ReservesAccounting: StandardMeasureofOil&Gas

DaveLoucks OpportuneLLP dloucks@opportune.com 303.606.7578

OldSchoolTerminology SFAS69
Thedisclosuresinresponsetotherequirementsof SFAS69(nowinTopic932)arecalledmany differentthings. StandardMeasureofoilandgas StandardizeMeasure SMOG SFAS69 SMOVisthestandardized measureofValue

1. 2. 3. 4. 5.

SMOG
Whatitis areconciliationofthechangesyear overyearinthereservereportthatpublic companiesarerequiredtodo(seeingmore privatecompaniesdoaswell) Tellssomuchaboutacompanyandhowitisrun ifyouunderstandwhatthenumbersaresaying Istheincreaseduetopricechanges,throughthe drillbit,acquisitions AnalystsuseittodoNAVcalculationson companiestheydontcover

BiggestOxymoroninAccounting havingStandardizedintheTitle
Norealexamplesintheaccountingstandards thatshowhowthemathworks Andersendevelopedaspreadsheetsolution withinstructionsonhowtodointhelate80s PWC/PDI/Brockbookhasexamples PWCisworkingonthenextedition, shouldbetoprintlaterthissummer

SFAS69 Volume
TypicallystartwithaVolumereconciliationstartatPY Balance,addextensionsanddiscoveries,theacquisitionof reserves,improvedrecovery,lessthesaleofreservesinplace, lessproduction,thenfinallyaddorsubtracttherevisionsto balance.

KodiakVolumes

KodiakProvedPDPandPUDs

KodiakVolumes whatdidyou Notice?

Acquiredreservesin 2010 Soldreservesin2009 and2008 ProvedupinExtensions approximately3.5 millionBblsin2009 and2010 NoPUDsin2008as uneconomic

VolumeReconciliation
Allthedataderivedfromreservereportexceptproductionandrevisions Useonelinesummariestocalculaterevisionsduetoprice

VolumeReconciliation Questions
Whatcanyoudotrackthechangesforthe revisioncalculation?Runadjustedvolumesat pyandcurrentyearpricestocalculatechange togetbothpriceandtechnicalrevisions Issueisthatreserverunsareatendofyear, wellscomeonduringtheyear.Mayhaveto makereconciliationifsignificant. Thereisalotofdatatheengineerscanrunfor you,justask

KodiakCashFlows whatdoyouSee?

KodiakChanges Samedrill

SFAS69 DiscountedFutureNetCash Flows

a. Futurecashinflows. Theseshallbecomputedbyapplyingyearendpricesofoilandgasrelatingtothe enterprise'sprovedreservestotheyearendquantitiesofthosereserves.Futurepricechangesshallbe consideredonlytotheextentprovidedbycontractualarrangementsinexistenceatyearend. b. Futuredevelopmentandproductioncosts.Thesecostsshallbecomputedbyestimatingthe expenditurestobeincurredindevelopingandproducingtheprovedoilandgasreservesattheendofthe year,basedonyearendcostsandassumingcontinuationofexistingeconomicconditions.Ifestimated developmentexpendituresaresignificant,theyshallbepresentedseparatelyfromestimatedproduction costs. c. Futureincometaxexpenses. Theseexpensesshallbecomputedbyapplyingtheappropriateyearend statutorytaxrates,withconsiderationoffuturetaxratesalreadylegislated,tothefuturepretaxnetcash flowsrelatingtotheenterprise'sprovedoilandgasreserves,lessthetaxbasisofthepropertiesinvolved. Thefutureincometaxexpensesshallgiveeffecttotaxdeductionsandtaxcreditsandallowancesrelating totheenterprise'sprovedoilandgasreserves. d. Futurenetcashflows. Theseamountsaretheresultofsubtractingfuturedevelopmentandproduction costsandfutureincometaxexpensesfromfuturecashinflows. e. Discount. Thisamountshallbederivedfromusingadiscountrateof10percentayeartoreflectthe timingofthefuturenetcashflowsrelatingtoprovedoilandgasreserves. f. Standardizedmeasureofdiscountedfuturenetcashflows.Thisamountisthefuturenetcashflowsless thecomputeddiscount.

