MMS proposes gas valuations changes; avoids overhaul

The US Department of the Interior's Minerals Management Service is giving industry and other interested stakeholders until Sept. 21 to offer comments on what industry officials call a "modest" plan to update gas valuation rules.

As producers anticipated, the plan does not make wholesale changes; rather, MMS says it wants to tweak the rules to provide more clarity to leaseholders, especially on what transportation costs from the lease can and cannot be deducted.

The MMS plan also is designed to conform with recent royalty court decisions (OGJ Online, May 7, 2004).

MMS held a series of public workshops during April-May 2003 to gather feedback on possible revisions to the 16-year-old rule following various court rulings.

An American Petroleum Institute official said the group was still in the process of evaluating the July 23 MMS proposal.

But the trade association's preliminary take on the draft rules are that they are a "reasonable, appropriate change" that helps give industry better guidance on royalty deductions.

For now, MMS opted not to tackle major valuation issues such as whether or not the agency should begin using spot market index prices or New York Mercantile Exchange prices to value gas not sold under arm's length contracts. It also largely avoided considering what to do about the treatment of affiliate resales and joint operating agreements for royalty collection purposes. The agency, in its Federal Register notice, however, invites stakeholders to comment on these issues.

API said it did not object to MMS avoiding benchmarking issues; the group said the existing system always worked better than its oil counterpart.

The oil valuation rule since has been updated to reflect market pricing instead of company posted prices although industry had major issues until very recently with the way MMS updated that rule.

In its latest action, MMS in May acceded to industry requests and switched from an index spot price benchmark to a valuation based on the NYMEX price for oil sold between two related parties (nonarm's length contracts).

Industry officials are also hoping that the agency in the not too distant future dramatically will expand the use of royalty-in-kind (RIK) payments; under that program companies give the government a portion of their actual production to fulfill royalty obligations instead of basing a cash payment on a benchmarking system they have disputes with.

Proposed changes

MMS proposes changes to rates of return, transportation allowances, and tariffs.

Over the objections of some oil and gas producing states, MMS wants to increase the rate of return on nonarms length transportation arrangements from 1 times the Standard and Poor's BBB Industrial Bond rate to 1.3 times that rate "to better reflect industry's actual weighted average cost of capital" consistent with the May federal oil rule amendments.

MMS also wishes to revise the definition of "transportation allowance" in the gas rule to conform to the definition found in other federal regulations. Similarly, it wants to eliminate the 1988 grandfather clause for pre-1988 allowance approvals.

Additionally, MMS wants its final rule to comply with the Washington, DC, Circuit Court decision in Independent Petroleum Association of America v. DeWitt specifying that unused firm demand costs are an allowable deduction.

With regard to arm's length transportation contracts, MMS wants to let producers deduct from their royalty burden the costs of securing a letter of credit that a pipeline requires a shipper to maintain.

The agency also does not want to allow fees to brokers to be deductible nor fees paid to scheduling service providers and internal costs.

On tariffs approved by the US Federal Energy Regulatory Commission used in nonarm's length transportation situations, regulators want to simplify and revise the conditions under which a lessee may request an exemption from calculating nonarm's length transportation costs.

MMS also plans to modify the definition of "arm's length contract" and add a definition of the term "affiliate" to be consistent with its oil rule and to comply with court decisions carried out most recently through the DC Circuit Court's holding in National Mining Association v. DOI.