Offshore Oil Industry Gets Breaks From Washington

Interior Secretary Ken Salazar (center) and other Interior officials testifies on Capitol Hill. i i

Interior Secretary Ken Salazar (center) and other Interior officials testify before the Senate Energy and Natural Resources Committee Wednesday. The Department of Interior oversees the federal Minerals Management Service, which the Obama administration is likely to break up into three new, independent units: one for planning, one for safety enforcement, and one for revenue management. Chip Somodevilla/Getty Images hide caption

itoggle caption Chip Somodevilla/Getty Images
Interior Secretary Ken Salazar (center) and other Interior officials testifies on Capitol Hill.

Interior Secretary Ken Salazar (center) and other Interior officials testify before the Senate Energy and Natural Resources Committee Wednesday. The Department of Interior oversees the federal Minerals Management Service, which the Obama administration is likely to break up into three new, independent units: one for planning, one for safety enforcement, and one for revenue management.

Chip Somodevilla/Getty Images

The federal Minerals Management Service, already under fire for its failure to enforce safety and environmental rules in the offshore oil industry, likes to emphasize its importance as the government's collector of revenues from oil production on federal lands.

But as with its enforcement mission, the MMS record on royalties and leases is one of deference to the industry.

The agency received about $264 million from offshore oil and gas production in fiscal year 2009. The funds came mainly from leases on the underwater, 3-by-3-mile blocks, and from royalties on the oil and gas. A small percentage came from rental fees paid by companies during exploration and development of a leased tract.

In 2007, the Government Accountability Office found that America sells its oil and gas too cheaply. The government gets a return of 41 to 49 percent, GAO said, citing two reports from industry consultants. Other countries with major offshore reserves charged much more; Norway, for example, gets a return of 75 percent or more.

Industry Breaks From Washington

The industry says that analysis is defective. Erik Milito, group director for upstream and industry operations at the American Petroleum Institute, defends the system.

"It seems like it's a pretty good system for balancing the encouragement of domestic oil and natural gas development with making sure the taxpayer gets the fair value," he says. "Anytime you make tweaks, you're going to have changes in investment decisions."

But the past 30 years show the offshore oil industry winning a long series of breaks from Washington — breaks that were engineered by Congress, the White House and MMS.

In 1983, the laws of supply and demand were upset when the Reagan administration opened most of the Gulf of Mexico for exploration. Interior Secretary James Watt ordered the department to start auctioning off millions of acres at a time.

With so much acreage on the market, competition dwindled. Leases often draw just a single bidder. As recently as the March 2010 lease sale — the most recent one and, owing to the Gulf oil spill, possibly the last auction for some time — MMS put up 468 tracts and got 642 bids. Just six sites drew as many as three bidders.

"We're leasing nine times as many acres as we were, and we're still getting fewer dollars than we got before," says William Freudenburg, a former scientific adviser to MMS who coauthored a study of lease prices in 2009.

The study shows that before the 1983 changes, the price per acre averaged more than $2,200; after 1983, the average was $263. It's a decline of 88 percent. Freudenburg says one problem involves knowing what a lease might be worth. The oil companies have the resources to find out. MMS does not.

"The people who represent us, the people, pretty much are flying blind," Freudenburg says.

Two Sets Of Books

MMS also appears to have been flying blind on royalty issues. In the 1990s, investigators found that companies were essentially keeping two sets of books: a real one, and one to show MMS.

Danielle Brian, director of the Project on Government Oversight, said that watchdog group's investigation found that companies "would tell the government one thing, in what they owed in royalties, but then when they were talking to each other, within industry, they were acknowledging actually what they owed was much more."

When the accounting discrepancies became an issue, the industry proposed a fix. It could pay MMS in oil and gas — "royalties in kind" — rather than dollars. The idea won support in Congress. MMS initially opposed it. But after a consultant gave his approval to royalties in kind, MMS adopted it. A few years later, it was collecting most royalties in kind, not in cash.

The consultant who promoted royalties in kind had, a few years earlier, been advocating the idea for the oil industry.

The royalties-in-kind program put MMS in the oil and gas business, as employees began selling the agency's take back to the companies that had extracted it from the federal lands. The office was fraught with problems and lacked oversight. In 2008, investigators found that MMS employees were sharing drugs and having sex with company representatives, and the Obama administration is closing the program.

A Royalty Check From BP?

But reverting to royalties in dollars is difficult, because MMS has cut the number of auditors who would monitor those transactions.

MMS has a government watchdog: the inspector general for the Department of the Interior. IG investigators spent three years looking at oil and gas royalties.

In March 2009, acting inspector general Mary Kendall told the House Natural Resources Committee, "We found that DOI is at risk of losing millions of dollars in royalties. The existing process is heavily reliant upon companies doing the right thing."

Milito of the petroleum institute says the companies want MMS to function properly.

"The MMS needs to be out there enforcing the regulations and everything has to be transparent," he says. "The industry wants certainty, consistency, transparency."

The Obama administration hopes to find those attributes in three new, independent units that would replace MMS: one for planning, one for safety enforcement, and one for revenue management.

But before Congress is likely to act on breaking up MMS, the agency may get a bizarre new assignment. The Federal Oil and Gas Royalty Management Act says the government is entitled to royalties on oil and gas from federal lands, even if it's "lost or wasted" because of negligence or violations of the law.

So it's possible that MMS will find itself trying to estimate the number of barrels spilled, and then going after BP for a royalty check.

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