The International Accounting Standards Board (IASB) recently released an exposure draft of the small and medium sized entities version of IFRS. Will you be required to adopt these standards? The simple answer is we don’t know at this point. Here are some things to consider as we wait to see:

• Do you account for oil and gas properties under the full cost method?  You may not be allowed to under IFRS.
• Is your accounting staff sufficient to understand the changes and the impact on your business, and if not, how do I accomplish this? You may be able to hire an accounting firm to consult and evaluate your current accounting compared to IFRS.
• When will this possible conversion be required? By most reports, the switch to IFRS could be as early as 2013.

International standards would have a significant affect particularly on oil and gas companies. Read the rest of this entry »

Just a couple of months ago, with oil prices above $140 and gas prices above $4 a gallon, energy independence was one of the hottest topics in Washington and in the news. After the historic drop in energy prices over the last several weeks, where have all the headlines gone? We may not be talking about energy independence these days, but lower prices certainly haven’t resolved the issue.

In a recent opinion piece in the Fort Wort Star-Telegram,  Senator John Cornyn said that energy should continue to be a focus of the 111th Congress:

While lower gas prices should have given us the chance to catch our breath and redouble our efforts to develop a comprehensive energy plan, instead it signaled an ill-timed break in discussion on one of the most important issues of our day.

According to a recent American Petroleum Institute report, it’s estimated that the United States has undiscovered technically recoverable resources, including onshore and offshore reserves, totalling 116 billion barrels of oil and 650 trillion cubic feet of natural gas.

Accessing those reserves may not solve all of our energy needs, but as our demand for energy continues to grow, where will the supply we need come from?  And more importantly, how much will it cost us?

The Modernization of Oil and Gas Reporting, which was released on December 31, 2008 by the SEC, updates the full cost accounting and reserve reporting rules for public oil and gas companies.  The new reporting standards are intended to provide investors with more meaningful and comparable information to help them evaluate the value of oil and gas companies.

One of the new requirements is the use of a 12-month average price in estimating reserves and for full cost accounting purposes, except where prices are defined by contractual agreement. The average is calculated as the unweighted average of the price on the first day of each month within the 12-month reporting period.

Other changes relate to the definitions of proved, developed, and undeveloped reserves, as well as the disclosure of probable and possible reserves, as defined.

Public companies must adopt the new reporting requirements for fiscal years ending on or after December 31, 2009. For private companies, the SEC has stated its intention to coordinate with the FASB align their accounting standards with the new public company rules. As a result, early adoption is not permitted to allow time for the FASB to make the appropriate revisions.

I got to attend the Shale Resource Workshop hosted by the TCU Energy Institute in January. Over the two-day workshop, several of the speakers offered advice for operating in a down market:

1. Plan for setbacks.  The poorest results in a development program are likely to occur in the initial wells.
2. Continuously invest in good science and R&D. Especially in a down market.
3. Don’t manage costs by cutting corners in your drilling budget. Accounting and cost considerations shouldn’t drive your drilling program.
4. Risk. Don’t spend capital, invest it.

Richard Moorman, who is the Manager of Strategic Analysis for the Economics, Planning, and Acquisitions Division of Southwestern Energy Company, closed the conference by saying, “Think long-term.  Don’t give up too early.”

Great advice in an uncertain market.

In October of this year, President Bush signed the Emergency Economic Stabilization Act of 2008.  There are three divisions, the second division, Division B, is the Energy Improvement and Extension Act.

For the oil and gas industry, the 50% bonus depreciation election was extended for costs incurred when expanding a refinery’s capacity. 

The new act extends the suspension of the taxable income limit on percentage depletion for oil and natural gas produced from marginal properties for any taxable year (i)beginning after December 31, 1997 and before January 1,2008 or (ii) beginning after December 31, 2008 and before January 1, 2010.    Go ahead, read those dates again…they are a bit confusing.  This means the suspension applies to 2009, but not to 2008!  In the past, a well producing at a marginal rate could not take percentage depletion,  but for 2008 and 2008 only, it can. 

Under the new law, section 199 domestic production activities deductions are capped to 6% in tax years beginning after December 31, 2009, while the allowable deduction for other types of qualifying income will increase from 6% to 9%.  This limit applies to “oil-related qualified production activities income (QPAI)”, which includes income from the production, refining, processing and transportation or distribution of oil and gas.  This cap is expected to raise  $4.9 billion over the next 10 years.

 Beginning in 2009, the act tightens the rules for oil and gas companies to pay taxes on overseas income.  It extends the special foreign tax credit limitation for taxes attributable to income defined as foreign oil and gas extraction income (FOGEI) to income defined as foreign oil-related income (FORI).  It now includes certain transportation and refining activities that were not previously included.  This provision is expected to raise $2.2 over the next 10 years.

As the economy continues to be volatile, I am sure the government will implement more new laws in response, and we must continue to keep a lookout for those that affect the industry we work in!

We got the following question from one of our clients: “Is there any benefit to switching from full cost to successful efforts?”

Under successful efforts accounting, a company only capitalizes exploration, acquisition, and development costs that directly result in proved reserves. Exploration costs and costs of unsuccessful projects are expensed as incurred.

Full Cost accounting requires a company to capitalize all costs related to the exploration, acquisition, and development of oil and gas reserves. The full cost method allows a company to capitalize these expenditures into a cost center and amortize those costs as the reserves are produced. A “ceiling” is established for these costs centers to ensure that these costs are recoverable through production. Because the primary component of the ceiling calculation is discounted future net revenues at year-end prices, impairment expenses will increase as oil and gas prices decrease.

Full cost accounting results in much larger cost centers, therefore DD&A and impairment expenses will be greater than for companies that utilize the successful efforts method. However, successful efforts companies will record significant exploration expenses as these costs are incurred.

Changing from one method to another would be a change in accounting principle and require a restatement of the prior year financial statements, which becomes more and more difficult the longer a company has owned its properties.  A conversion would require a substantial amount of resources, especially from full cost to successful efforts because of the detail involved. A change of this type should be carefully considered in light of the facts and circumstances specific to your company.