate the new MMS proposed rule for determining royalty payments.

Rep. Maloney supports the new MMS rule and expressed anger with the rider passed last Tuesday as part of the emergency suppplemental appropriations bill to block the implementation of the rule by what she perceives as industry pressure and manipulation.  She cited a letter detailing a plan of attack that was conceived at a meeting of oil company lawyers, lobbyists and associations to prevent this new rule from being implemented.  This letter asserted that the industry would attempt to protest the rule on procedural grounds and would block the implementation using riders.  Rep. Maloney supported a market-based valuation of oil "minus legitimate transportation expenses" and will be submitting such legislation soon.

Rep. Davis focused his statement on the recent allegations that two federal employees accepted funds from affected parties to change the "Interior Departments interpretation of its royalty value rules."  Rep. Davis fears these two employees have tainted the MMS rule and calls into question any findings in this and subsequent hearings until the matter is resolved.

Rep. Turner wanted to insure that the oil companies are not overly burdened at a time when prices are at a record low and layoffs common.  He stated that he will support a rule that is fair to the oil companies and stops this continual litigation. He was also concerned about the apparent misconduct of the two federal employees and how it has affected this new rule.

James McCabe
Deputy City Attorney
City of Long Beach, California
David Deal
Assistant General Counsel
American Petroleum Institute
Alan Taradash
Attorney at Law, Nordhaus, Haltom,
Taylor, Taradash & Frye, LLP
Albuquerque, New Mexico 
Ben Dillon
Vice President
Independent Petroleum Association of America

Mr. McCabe
    Mr. McCabe supported oil being sold at competitive prices by following the examples of other places that trade oil in the open market.  He stated that Long Beach and Alaska have each recovered large sums of revenue by revising their royalty collection and basing it on market prices.

Mr. Taradash
    Mr. Taradash argued for the separation of regulations for "tribal oil and gas leasing activity" from federal regulations.  He stated that the United States government has a conflict of interest by being both a mineral resource owner on its own lands and a trustee of tribal mineral resources.  The government is mandated to insure the tribe "receives maximum benefits from mineral deposits on their lands through leasing"; in the role of trustee the government must create incentives for companies to work on Indian land similar to the ones they have created to encourage production on federal lands.  The federal government has consistently failed to fulfill this role of trustee.  Mr. Taradash cited examples of the Department of Interior's failure to establish fair rates, collect payments, and distribute revenue to the tribe.  He encouraged the federal government to consider a tax credit or tax relief for industries who have production sites on tribal land.

Mr. Deal
    Mr. Deal supported the MMS objectives of finding a simpler rule which reduces costs of administration and litigation, but does not think the proposed MMS rule meets these objectives. He stated that the MMS tack of determining prices "downstream" complicates valuation by adding additional costs and moving the price away from the "lawful value of production."  Mr. Deal also encouraged the adoption of regulations to take the royalty in kind so that the MMS can seek "for itself the highest selling price for the crude oil it has taken."

Mr. Dillon
    Mr. Dillon expressed concerned about the timing of a new rule when the industry is experiencing record layoffs and is shutting down many wells.  He stated that the hardship experienced by the industry is resulting in a loss of two billion dollars in taxes and revenues; "we must save the domestic oil industry."  He supported a fair and predictable rule, arguing for royalties that are paid on the value of production at the lease, regardless of where the lease is or the size of the company.

Question and Answer Session for Panel 1
    The chairman solicited comments on whether the witnesses were satisfied with the rule making process or if there were any barriers.  Mr. McCabe and Mr. Deal said the process was taxing and long, but manageable. Mr. Terradash stated that the MMS has begun to solicit input, whereas before participants were asked to respond without opportunity to research issues. Rep. Maloney addressed the issue of going to market prices and the unwillingness of the oil companies in making documents public. Answers to her questions will be submitted in writing.  Chairman Hunt asked a series of questions trying to establish how much is still owed to the tribes.

