The Bush administration, in order to avoid widespread litigation, needs to use "sugar" rather than a "hammer" to get producers to renegotiate their faulty 1998-1999 leases that are costing the federal government billions in lost royalties, the head of the Interior Department's Minerals Management Service (MMS) told a House Natural Resources' subcommittee Tuesday.

"I think that we need to entice the [companies] to voluntarily come and accept...a price trigger in those contracts without forcing them because that would breach their contract," MMS Director Johnnie Burton said during a Subcommittee on Energy and Mineral Resources' hearing examining the budget requests of various Interior agencies for fiscal year 2008.

"I think that if there is a way to give something to bring them to the table that doesn't cost too much, maybe we need to do that," she told lawmakers. "But I think that using only a hammer is going to create a situation where we'll have lots of litigation because those contracts are valid even though they may be bad."

Litigation over the 1998-1999 deepwater oil and natural gas leases could enjoin future lease sales, Burton warned. "The repercussions of that action...would be disastrous for the county. Not only would we years down the road have decreases in production, we'd would have huge [decreases] in production."

The MMS has estimated that up to $13 billion in oil and gas royalties could be lost if the agency is enjoined for three years from carrying out lease sales, according to Burton.

The MMS gave producers a break on royalties in the 1990s, when oil and gas prices were low, to spur exploration and production in the Gulf of Mexico. The lease agreements were supposed to contain price-threshold language stating that the price relief would come to an end when oil and gas market prices soared above a certain level. But the Interior agency left this language out of the 1998 and 1999 leases -- a mistake that is costing the government dearly.

The absence of price thresholds in the Gulf leases could cost the federal government $10 billion or more over the life of the leases if they are not renegotiated, according to the Government Accountability Office.

The MMS has been under pressure from Congress to renegotiate the leases to include the price triggers. Five producers who hold 1998-1999 leases have renegotiated their contracts with Interior, but the deals call for recovery of royalties on future production from the leases, not on past production. The renegotiated deals have failed to silence congressional critics, who want producers to pay royalties on past production from the disputed leases as well. Approximately 50 companies still haven't renegotiated their 1998-1999 leases (see Daily GPI, Dec. 18, 2006).

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