CashFlowData
Allderivedfromthereservereportprovedsummary pageexceptfortaxes Taxesshouldbecalculatedyearbyyeartogainbenefit ofdiscountfactors Thistaxcalculationyearbyyearcanalsobedoneto reducethetaxeffectforceilingtestsforfullcost companies.Simplemathifyoujusttakethetotalnet cashflowstimestaxratetheamountwillbehigher thanifyoudiscountbytheyearlydiscountfactor AllowsuseofNOLsandIDCdeductionstopushtaxes outintothefutureatdiscountedrates

SFAS69 AggregateofChangein StandardizedMeasure

Roadmaptowhatisgoingonwithacompanyasdetailsoutthecomponentsof changesinreservebalances. Madeupofthefollowingcomponents: 1. production 2. Priceandcostestimatechanges 3. discoveries 4. extensions 5. revisions 6. changesindevelopmentcosts 7. previouslyestimateddevelopmentcostsincurred 8. acquisitionofreservesinplace 9. Reservessoldduringtheyear 10. accretionofdiscount 11. taxes 12. other ItsthePlug andshouldbecalled Changesintimingandothersodoesntlooklikeplug

UnofficiallyRuleofThumb
Weareknownforbeingprecise SMOGisoneaccountingcalculationthatifyou areplusorminus10%wehaveatendencyto stopaswesayweareok Becauseofthis,veryinaccuratemodelssetupto calculatethereconcilingitems,changesare doubledcounted,itishardtoisolatethechanges withoutspendingtimeworkingthedata Thereisalotofkeydatainthereservereport thatifwecanminewecouldgetabettercalc

WhytheOther?BecausewemakeTie toIncomeStatement
Wehavealwaysthoughttheremustbe somethingthatwedontunderstandinthe reservereport. Actually,wedoittoourselvesbymakingthe netrevenuetietotheincomestatement.

SaleofOil&GasNet
Generallypresumptionisthatthisshouldtietotheincomestatement Issueisthatnotallwellsthathaveproductionwereinthereservereportinthe prioryear Uneconomicwellsnetincomewouldbecreatingotherinthecalc Ifyouhavesignificantproductiononnewwellsyouarebringingonline,youmay needtoadjustyourextension/discoveriesforthisextraproduction. Mayalsohavetoadjustforthedifferencebetweenactualnetrevenueand plannednetrevenuefromtheprioryearreservereport(addtorevisionsor changesinPrices)

ModelsbasedoffofChangesinPrices andCostCalculation
Calculatewhattheaveragenetprice(Priceless cost)isonaboe/mcfebasisforcurrentyearand prioryear Multiplethechangeinprice/costbythevolumes ofthePriorYearthatarestillinthereserve report. ThosevolumesarethePYamountless production,lessdivestures,lessrevisions Thenmultipliedbytheoveralldiscountfactor overtheprioryear(somecompaniesusethe currentyeardiscountrate)

ChangesInPrices andCosts
BelievethatFDC costsshouldbe removedtogettrue change Reconcilebackto whatPYvolumes reallyarestillaround Options PYeffectiverate CYeffectiverate Calcusingonelines

NetChangeinFutureDevelopment Costs
Threedifferentmethodstocalc 1. Useactualcosts ifyouwereunderestimatedinyour planyouarecreatingadifference 2. Usethelesserofactualcostsorbudgetedamounts 3. UsetheFDCestimatedamountinthePY ManychancestodoublecountFDCchanges FDCs reducenetcashflowinextensions,discoveries, revisions,acquisitions,andevendivestures Manymodelssetupusingaverageoveralldiscount factor;PUDsshouldbeconcentratedwithinthefirst5 years whichwouldbeatlessofadiscount

NetChangeinFutureDevelopment Costs
LookatwherealltheFDCcostchangescould betakenintoaccount

Extension/Discoveries
Handledthesamewayforextensionordiscovery Bestdataisonelinesummaryofallnewwells Cancalculateusingtheoverallaveragenetprice Mayaddbackproductiondollarsonanundiscountedbasisas youknowtheamount,alsoadjustthevolumes Overalldiscountrateonnewaddsmostlikelydifferentthan theentirepopulationofwells

Acquisition/DivestureofReserves
Onelinesummarypagebestdata Cancalculatevolumestimesaveragenetprice timesdiscountrate Remembertoaddbackproductiontogetto trueacquisitionamountorgetreservesrunat acquisitionclosedate

 SameasExtensionand Discoveries bestdatais calculatedfromtheoneline summarycomparison Way moreworkthenmosthavetime for Mostgroupsdousetheaverage netpricesandoveralldiscount factors.Weusetheprioryear effectivefactorwhenthe revisionsareanegative(taking outprioryearvolumes)or currentyeareffectivefactorif positivevolumerevisions Generalizationisthattheaverage ratesworkforrevisionsasyou expecttherevisionstobeacross yourpopulationofwells