Panel 2
Susan Kladiva 
Associate Director, Energy, Resources,
and Science Issues
Resources, Community, and Economic
Development Division
United States General Accounting Office
Sylvia Baca
Acting Assistant Secretary for Land and Minerals
United States Department of the Interior
Robert Williams
Acting Inspector General
United States Department of the Interior

Ms. Kladiva
    Ms. Kladiva testified about the contents and process of designing the new MMS rule and the feasibility of  royalty-in-kind programs. The revised MMS rule would require royalties to be based on spot or market prices in transactions that are not at "arms-length."  This type of  transaction occurs when the two parties do not have competing economic interest and thus do not arrive at a market price.  The revised regulations have been drafted in response to accusations that oil companies were posting lower prices in transactions between subsidiaries of the same company to avoid paying larger royalties.  This oil was then sold for a higher market value after royalties were paid.  A task force was created to investigate these claims and found that "posted prices" were lower than market prices. Four states--Alaska, Texas, Louisiana and New Mexico--have reached settlements with the oil companies to pay owed royalties to the government. The new MMS regulations will increase revenues by approximately $66 million a year. The investigation into feasibility of royalty-in-kind programs determined that only under "conditions that do not exist for most federal leases" would this type of program be efficient for the government.

Sylvia Baca
        Ms. Baca detailed the findings of the California task force that posted prices were undervalued compared to market price.  The MMS subsequently billed companies for royalties owed; the oil companies responded by taking the issue to court.  While the issue is still in litigation, some judges have placed a statute of limitation on the collection of the back royalties.  The new rule uses spot prices for all transactions not at "arms-length" and no longer relies on posted prices. Ms. Baca stressed that the new rule has no bearing on the recent low prices in the industry.  "Royalties are not a tax and should not be compromised to alleviate market pressures on the industry."  Ms. Baca also alluded to several "royalty-in-kind" pilot programs that have been successful, but that this technique is not appropriate everywhere.

Mr. Williams
    Mr. Williams' testimony consisted of summarizing the results of multiple audits and investigations performed by the MSS on the issue of oil royalties.

Questions for Panel 2    Rep. Davis focused his questions on the two federal employees accused of taking payments from parties involved in the oil royalties issue.  Mr. Williams said this was being investigated by the Department of Justice.  Davis also raised concerns over several bills issued by the MMS for back payments that have been found inaccurate and overcharged the companies.  Ms. Baca stated that due to the statute of limitation, the bills were hastily prepared to meet the deadline and that this would not be the level of competence in the future.  Rep. Turner explored the royalty-in-kind issue, with Ms. Baca reiterating it was only efficient under certain circumstances.  Rep. Maloney asked whether the industry is being consciously deceitful or they just misunderstood the rule.  Maloney suggested that since no rule will be accepted, spot prices should be legislated.  Chairman Horn cited a Time article which asserted that records of Indian royalty payments have been destroyed, are missing, or have been purposely lost.  Ms. Baca stated that the Office of the Special Trustee is the office that handles disbursements of the Indian royalties.

Hearing on S. 924, the Federal Oil Royalty Certainty Act of 1999
Senate Energy Research, Development, Production, and Regulation Subcommittee
May 18, 1999

Members Present
Subcommittee Chair Don Nickles (R-OK) Jeff Bingaman (D-NM)
Pete Domenici (R-NM) Mary Landrieu (D-LA)
Frank Murkowski (R-AK)
Craig Thomas (R-WY)

Introductory Remarks
Senator Nickles started off the hearing with the comment that the petroleum industry is currently "reeling from low prices."  He believes a decline in the oil industry represents a significant economic and security threat to the country and one way to help stabilize the industry is through the elimination of the current burdensome and costly rules related to royalty payment.  The current proposed rules by the Minerals Management Service (MMS) have been blocked for the last two years by a Senator Nickles' sponsored moratorium. Nickles believes MMS's inability to take into consideration the concerns of Congress and industry has left the time ripe for Congressional action.  S.924 is just this action.  The bill, if passed, requires that the value of royalty payments be calculated at the lease. Language in the bill also allows that: "If the payment in value or amount is calculated from a point away from the lease, the payment shall be adjusted for quality and location differentials, and the lessee shall be allowed reimbursements at a reasonable commercial rate for transportation (including transportation to the point where the production is put in marketable condition), marketing, processing, and other services beyond the lease through the point of sale, other disposition, or delivery."  Nickles emphasized that he is seeking rules which are "simple, certain, and consistent with lease agreements."

