I United States General Accounting Office . Report to the Chairman, Committee on Energy and Natural Resources, U.S. Senate August 1990 MINERAL REVENUES Progress Has Been Slow in Verifying Offshore Oil and, Gas Production --- - GAO/RCED-90- 193 . .. : United States GAO General Account@ Office Washington, D.C. 20644 Resources, Community, and Economic Development Division B-238152 August 31, 1990 The Honorable J. Bennett Johnston Chairman, Committee on Energy and Natural Resources United States Senate Dear Mr. Chairman: This report responds to your request that we review the Department of the Interior’s actions to (1) verify the accuracy of reported offshore oil1 and gas production and (2) annually inspect certain offshore lease sites. The Federal Oil and Gas Royalty Management Act of 1982 (KJGRMA)(30 U.S.C. 1701 et seq.) requires Interior to establish a comprehensive system, including annual inspections of certain lease sites, to determine oil and gas royalties. The federal government receives royalties from offshore oil and gas leases on the basis of the volume and price of the oil and gas production sold and the royalty rate. Therefore, it is essential that these elements be verified and that inspections be conducted to help ensure accurate determination of oil and gas royalties.2 Seven years after passage of FWRMA, Interior does not have a fully oper- Results in Brief ational program for verifying that all oil and gas production is accu- rately reported for royalty determination purposes. However, its Minerals Management Service (MMS)recently initiated two programs intended to verify the accuracy of reported oil and gas production. Although neither program is fully implemented, results for the fit 6 months indicate that the volume of oil produced, for the most part, has been accurately reported. Preliminary results of the pilot gas production verification program found minor volume discrepancies. Although FW~RMA requires annual inspections of lease sites that have significant production or a history of noncompliance with applicable laws or regulations, MMShas not defined the terms and consequently has not determined which lease sites are subject to this inspection mandate. ‘For purposes of this report, we use the tern “oil” to represent the liquid hy dmcarbon substances of oil and condensate. *For information on onshore production verification, see Mineral Revenues:Shortcomings in Onshore Federal Oil and Gas production Verification (GAO/R-W, June 26,199O). P8ge 1 GAO/ECED8@193 Itfinerd Revenuea 5238152 While in 1989 MMS inspected over 98 percent of the locations where oil is measured, it inspected only about one-third of the meters where gas is measured. Because M M Shas not determined which lease sites have sig- nificant production or a history of noncompliance and it maintains records by measurement point rather than lease site (a lease site may or may not have a measurement point), it has not demonstrated that it is meeting the FDGRMA inspection mandate. MMS, through its four regional offices and its Royalty Management Pro- Background gram in Lakewood, Colorado, is responsible for managing federal off- shore oil and gas operations, including exploration, production, inspections, and revenue collection. From 1982 through 1989, reported production from federal offshore leases was 2.8 billion barrels of oil, valued at $64.7 billion, and 34.1 trillion cubic feet of gas, valued at $80.9 billion, This reported production earned the federal government $23.8 billion in royalties. Only M M SGulf ’ of Mexico and Pacific regions have producing offshore leases. In 1989 production in the Gulf region accounted for 91 percent of oil royalties and 99 percent of gas royalties, while the Pacific region accounted for the remaining royalties. Gas royalties represent an increasing share of royalties from offshore production, rising from 54 percent in 1982 to 61 percent in 1989. The amount of royalty is determined on the basis of the volume and price of oil and gas sold and the applicable royalty rate. For royalty pur- poses, the volume of oil and gas produced is measured by one or more meters at MMs-approvedfacility measurement points (FM%),usually located at an offshore lease site. A single FMPcan serve one or many leases. As of December 31, 1989, M M SGulf ’ of Mexico region had 386 oil FMPSand 1,074 gas F’MPS. The Pacific region had 10 oil FMPSand 9 gas FMPS. Run tickets are used to record the volume of oil that passes through a meter. Gas production is generally recorded on charts that graphically record temperature and pressure readings which are used to calculate the volume that passes through a meter. Each day’s gas pro- duction is summarized on a gas volume statement. M M Sregulations require that oil meters be tested (proven) monthly and gas meters be tested (calibrated) at least every 46 days to ensure the Page 2 GAo,%CElNWl93 Mineral Revenues B238162 accuracy of the meters used to measure production.3 The lease