A General Accounting Office (GAO) report issued last Tuesday was unable to conclusively determine whether the Interior Department’s program for accepting royalty payments from oil and natural gas producers in-kind is a success or flop due to the agency’s lack of documentation and adequate controls over the program.

Rep. Nick J. Rahall (D-WY), ranking minority member of the House Resources Committee, and Rep. Carolyn Maloney (D-NY) asked the GAO to “quantify” the administrative savings associated with collecting royalties in-kind, and to estimate the royalty payments being made in-kind rather than in cash. The GAO said it was unable to respond definitively to either question due to the scant analyses of the in-kind program carried out by Interior’s Minerals Management Service (MMS).

As the MMS looks to expand its use of the royalty-in-kind (RIK) program, “Congress may want to consider directing MMS to conduct an evaluation of all future RIK sales and to quantify any changes in the administrative cost and revenue impact on royalty collections as a result of RIK,” the GAO, the investigative arm of Congress, recommended.

Under the RIK pilot programs, which have been conducted in Wyoming and the Gulf of Mexico, the MMS permits producers to pay part of their royalty bills with oil and gas production rather than cash. The MMS then sells the oil and gas to the highest bidders at competitive auctions. The agency estimates that it collected about $682 million in in-kind payments in fiscal year 2003, and that in-kind collections could climb to as high as $2.5 billion by 2008.

In carrying out its review, “we found at the start…that MMS had only released two draft reports that analyzed the impact of RIK sales, and these reports and other informal studies only addressed the revenue impacts associated with 9% of the royalty oil sold through July 2002 and about 44% of the royalty gas sold through March 2002,” the GAO said.

“We [discovered] that sufficiently detailed administrative cost information necessary to compare RIK to cash royalties does not exist, leaving us unable to completely assess the administrative impacts.”

The MMS contends that the RIK pilots will provide savings by reducing the costs of auditing royalty payments and decreasing overall litigation. The auditing costs associated with in-kind royalties are “substantially less” than cash royalties, the GAO agreed, but it noted that the MMS has “simply redirected” these savings into auditing more cash royalty payments.

“Although more audits of these cash payments could result in higher revenue collections if the audits identified royalty underpayments, MMS is not currently able to determine this benefit because the auditing of cash payments takes several years to complete,” it said. In addition, the Interior Solicitor’s Office was unable to detect any noticeable drop in the amount of litigation attributable to the RIK pilots, the GAO noted.

It also said it was unable to conclude if RIK royalty payments were resulting in more or less revenue for the federal government. “We were only able to assess the revenue impacts in case studies representing parts of three RIK pilot sales areas: Wyoming oil, Gulf of Mexico oil, and Gulf of Mexico natural gas. The sales…represented about 57% of the royalty oil and 11% of the royalty gas [that] MMS took in-kind from inception of these pilots through November 2003.”

The revenue performance of the pilots in the three case studies was “mixed” at best, the GAO said. “We estimated that 1) RIK [oil] sales in Wyoming increased revenues by about 2.6%, for a gain of $967,000 on sales of about $37 million; 2) a six-month oil sale in the Gulf of Mexico decreased revenues by 5.5%, for a loss of $7.2 million on sales of about $131 million; and 3) natural gas sales in the Gulf of Mexico increased revenues by about 2%, for an estimated gain of about $4 million on sales of about $210 million.”

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