Revenues from Phases of an Oil and Gas Project
In terms of government revenue, there are significant differences between the pre-production (exploration, appraisal, and development), production, and decommissioning phases.
The Pre-production Phases
Revenues from the pre-production phases come from the lease and licensing fees paid by the oil and gas companies for the right to conduct exploration and development activities in specific areas, on land or at sea. These revenues vary by jurisdiction based on how licences are allocated (whether through auctions or an application process), the resource potential of each region, and general economic circumstances.
Revenues may also be derived from penalties (or “cash in lieu”) imposed on leaseholders when they fail to comply with regulations that require them to carry a minimum amount of exploration work every year on their allocated lands. These penalties are relatively small for each hectare or acre of land, but can add up if the lease covers large territories.
The Production Phase
It is during the production phase that leaseholders can finally realize a profit on their investment. It is also during this phase that governments can receive large sums of money through royalty payments. The general trends in leaseholder’s revenues and expenditures over the life cycle of a typical oil and gas project are presented in Figure 4.
The production period usually lasts from 10 to 30 years from first oil to abandonment, but can be as long as 50 years for the largest fields. Over that time, production may vary depending on available reserves, the number of active wells, market prices, and other factors.
Figure 4
Leaseholder Revenues and Expenditures over the Life Cycle of a Typical Oil and Gas Extraction Project
(From an Industry Perspective)
Source: Modified from F. Aliyeva (2011), Introduction to the Oil & Gas Industry.
The Decommissioning Phase
When an oil well or a gas well is no longer profitable or productive, it needs to be decommissioned. Closing a site involves plugging the well, removing all structures and equipment, and returning the site to its natural condition or to a condition that meets regulatory standards. Soil decontamination may be required and, in some circumstances, ongoing monitoring and site maintenance may be needed over many years or in perpetuity.
Decommissioning oil and gas wells is a significant expenditure for leaseholders. It is also a significant risk for governments. Should a company not meet its obligation to remediate a site, government could inherit responsibility for new, unfunded liabilities arising from the abandoned site. This has happened in the past and there are now thousands of abandoned wells across oil-producing areas in Canada, the United States of America, and many other countries. To prevent this situation from happening again, many governments have put laws and regulations in place to mandate mechanisms, such as financial assurances and remediation funds, that are expected to minimize the risk that taxpayers will become liable for the remediation of more abandoned sites.
The decommissioning phase is therefore not a revenue-generating phase for governments, but rather a liability-management phase. As such, it differs from the exploration and production phases. For this reason, the Audit Methodology part of this Practice Guide is divided in two main areas. The first area is concerned with revenues derived from the exploration and production phases, while the second is focused on the financial assurance systems that governments have put in place to manage liabilities for the remediation of oil and gas extraction sites.
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