BSEE and BOEM Pull Primary Fiscal Lever to Spur Shelf Activity

On November 19, 2019, the Bureau of Safety and Environmental Enforcement (“BSEE”) and the Bureau of Ocean Energy Management (“BOEM”) issued a joint report advising that oil and gas companies shall have additional opportunities to obtain royalty relief on new wells drilled in depths of less than 200 meters (the “Shelf”) on the Outer Continental Shelf.

Shallow water drilling on the Shelf accounts for one-third of the total amount of natural gas produced in the Gulf of Mexico. Unfortunately, Shelf activity has been in a steady decline over the past 20 years, with the number of wells on the Shelf decreasing by 89% over the past ten years. The report outlines the factors contributing to the significant decline in Shelf activity, particularly noting low commodity prices and decreased profit margins compared to inland and deep water activities.

BSEE and BOEM also recognize that the Shelf is a mature oil and natural gas basin with limited remaining opportunities; consequently, reliance on existing facilities is crucial to spawning new activities on the Shelf. Despite this necessity, approximately 100 platforms were dismantled last year without any new facilities being installed. BSEE and BOEM warn that without continued development on the Shelf, approximately 179 million barrels of oil and 4,567 billion cubic feet of natural gas, collectively worth approximately $20 billion, are at risk of being undeveloped by the continued removal of this infrastructure.

Currently, the majority of Gulf of Mexico Shelf leases have a 16.67% royalty rate, with limited royalty relief available, capped at 15%, and leases granted in the recent lease sale covering the Shelf have a royalty rate of 12.5%.  In order to further encourage offshore activity on the Shelf and the use of the existing facilities, BSEE and BOEM recommend using an updated discount rate for new wells and production in the region. While eligibility will be determined on a case by case basis, the reported “average-size” lease could see a royalty rate drop to 8%. This relief should offset low commodity prices by positively affecting profit margins, which in turn should attract interest in new Shelf activity. This measure has the potential to stave off abandoning approximately $20 billion in oil and gas reserves on the Shelf, and yield approximately $1.7 million to $2 million in economic activity (including state and local taxes) for every million-dollar investment in shallow water.

This new royalty relief will only apply to production obtained from new wells; however, this relief will be available to existing leases, not just new leases.  Also applications for relief will now be considered on a project basis, instead of a lease basis.  The Gulf of Mexico regional office plans to have a seminar in New Orleans or Houston early next year to discuss its reports and approach for implementing royalty relief for new Shelf wells.

BSEE and BOEM prepared a separate report in conjunction with the one discussed above, which proposes reallocation of royalties to the Coastal states (Attachment 2 to the full report).  The recommendations reflected in the reports establish an omnibus effort to address the anemic oil and gas landscape, as well as other economic issues affecting Louisiana. Only time will tell if, and to what extent, these proposed measures will incentivize Shelf activity.

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