A very important issue just emerged in the oil and gas world. Driven by an investigation from some of the biggest prosecutors in America.
Looking at how the world’s largest E&Ps value their in-ground oil and gas reserves.
The Wall Street Journal broke the story yesterday that the U.S. Securities and Exchange Commission (SEC) is investigating Exxon’s reporting practices around reserves. Specifically asking the question: why did the value of the major’s reserves not fall when oil prices collapsed two years ago?
News about the SEC investigation comes just a few days after Bloomberg reported that New York Attorney General Eric Schneiderman was also investigating Exxon’s reserves valuation methods. With both probes coming as part of a larger inquiry into whether Exxon misled investors about the impact that climate change legislation might have on its business.
These investigations have actually been in progress since last year. But up until now indications were that regulators and prosecutors were focusing on how climate change might affect Exxon’s business.
This week’s news is the first time investigators have mentioned looking at reserves values. With “familiar persons” saying that reserves have now become a central part of both the SEC and the Attorney General’s fact-finding.
Exxon’s practices around reserves valuation are certainly unusual. With the company being the only major that didn’t take a write-down on its reserves after oil fell from over $100 in mid-2014 to below $30 earlier this year.
The issue actually goes to the heart of some tricky problems around reserves accounting. After all, most of today’s in-ground reserves will be produced at some time in the future — maybe a month from now, or a year out, or even a decade away.
Does it really make sense then to apply today’s oil price when assessing the value of oil and gas holdings? Firms like Exxon argue that it doesn’t — with managers preferring to use forecasts on forward pricing to draw conclusions about reserves value (the futures curve on West Texas Intermediate crude, for example, is back above $55/bbl by 2021 right now).
The bottom line is, it’s very hard to definitively nail down the net present value of a long-life asset like an oil field. And yet we live in an age where investors and regulators want hard metrics — which may mean Exxon is going to get rapped on the knuckles.
If so, we could see some big changes in reserves valuation standards — and perhaps some write-downs (or maybe value increases?) coming as a result. Watch for more news on exactly how the SEC will rule.
Here’s to grading the curve.
By Dave Forest
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