operator is responsible for testing the oil and gas meters. This testing is per- formed by the operator, the transmission pipeline company, or a third Party* MMS regulations require offshore lease operators to submit oil run tickets and meter-proving reports to the appropriate MMS regional office. The run tickets and meter-proving reports are used to arrive at net volume-the volume on which royalties are determined Offshore gas lease operators are not required to submit similar documents to regional offices, but must retain calibration reports. In addition, operators submit montNy oil and gas production reports to the Royalty Management Program which identify the production volume and disposition (e.g., sales, storage) of the oil and gas. These reports are input to M M S Production Accounting and Auditing System (PAAS). Not all production is subject to royalties. For example, in some cases, gas can legally be flared (burned off) without payment of royalties. Royalty payors submit monthly sales and royalty data to the Royalty Manage ment Program which are input to M M SAuditing ’ and Financial System (AFS).M M Suses these automated systems to compare reported produc- tion sold with reported sales volume to identify potential royalty underpayment. This comparison does not verify production sold; the same correct or incorrect number can be reported to both systems. In January 1982 the Commission on Fiscal Accountability of the Nation’s Energy Resources (the Linowes Commission) reported that effective internal controls for the management of oil and gas royalties must include verification of production, sales, and royalties reported by companies. To verify production, the Commission recommended that federal royalty managers periodically obtain run tickets and other data on a sample basis and use them to cross-check production reports. In January 1983 the Congress passed FDGRMA, which requires that Inte- rior establish a comprehensive inspection, collection and fiscal and pro- duction accounting and auditing system to accurately determine oil and gas royalties. M M Sstated that part of its comprehensive system consists of verifying reported offshore oil and gas production and conducting When an oil meter is proven, a meter factor is d&ennined that shows the relationship between the true volume of oil passing through a meter and the volume indicated by the meter. The meter factor is used to mathematically adjust the production indicated by the meter. When calibrating a gas meter, a che&ismadet.oassurethattheprernnuP andtemperatwerecordingdeviceaarerecord@ accurately. P8ge 3 GAO/?WEMWl93 Mineral Revenoen EM38152 production measurement and site security inspections. Although FDGRMA does not specifically require that Interior establish a production verifi- cation program, the act did, according to the MMS Director, provide “more urgency” to establishing a viable production verification program to ensure proper reporting of production volumes to PAAS. In addition, FOGRMA requires annual inspections of each lease site that (1) produces or is expected to produce significant quantities of oil or gas in any one year or (2) has a history of noncompliance with applicable laws or regulations. The MM.9 Director noted that, to comply with the FQGRMA mandate, MMS conducts inspections of oil and gas meter facilities to ensure meter accuracy and site security requirements. FDGRMA defines a lease site as the land identified in the lease contract. A producing lease may or may not have an mp-production from some leases flows to another location where it is measured, whereas production from other leases is measured at a meter on the lease site. MMS conducts production measurement and site security inspections at FMPS. The oil production measurement inspections involve such things as examining components of the sales meter facility and sampling devices and examining how meter factors are determined. The production mea- surement part of a gas inspection involves checking the calibration fre quency and flow rate of gas meters. The site security part of an inspection involves such items as examining seals that are placed on meters to preclude tampering and determining that no unapproved bypasses exist. MMS published regulations regarding site security for off- shore operations in April 1988. In March 1990, MMS published proposed regulations clarifying that site security applies to gas as well as oil pro- duction. MMSexpects to finalize these regulations by the end of 1990. Interior has been slow in implementing a program to verify offshore oil ProgressSlow in and gas production sold. In April 1984, we found that Interior had no Moving Toward assurance that oil produced from federal offshore leases was accurately Production measured for royalty determination purposes4 We recommended that MMSimplement plans for improved receipt and review of meter-proving Verification reports and match these reports with run tickets on a selective