Omitted Gas-Lease Provisions Could Cost U.S. Billions

WASHINGTON, Mar 2, 2006 (Dow Jones Commodities News Select via Comtex)

An apparent drafting error resulted in the omission of provisions from federal offshore oil and gas leases signed in 1998 and 1999 that could cost the government billions of dollars in lost royalties in coming decades, lawmakers learned Wednesday.

At issue are leases drafted after Congress passed a law that was designed to reduce royalty payments during periods of low energy prices to provide an incentive for more production and exploration in the Gulf of Mexico. The law, which went into effect in 1996, also required the government to set thresholds that would boost royalty payments if energy prices were to rise.

But around 1,100 leases signed in 1998 and 1999 don't include those price thresholds.

"It looks like the price-threshold language was dropped out" when revisions were made to addendums that accompanied the basic lease document," Walter Cruickshank, deputy director of the Interior Department's Minerals Management Service, told a House subcommittee.

Cruickshank also said he's found no indication that the change was authorized by a federal official. "What I've concluded is that there was no affirmative decision [by government officials] to take price thresholds out."

He added that he has been unable to piece together an exact trail that pinpoints when the change was made to key addendums to the lease agreements -- a job Cruickshank said has been complicated by staff turnover in the years since the changes took place.

The Interior Department's deputy director testified before the energy-resources subcommittee of the House Government Reform Committee.

Lawmakers already were aware that the thresholds had been omitted from some leases. But Cruickshank's testimony did little to calm committee members.

The subcommittee chairman, Rep. Darrell Issa, R-Calif., said that the potential ramifications of the mistake warranted an in-depth probe by the Justice Department.

"This is a $7 billion word-processing error," Issa told reporters following the hearing.

Cruickshank said that it wasn't clear the total cost of the error would approach $7 billion. That figure expects high prices for natural gas and oil over the lifetime of the leases.

But the omission has so far cost the federal government several hundred million dollars in lost royalties, he estimated.

Issa said he was unconvinced that the drafting error occurred by accident, but would await a deeper probe by the committee and other authorities before drawing conclusions.

"This is too big of a dollar figure to just say, 'Oh well,'" said Issa, who praised Cruickshank and the MMS for their cooperation with the panel's investigation.

Meanwhile, several of the firms that lawmakers say have reaped a windfall through the omission of the price thresholds are also taking legal action in a bid to get out of paying higher royalties for other leases signed between 1996 and 2000. They argue that the Interior Department didn't have authority to establish any price thresholds during that period.

If the legal challenge is upheld, foregone royalties from leases signed between 1996 and 2000 could total as much as $28 billion, according to government estimates.

"This is particularly troublesome at a time when natural-gas companies are continuing to post record earnings," Issa said.

Cruickshank's testimony also took issue with a New York Times story earlier this year that concluded a number of discrepancies had resulted in a $700 million underpayment of natural-gas royalties in fiscal 2005 alone.

The Times' analysis made mistaken assumptions about 2005 royalty revenues, according to Cruickshank.

He acknowledged that reported natural-gas royalty revenues in 2005 had fallen by around $1.3 billion since 2001 despite significantly higher natural-gas prices. But the decline is explained in large part by shifts in production, Cruickshank added.

For instance, lower natural-gas sales volume from federal leases accounts for around $884 million of the decline, according to MMS calculations. A shift in production from shallow offshore sites, which carry higher royalties, to deepwater sites reduced revenues by around $137 million, Cruickshank said. Deepwater royalty relief accounted for around $193 million of the decline.

(C) 2006 FWN Select. All Rights Reserved

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