Exploration and production (E&P) companies can no longer offer their investors only optimistic forecasts of their oil and gas reserves — shareholders want the cold, hard numbers. When the Securities and Exchange Commission (SEC) requests information about reserves, it also wants the cold, hard numbers. Determining those numbers, as close as possible, has translated into a booming business for Texas-based engineering firm Netherland, Sewell & Associates (NSAI).
C.H. “Scott” Rees III, COO of NSAI, told attendees at EnerCom’s 11th Oil & Gas Conference in Denver on Wednesday that transparency is the name of the game today. Burned by allegedly bogus financial reporting by many high-profile energy companies a few years ago, investors demanded and the government enacted rules that now require more detailed reserves information. But Rees, whose company conducts third-party engineering studies of oil and gas assets, said determining a producer’s reserves base still is a little give and a little take.
“It’s really a matter of interpretation,” Rees said. “There are challenges. Understanding Gulf Coast sands is pretty easy, determining the net pay in Gulf Coast sands is fairly simple. In gas shale, that’s very different. In the Barnett [shale of Texas] for instance, you may start out with the same log in shale, but…unconventional plays have a much larger range of what is proven, what is probable, what is possible. You may see 20% [of the net pay], and 80% is still out.”
Since the move toward more transparency a few years ago, E&Ps now have to define a “range of uncertainty” when determining their reserves. “Choosing the most optimistic values in a range of uncertainty is not appropriate.” But it’s a difficult process. Are the reserves proved, unproved, probable or possible?
“It’s an interpretation,” said Rees, “a marriage of data and reserve definitions.” There also are the “yes-no judgments on commercial infrastructure,” and where the production will be marketed. “Reserves are a core business for E&P companies. Finding them, developing the, producing them, generating cash flow with them.
“The thing that is key is determining the ‘most likely’ reserves, which is really a conservative approach,” said Rees. “But it’s a quandary. You may find a field with 100 million barrels, but the data shows only 50 [million barrels] proven, and you know there’s another 50 there. You can’t put those reserves on the books. It’s a quandary in how to explain to an investor if you are only allowed to talk about proven reserves.”
Still, investors and regulators have to have a standardized method to review an E&P’s reserves base. “What we’ve seen over the last few years is a lot more focus on reserves management. Companies want to do the right thing, provide a [reserves] definition they are more sure of. Proved reserves should be ‘reasonably certain,’ or stated otherwise, and you should have a 90% probability of producing at least the booked amount. Business decisions are often made, and appropriately so, on the basis of ‘most likely’ or ‘expected’ cases, and there’s generally close to a 50-50 chance of being high or low.”
What if the SEC wants to review and E&P’s reserve data? Rees said the SEC first will request a hard copy and a digital report of an E&P’s reserves. The company’s review should include a “summary-level” company forecast by reserve category, “one liners” on each property or well by reserve category, and the estimated date of first production from proved undeveloped locations (PUDs).
“Historically, the SEC asks most about PUDs,” said Rees. “They use to ask about revisions and how a company had improved that process. Now they ask about how the process has been modified for the PUDs.”
NSAI’s fastest growing business today is in the unproved reserves categories, said Rees. “There’s been an increased emphasis on resource volumes…, unconventional gas plays, emerging energy markets, like [liquefied natural gas] LNG, international exploration.” Global E&Ps, he said, also have an better “understanding and acceptance” of U.S. resource definitions set in place by the SEC and the Society of Petroleum Engineers, and they want help in ensuring investors understand their business.
“There’s more core data, more science, more seismic. In the Barnett, it’s all about where to drill fast, where to crack fast,” said Rees. “All of these technologies, with the seismic, are going into what used to be plain vanilla [engineering] into the new science. The recoveries in the prices helped us get there, but the technologies are helping us move forward.”
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