basis. We also recommended that after PAA~ and AFSbecame fully operational, MMS use the meter-proving and run ticket data in conjunction with PAAS to verify that reported sales volumes are accurate. ‘Improvements Needed in the De nt of the Interior’s Measurement of Offshore Oil for Royalty Purpose (GAO-78, Ap%984). Page 4 GAO/‘BCEMW192 Mined Revenues 5239162 In October 1984 the Director, MMS, established a task force to compare run ticket net volumes with reported sales volumes. The study covered 8 months of production for 22 FMPSin the Gulf of Mexico region and 9 months of production for 1 FMP in the Pacific region. The task force found that there were discrepancies between the net volume on the run tickets and what was reported to MMSas having been sold and that there was a net underreporting of sales volumes. In December 1984 the task force recommended that, to ensure accurate royalty payments, run tickets for every offshore oil meter be compared with sales reported to AESon a monthly basis. MMS’ Gulf of Mexico region conducted an extension of the 1984 study and looked at 111 oil FMPSfor a 6-month period in 1985. The study com- pared reported sales volumes with run ticket net volumes. The study noted that underreported and overreported production totaled almost 1.4 million barrels, about 2 percent of the total net volume shown on the run tickets reviewed. The June 1986 report summarizing the study rec- ommended that MMS develop an automated program, using run tickets, to verify volumes of oil on which royalty is due. This study served as the pilot for MMS’ current oil verification program. For the period January 1986 through March 1988, MMS' Pacific region manually calculated run ticket net volumes and compared them with production volumes reported to PAAS According to regional officials most volume differences were due to rounding when making various cal- culations or to operators’ bookkeeping errors. This effort was discon- tinued due to a staffing reassignment. In a 1987 audit report, Interior’s Office of Inspector General (IG) found that the MMSGulf of Mexico regional office had not verified the accuracy of oil production volumes reported by lease operators, and neither the Gulf nor the Pacific regional office had verified volumes of natural gas produced and sold. The IG recommended that MMS implement (1) an auto- mated process to verify oil production reported to PAAS and (2) a plan to randomly verify gas production reported to PAAS In January 1987 MMS established a task force to develop procedures for verifying gas produc- tion. In its April 1988 final report, the task force recommended that gas production verification efforts be concentrated on validating quantities and qualities reported to MMSas sales. P8ge5 GAO/RCEIMW193 Mineral Revenues E-238152 initiated two programs intended to verify production from offshore Programs Underway MMS leases-one for oil and one for gas. As of July 1, 1990, the automated oil to Verify Oil and Gas verification program included all FMPS in the Gulf region and none in the Production Pacific region due to computer problems. The gas verification pro- gram-a pilot program- is being conducted in the Gulf only. M M S plans to summarize the results of the gas program by October 1, 1990. Oil Verification The results of M M Soil ’ verification program in the Gulf for the first 6 months indicate that the volume of oil produced, for the most part, is being accurately reported. In the Gulf of Mexico regional office, MMS inputs run ticket and meter- proving report data to a computer to derive a run ticket net volume that is compared with monthly production reports. Differences in volumes are forwarded to the Royalty Management Program for resolution. The Gulf region’s first submission to the Royalty Management Program was in September 1989 with a review of May 1989 production data and included 37 FMPS. The program expanded to cover 303 FMPS beginning with October 1989 production data. As of July 1,1990, the Gulf included all FMPS. The first 6 months of production data that MMS reviewed (May-Oct. 1989) identified 90 volume discrepancies.5Preliminary results, according to M M Sofficials, indicate that these discrepancies were gener- ally the result of bookkeeping errors or late reporting of data. For example, M M Sfound that a company’s underreporting for one FMP was offset by the same company’s corresponding overreporting of produc- tion for another FMP.MMS believes that oniy three discrepancies resulted in actual underreported production and estimated that an additional $26,000 in royalties may be due. M M Sis in the process of working with the companies involved to resolve these discrepancies. M M SPacific ’ regional office initiated its automated oil verification pro- gram covering all 10 F+MPB with January 1989 production data. However, the low tolerance level established by the region-a difference of more than 10 barrels-made the automated system very sensitive to small