Houston Chronicle: Feds' stance spurs Shell's decision on reserves 

Houston Chronicle: Feds' stance spurs Shell's decision on reserves

By NELSON ANTOSH

Jan. 13, 2004

WASHINGTON — Royal Dutch/Shell Group's decision to slash its oil and gas reserves reflects the new, hard line the federal government has adopted toward the energy sector, industry officials say.

And the oil giant's stunning announcement could pave the way for regulators to impose tough new standards for reporting reserves, a key number for predicting an oil and gas producer's potential.

London-based Shell, parent company of Houston's Shell Oil Co., announced Friday it was reducing its reserve base by a massive 20 percent, or 3.9 billion barrels.

The news prompted Moody's Investors Service to place the company's credit rating on review Monday for possible downgrade. Shell's stock, however, closed the day up 36 cents at $48.97.

While the restatement was made after an internal review, Shell officials acknowledge the restatement decision was prompted by an effort to stay current with what they describe as "evolving" standards at the U.S. Securities and Exchange Commission.

Reserves booked years ago in countries like Nigeria and Australia no longer make the cut in this post-Enron regulatory environment.

"Enron has caused additional scrutiny of the energy industry, even though Enron wasn't about oil and gas production," noted Dan Olds, a petroleum engineer with Ryder Scott Petroleum Consultants in Houston.

For years, producers and regulators have debated how best to determine what should be classified as "proven" oil and gas reserves, deposits that with "reasonable certainty" can be expected to be produced.

When determining proven reserves, regulators continue to use a standard set more than a quarter of a century ago, before the advent of three-dimensional seismic data and other new technologies.

The SEC, which has all of two petroleum engineers on staff, wants to see the results of a traditional flow test, in which oil and gas is actually brought to the surface.

But oil and gas producers, particularly those operating in the deep waters of the Gulf of Mexico, are loath to spend what can amount to millions of dollars and years of work on a flow test, when they can evaluate a reservoir's potential with newer methods such as downhole testing.

"Companies want to consider really hard if a test is actually necessary," said Olds, who also serves as secretary-treasurer of the Society of Petroleum Evaluation Engineers.

When developing many of the deep-water fields in the Gulf of Mexico, companies often bypassed the traditional flow tests "and went forward with multi-million dollar projects," Olds said. "They felt the information from these other methods was conclusive enough to spend their money on."

Back in October 2002, three months after lawmakers — in the wake of the Enron, WorldCom and other accounting scandals — passed the landmark Sarbanes-Oxley legislation to hold executives legally accountable for their firms' financial results, the SEC sent out questionnaires quizzing producers about their Gulf of Mexico operations.

SEC officials are still evaluating the results of that inquiry.

A recent survey of petroleum engineers found that 82 percent didn't think the SEC adequately took current technology into account, noted Mike Wysatta, business development manager for Ryder Scott.

But regulators argued the industry's reliance on new technologies had caused many reserve write-downs over the last few years.

SEC engineer Jim Murphy recently warned companies that a 10 percent difference between what producers initially report as reserves and their later revisions could trigger an SEC probe.

Neither Murphy nor the agency's other engineer could be immediately reached for comment.

Now in the wake of the Shell announcement, many in the industry are watching to see if regulators — or investors themselves — will seize this opportunity to force producers to hire outside reserve engineers to evaluate their data.

"The market will increasingly demand a more thorough external assessment of reserves from oil and gas management teams," analysts at Wachovia Capital Markets noted in a report issued Monday.

Analysts at Wood Mackenzie, in a report titled "Shell Shocked," agreed: "The current situation points to a need for greater transparency in the reporting of reserves."

To date, the industry has had a mixed response to suggestions they hire outside engineers to certify their results.

Anadarko Petroleum, for instance, doesn't have its reserves verified because its engineers review every property, field and well every year, said spokeswoman Teresa Wong. An audit would involve every well, she said, and there are thousands of them.

But Anadarko has hired an outside consultant to look at its processes and procedures, including the vast majority of reserve additions made in 2003. The firm, Netherland Sewell & Associates, will produce a "letter of confidence" to be issued around the end of this month.

Burlington Resources has had its reserves audited every year since 1988, said spokesman James Bartlett.

"The whole purpose is another set of eyes," Bartlett said.

El Paso is taking a fresh look at its reserves as a result of production that has been below expectations for the past six months.

Late last year, El Paso hired Ryder Scott, which will produce an audit report prior to the filing of El Paso's annual report to the SEC in March.

"For investors, there is the benefit of having a prominent firm associated with reserve audits," said Bruce Connery of the company.

The SEC hasn't taken a formal position on the use of outside engineers to certify results, agency spokesman John Heine said.

http://www.chron.com/cs/CDA/ssistory.mpl/business/2350729

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