Environmental Liability Considerations in the Valuation and Appraisal of Producing Oil and Gas Properties

Abstract

Summary Purchasing producing oil and gas properties without consideration of the potential environmental liabilities attendant to ownership and operation is a trap for the unwary. Changes in the law governing injection operations, toxic waste, and groundwater contamination are increasing dramatically the level of monitoring and reporting activities in the oil industry. The potential liability to restore and clean up damages caused by past operating practices exists. In the past, valuing petroleum properties has been done with little consideration of these regulatory aspects. Three cases are presented that involve parts of real problems to demonstrate the regulatory impact on operation and development of petroleum properties. Those who purchase or appraise producing properties should apprise themselves of potential new business Costs and ensure that economic projections reflect the change. When appraising engineers lack the expertise to evaluate or are directed by the client to ignore these aspects, engineering reports should disclose that these aspects have not been analyzed. Introduction Engineers, sellers, purchasers, and energy lenders should become familiar with the terms Superfund Amendment and Reauthorization Act (SARA), Resource Conservation and Recovery Act (RCRA), Underground Injection Control (UIC), and Underground Source of Drinking Water (USDW). Petroleum property purchasers or appraisers must develop some awareness of the rapidly changing regulatory climate and how regulatory programs affect development projects and their economics. Compliance Audits and Site Inspections A Potential Cure for Financial Woes Regulation under SARA has set the precedent for the assumption of a previous owner's environmental liability through the purchase of real estate. Properties of relatively small value are burdened with enormous cleanup costs. Because these costs could easily exceed a small company's net worth, environmental liabilities are a financial burden to be avoided. Although the oil and gas industry has been exempted from regulation under hazardous-waste programs, it is not protected from problems under a variety of local, state, and federal regulations. Purchasers should investigate the compliance and site conditions to protect themselves from the unnecessary assumption of the seller's troubles, a problem that may not be effectively immunized by contract language alone. Areas of Concern to Petroleum Valuation Engineers Compliance with existing regulations is a problem of national scope. The greatest impact, however, is in the older producing areas, where drilling activity predates regulation, particularly in the Appalachian basin, Illinois basin, parts of the Michigan basin, and the eastern portions of Texas, Oklahoma, and Kansas. Compliance problems have a major impact on the value of property. Petroleum engineers should be careful in providing clients with reserve and valuation studies where environmental problems are ignored. Three areas viewed as major concerns aregroundwater contamination from production and injection wells or pits,the inability to make property improvements because of construction requirements and regulatory constraints, andfailure to comply with existing construction or facilities regulations and to conduct monitoring and reporting programs.