differences. The region decided, as an interim measure, to manually cal- culate run ticket net volumes as it had done in the past and compare them with volumes on production reports. “A discrepancy in the Gulf of Mexico region is a difference of at least 1,000 barrels and 5 percent of the production reported. P8ge 6 GAO,fECED~193 Mineral Revenues B238152 Gas Verification MMS’ Gulf of Mexico regional office is conducting a pilot program to verify reported gas production. This program is being conducted on 48 FMPS(containing 106 of the Gulfs 1,814 gas meters) through which flow about one-third of Gulf gas production. Because MMSregulations do not require gas operators to submit produc- tion documentation to the regional offices, the Gulf regional office, in order to conduct the pilot gas verification program, requested data from operators. In April 1989 MMSrequested 6 months (Oct. 1988Mar. 1989) of production documentation, including gas volume statements, for the 48 FMPS. MMScompared the volumes on the gas volume statements with the production reports sent to the Royalty Management Program. Pre- liminary results of the pilot gas program have found minor volume discrepancies. FWRMArequires annual inspections of each lease site that produces or is MMS Needsto expected to produce significant quantities of oil or gas or has a history Determine Which of noncompliance with applicable laws or regulations. These phrases are LeaseSites Should Be not defined in the act, and MMShas not defined what constitutes signifi- cant production or a history of noncompliance. Although MMShas con- Inspected Under ducted inspections at some FMPSand/or meters, MMShas not FOGRMA demonstrated that it is meeting the FOGRMAinspection mandate. MMSmaintains inspection records by FWPand/or meter rather than lease site. An FWPcan measure the production coming from more than one lease site or it can measure production from a single lease site. During calendar year 1989, the MMS Gulf region inspected almost all of the oil FMPS(379 of 386). However, it inspected less than one-third of the gas meters (678 of 1,814)-eIn the Pacific region, MMSconducted production measurement and site security inspections at all 10 of the oil FWS and 8 of the 9 gas FMPS. According to MMSGulf regional officials, the region inspected gas meters only if they were co-located with oil meters. These gas meters were not necessarily those through which passed the greatest amounts of produc- tion or those which had a history of noncompliance. 6MM8 records indicate the number of gas meters inspected. Although MMS inspected 678 @S meters, some of these meters may have been inspected more than once. Hence the estimate that MM.‘3 inspected about onethird of the gas meters may be overstated. Page 7 GAO/ECEDS@l93 bfinerd Itevenues IS238152 Effective internal controls for the management of oil and gas royalties Conclusions must include verification of production volumes reported by companies. We believe that oil and gas verification serves as a deterrent to inaccu- rate reporting of production. In addition, such verification is needed before PAASdata can reliably be compared with AFS data. As currently used, this comparison does not verify production; the same correct or incorrect number can be reported to both systems. M M Shas begun two production verification programs-one for oil and one for gas. We believe the steps M M Sis taking regarding oil production verification-calculating net production volume from run tickets and meter-proving reports and comparing the results with operators’ monthly production reports-are appropriate. M M Sexpects to complete its pilot gas production verification program by October 1990. FQGRMA mandates that Interior annually inspect lease sites producing or expected to produce significant quantities of oil or gas or sites that have a history of noncompliance with laws or regulations. The M M S Director identified production measurement and site security inspections as those satisfying the FWRMA inspection mandate. MMS conducted such inspections at some, but not all, oil and gas F’M Pand/or S meters, concen- trating primarily on oil locations. Because gas royalties represent the largest and a growing share of roy- alties from offshore production, we believe that it is increasingly impor- tant for M M Sto perform production measurement and site security inspections at gas lease sites with significant production or a history of noncompliance. Further, because oil and gas lease sites with significant production or a history of noncompliance pose a greater potential roy- alty loss than other lease sites, it is important that MMS identify those lease sites so that appropriate priority can be given to ensuring that, as a minimum, those lease sites are inspected. This is especially important when resources are not sufficient to inspect all lease sites in a given year. Because of the need to ensure that the volume of oil and gas produced Recommendations from federal leases is accurately reported for purposes of determining royalties, we recommend that the Secretary of the Interior direct the Director, M M !