Revisions

AccretionofDiscount
FortheSMOGcalcalldiscountingisdoneat10% Acceptabletocalculateat10%ofpretaxSMOG(the reservereportamountbeforedeductingtaxes) However,thisoverstatesthechangeasthefirstyears cashflowscantreallybeat10%duetotiming Alsoacceptabletomultiplytheprioryearnet undiscountedcashflowbythecurrentyearPVfactors todiscountatcurrentrates NotethefactorinthePWC/PDIbookisinthe8%range Shouldcalculateaccretionfromtheacquisitiondate forwardonacquisitionsifaccountingforfrom acquisitiondate

ComparisonofLikeCompanies

Kodiak,Northern,OasisandWhiting

OasisVolumes

OasisCashFlow

OasisChanges

NorthernOil

NorthernCashflows

NorthernChanges

WhitingVolumes

WhitingCashFlow

WhitingChanges

Comparison

SMOG
Reallyeasytofallintospreadsheetissuetrapsinprogramming spreadsheetforSMOGorusingtheAndersentemplatewithout instructions Somanydifferentpartschangedependingonwhatyouhavedoneandthe timingofyourcashflow Assumptionsarethatrevenuecomesinmidmonthormidyearand futuredevelopmentcostsat1st ofmonths,therefore,theratesinyour reservereportareprobablynotthestandardperthechartpercentages. Ifthecompositionofyourcashflowschangesyoucangetdatathat doesntmakesenseforexampleaccretionofdiscountshouldalwaysbe slightlylessthan10%. Alsothinkaboutfuturedevelopmentcosts.Costsshouldbeconcentrated in1st fiveyearswiththenewPUDrules.Sowhyareyouusingaverage discountrate?

CompaniesDiscretion?
Ifwehave$1ofpositiveundiscountedcashflow,andthereisaplanto drillthatwell,anditisincludedonits5yearwrittenplan,itcanbeonthe reservereportasaPUDandhavenegativePV10 ThesenegativePV10amountshavebigimpactthestandardcalculation Sayinyear2youhavelotsoflotsofplannedcapitalexpenditures,then theoveralldiscountfactorinyear2canbelessthanwhatitwasinyear one ClearlyifyouarecalculatingtheAccretiononayearbyyearbasisyouare goingtogetadifferentnumberthanthestandardPVrate Rulestatesthatcashflowjustneedstobepositiveatthe12month averageprice doesntsayifundiscountedordiscounted HaveseenpositivePV10,butnegativeundiscountedcashduetoARO obligations filedexpectingacommentletteranddidntgetone ShouldAROobligationsbeconsideredineconomicsofaprojectifyou haveitaccruedforinyourAROcalc?

DiscountFactorExamples

WhatDidweSeewithSMOG thisYear
ManychangestotoptierReserveEngineersletters. ExpectationwasaddmorePUDs,notsurethatwereally sawthat Alotofcompaniesstayingconservativeastheydidntwant tostarttheclockonthe5yearsforPUDtobeconverted ManymoreequitymethodSMOGcalculationsprepared Additionally,moreprivatecompaniesarepreparing StatementofRevenueanddirectexpensesrequireSMOG disclosures Stillwaitingformorecommentlettersand10K/Astobe filedtoseewhattheSECreallywantsfromtheyear2filings

ThinkaboutexpandingtheRollof PUDsfromYeartoYear
RollforwardofPUDreservesbyPV10valueandnumberoflocations frombeginningofyeartoendofyear PUDbalanceatDecember31,2009 Increase(Decrease)inlocationsduetodrilling Increase(Decrease)inlocationsduetoacquisitions/divestitures Increase(Decrease)inlocationsduetopricechanges Increase(Decrease)inlocationsduetotechnicalrevisions Increase(Decrease)invalueduetopricerevisions Increase(Decrease)invalueduetotechnicalrevisions ValueofPUDlocationsconvertedtoPDPorPDNP EndingPUDbalanceatDecember31,2010

Questions
Doesitmakesensetohavepositivevolume extensionsandnegativedollarextensions(says theprojectisfeasibleatlessthana10%discount factor)? Isitreasonabletoexpecttobewithin10%onthis reconciliation? Whatelseshouldwereallybelookingattodo thisreservereconciliation? Wherecantheaccountantsimprovetheir communicationtotheengineers?

AdditionalQuestions,WrapUpand Evaluations