Bingaman was the next to speak and stated he certainly agrees that simplicity should be a goal.  He went on to say, however, that S.924 has strong opponents and mentions that there are issues currently pending in court that bear on the current MMS rules.  Bingaman viewed the purpose of this hearing to determine what can actually be legislated and what would be helpful.

Domenici was the next to enter comments into the record and his testimony dealt mainly with the idea of "Duty to Market."  Domenicic did not agree with the MMS belief that a "Duty to Market" exists and found this nothing less than the government "mooching" off of industry.  In his view the passage of this bill will result in the states losing money, but he thinks it is nevertheless a fair piece of legislation and should be passed.

Mary Landrieu submitted a statement for the record and was followed by Craig Thomas who asked to be added to the bill as a sponsor. Murkowski expressed his support for the bill noting that it is straight forward and fair. He compared it to the system Alberta currently has in place, and finished by saying that industry needs the fairness that this bill provides.

Thomas R. Kitsos, Deputy Director, Minerals Management Service, Department of the Interior

The full text of Mr. Kitsos' testimony can be found on the MMS web page (here). Mr. Kitsos began his testimony by emphasizing that MMS only recently received a copy of S. 924, and as such all analysis to date is preliminary.  While MMS agrees that simplicity and clarity are needed, it finds the current bill falls short.  Based on MMS' review and recomendation, the Secretary of the Interior would recommend that the President veto this bill.

Kitsos argued that the proposed adjustments force the Government to "share in costs that have historically been the responsibility of the lessee,"  placing the Government in a position of sharing in costs over which it has no input.  These costs, related to marketing and transportation, will decrease royalties by as much as $250 million per year.  The MMS finds a better course of action is continueing with their current approach.  They have been directly involving all interested parties in an attempt to finalize their policy and meet their goals of "certainty, simplicity, minimizing disputes, and ensuring a fair return for the public."

There were questions for Mr. Kitsos from several of the senators, but these ended up being dominated by inquiries into recent accusations that two employees of MMS involved in policy adoption had each been given $350,000 by the Executive Director of the Project on Government Oversight (POGO).  Mr. Kitsos did not have any information he could provide at this time, but as far as he knew neither employee had anything to do with the oil royalties rules.

Panel II
Mr. Stephen Reynolds, Office of State Lands and Investments, State of Wyoming
James McCabe, Deputy City Attorney, City of Long Beach, California
David Blackmon, Vice-Chairman of the Independant Petroleum Association of America (IPAA)
    Land and Royalty Committee
Larry Wooden, Public Affairs for Shell Exploration and Production Company
Al Poe Leggette, Partner, Fullbright and Jaworski LLP

Mr. Reynolds was the first member of the second panel to testify and submitted formal, written testimony on behalf of the governor of Wyoming.  He came out in support of the legislation, but wanted to be certain that the state of Wyoming would still be able to take its royalty shares in kind.  James McCabe, on the other hand, spoke out against S. 924 because the costs of marketing and transportation are shifted from the industry to the state.  This will take money earmarked for education in the state of California and leave it to industry.  David Blackmon and Larry Wooden both found that the proposed bill would clarify the oil valuation issue and as such were in favor of it.  Al Poe Leggette also praised the bill's clarity.

There were no questions for the second panel from any of the senators.

The day following the hearing, three members from the Seante Committee on Energy and Natural Resources (Murkowski, Domenici, and Nickles) asked the Department of Interiror to suspend oil valuation rulemaking until the investigation of two employees, reportedly paid $350,000 each because of their stances on policy issues, is complete.  Follow this link for the complete text of Senator Murkowski's press release.

Sources:  Hearing testimony, Environment and Energy Study Institute Weekly Bulletin

Please send any comments or requests for information to the AGI Government Affairs Program.

Contributed by AGI/AIPG Geoscience Policy Interns Scott Broadwell and Sarah Robinson

Last updated June 24, 1999

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