~,to take the following actions: l Include the FMPSin the Pacific region in the automated oil verification program. Page 8 GAO/BcED~192 Minerd Revenues E238152 l Complete the gas verification pilot program and move quickly to imple- ment an ongoing pIWdUCtiOn verification program At a minimum, MMS should verify gas volumes for all high-producing leases and leases with a history of noncompliance, as well as randomly verify production from a sample of the remaining leases. l Define the terms “significant quantities of oil or gas” and “history of noncompliance” and ensure that lease sites meeting these criteria are annually inspected as required by IWRMA. We obtained information for this report from officials in MMSregional offices in New Orleans, Louisiana, and Los Angeles, California; in the MMSVentura, California, district office; in MMS’Royalty Management Program in Lakewood, Colorado; in the headquarters offices of MMSand the Office of the Solicitor in Washington, DC. We reviewed offshore pro- duction documents, inspection reports, and agency pilot studies and ana- lyzed computer statistics. In addition, we sent a letter of inquiry to MMS about its production verification and inspection responsibilities. After receiving the MMSresponse, we met with numerous MMS officials to clarify information in the response. We conducted our review from August 1989 through August 1990 in accordance with generally accepted government auditing standards. Our review did not address sales price and royalty rate which, together with production sold, is ver- ified through Interior’s royalty compliance audits. As requested, we did not obtain official agency comments on this report. However, we discussed the factual information in a draft of this report with MMSheadquarters officials. Although the MMSDirector noted in a March 16,1990, letter to us that MMSconducted production measure- ment and site security inspections to satisfy FKGRMA,the MMSheadquar- ters officials said that FQGRMA imposes no additional inspection requirements on MMS.These officials said that under the Outer Conti- nental Shelf Lands Act Amendments of 1978 (43 U.S.C. 1348) (OCSLAA), MMSis conducting annual inspections of all offshore facilities for safety and environmental purposes and that these inspections would also iden- tify gross site security violations. They believe that these inspections also satisfy the KIGRMAinspection mandate. According to these officials, it is not necessary for MMSto identify the lease sites with high produc- tion or a history of noncompliance because the safety and environ- mental inspections are conducted at all facilities. We believe that FYINXMAdoes impose additional inspection responsibili- ties on MMS.While we believe that production measurement and site P8ge 9 GAO/BCEBO&lBZ3 Mind Revenuea 8238162 security could be performed in conjunction with the annual safety and environmental inspections that are done to satisfy KSLAA requirements, the specific production measurement and site security inspection items identified by MMSare not covered in the annual safety and environ- mental inspections. Unless you publicly announce the contents of the report earlier, we plan no further distribution until 30 days from the date of this letter. At that time, we will send copies to interested parties and make copies available to others upon request. This work was performed under the direction of James Duffus III, Director, Natural Resources Management Issues, who can be reached at (202) 276-7766. Other major contributors to this report are listed in appendix I. Sincerely yours, J. Dexter Peach Assistant Comptroller General Page10 Page 11 GAO/BCED9@193 M ined Revenues Appendix I Major Contdbutors to This &port Robert W. Wilson, Assistant Director Resources, Rosellen McCarthy, Assignment Manager Community, and Ronald J. Johnson, Evaluator-in-Charge Economic Development Division, Washington, DC. Page 12 GAO/llCED~l93 Mineral Revenues (1402SS) . Ordering Information .-____ The first five copies of each GAO report are free. Additional copies are $2 each. Orders should be sent to the following address, accompanied by a check or money order made out to the Superintendent of Documents, when necessary. Orders for 100 or more copies to be mailed to a single address are discounted 25 percent. U.S. General Accounting Office P. 0. Box 6015 Gaithersburg, MD 20877 Orders may also be placed by calling (202) 275-6241. l United States First-Class Mail General Accounting Office Postage & Fees Paid Washington, D.C. 20548 GAO Permit No. GlOO Official Business Penalty for Private Use $300
Mineral Revenues: Progress Has Been Slow in Verifying Offshore Oil and Gas Production
Published by the Government Accountability Office on 1990-08-31.
Below is a raw (and likely hideous) rendition of the original report. (PDF)