Modernization of Oil and Gas Reporting Requirements

Goals  Provide investors with a more meaningful and comprehensive understanding of oil and gas reserves  Align disclosure requirements with current practices and changes in technology  See companies through eyes of management

Industry Input  Many changes and definitions are designed to be consistent with the Petroleum Resource Management System (PRMS) standards

Implementation  Required in registration statements filed on or after January 1, 2010 and annual reports for fiscal years ending on or after December 31, 2009  No early adoption is permitted  Prospective only; no retroactive revisions of past reserve estimates required

Reserves Generally  The estimated remaining quantities of oil and gas and related substances anticipated to be economically producible, as of a given date, by application of development projects to known accumulations

Reserves Generally (cont.)  There must exist, or there must be a reasonable expectation that there will exist, the legal right to produce or a revenue interest in the production, installed means of delivery to market and all permits and financing required to implement the project

Proved Reserves  Proved oil and gas reserves are those quantities of oil and gas, which: –by analysis of geoscience and engineering data –can be estimated with reasonable certainty to be economically producible –from a given date forward, from known reservoirs, and under existing economic conditions, operating methods and government regulations

Proved Reserves (cont.) –prior to the time at which contracts providing the right to operate expire (unless evidence indicates that renewal is reasonably certain) –regardless of whether deterministic or probabilistic methods are used for the estimation

12-Month Average  In determining “economically producibility” a company must use a 12-month average price  The unweighted arithmetic average of the first- day-of-the-month price for each month in the 12- month period prior to the end of the reporting period (unless prices are defined by contractual arrangements)

12-Month Average (cont.)  Reduces effects of short term volatility  Enhances comparability of disclosures  Reserve estimations target volumes, not fair value  SEC communicating with FASB and IASB to align accounting standards with new disclosure standards

Reasonable Certainty  Deterministic –“high degree of confidence” –“much more likely to be achieved than not”  Probabilistic – 90% probability that quantities recovered will meet estimate  Applies to all proved reserve calculations (rather than prior “certainty” standard for certain undeveloped reserves)

Developed and Undeveloped Reserves  Concept of “developed and undeveloped reserves” applies to all reportable reserve classifications, including the “probable” and “possible” classifications

Developed and Undeveloped Reserves (cont.)  Developed: –can be expected to be recovered through existing wells with existing equipment and operating methods –recovered through extraction technology installed and operational or –if the cost of required equipment is relatively minor compared to the cost of a new well

Developed and Undeveloped Reserves (cont.)  Undeveloped: –Reasonable certainty of development –5 – year development time frame, unless “specific” circumstances exist –use of techniques to establish undeveloped reserves that have been proven by production from projects in the same reservoir or an analogous reservoir – or “by other evidence using reliable technology that establishes reasonable certainty”

Reliable Technology  New definition broadens types of technologies that may be used to establish reserves  “Principles-based” definition

Reliable Technology (cont.)  Permits the use of technology (including computational methods) that has been field tested and has demonstrated consistency and repeatability in the formation being evaluated or in an analogous formation  Must include in disclosure a concise summary of technology used

Analogous Reservoir  Have similar rock and fluid properties, reservoir conditions (depth, temperature and pressure) and drive mechanisms  Same geological formation, environment of deposition and geological structure

Unproved Reserves  Prior to changes, only proved reserves could be reported  New rules allow voluntary reporting of “probable reserves” and “possible reserves”

Probable Reserves  “Those additional reserves that are less certain to be recovered than proved reserves, but which, in sum with proved reserves, are as likely as not be recovered”

Probable Reserves (cont.)  Deterministic: as likely as not that actual remaining quantities recovered will equal or exceed the sum of estimated proved plus probable reserves  Probabilistic: at least a 50% probability

Possible Reserves  Reserves that are less certain to be recovered than probable reserves

Possible Reserves (cont.)  Deterministic: the total quantities ultimately recovered from a project have a low probability to exceed the sum of proved, probable and possible estimates  Probabilistic: at least a 10% probability

Accounting Issues  FASB will make accounting standards consistent (departure from proposed rules)  Impact on “ceiling” test: –certain oil and gas extraction costs below the ceiling test are deferred or amortized over time –can cause write-down in income during period of rising prices or deferral of a write-down during period of declining prices

Application to Non-Traditional Resources  Shift in focus to final product, regardless of the extraction technology  Must be a material part of a reporting issuers business as a threshold matter  Investment decisions are based on the value and disposition of the final product

Application to Non-Traditional Resources (cont.)  “Oil and gas producing activities include the extraction of saleable hydrocarbons, in the solid, liquid or gaseous state, from oil sands, shale, coalbeds or other nonrenewable natural resources intended to be upgraded to synthetic oil or gas”  Reporting must distinguish between final products that are synthetic and traditional (to take into account additional cost of unconventional development)

Codification of Guide 2  Subpart 1200 of Regulation S-K will codify Guide 2  In addition to the disclosure required by Guide 2, Subpart 1200 will require the following:

Subpart 1200  disclosure of reserves from non-traditional sources  disclosure of probable and possible reserves (optional)  disclosure of reserve price sensitivity (optional)  geographic area disclosure  disclosure of development of proved undeveloped reserves  disclosure of technologies used to establish estimates  disclosure of internal controls over reserve estimations

By Geographic Area  Must disclose reserves by geographic area as appropriate under a company’s particular circumstances: –by individual country –by groups of countries within a continent or –by continent

By Geographic Area (cont.)  Disclosure of reserves in each country or field containing more than 15% of the proved reserves (unless prohibited by the particular country)

Summary Tabular Presentation  Must disclose in the aggregate and by geographic area and product type: –proved developed reserves –proved undeveloped reserves –total proved reserves –on an optional basis, probable developed, probable undeveloped, possible developed and possible undeveloped reserves

Summary Table

Price Sensitivity Table  Optional table  Additional information regarding sensitivity that reserves have to price fluctuations

Sensitivity Table Sensitivity of Reserves to Prices By Principal Product Type and Price Scenario Price Case Proved Reserves Probable Reserves Possible Reserves Oil Gas Product A Oil Gas Product A Oil Gas Product A mbbls mmcf measure mbbls mmcf measure mbbls mmcf measure Scenario 1 Scenario 2

Qualifications of Primary Technical Person  General discussion of internal controls used to assure objectivity in estimation process  qualifications of the technical person: – primarily responsible for preparing reserve estimates –or conducting reserve audit, if the company discloses that such a reserve audit has been performed  No requirement for independent third party preparer

Third Party Audit Reports  If a company represents that a third party prepared the reserve estimate or conducted a reserve audit, the third party report must be filed as an exhibit  Full report not required; summary of work performed and conclusions is sufficient  If included in a registration statement, consent of third party must be an exhibit as well

Third Party Process Reviews  Process reviews assess the adequacy and effectiveness of a company’s internal processes and controls relative to reserve estimations  If a company discloses that a third party conducted a process review, the third party report must be filed as an exhibit  If included in a registration statement, consent of third party must be an exhibit as well

Aging of PUDs  Narrative only (as opposed to proposed tabular presentation) disclosure regarding: –total quantity of proved undeveloped reserves (PUDs) at year end –any material changes during the year, including conversion to proved reserves –investments and progress made in converting to proved reserves –explanation of reasons for PUDs remaining undeveloped five years after initial PUD disclosure

MD&A Guidance  changes in proved reserves  technologies used to establish level of certainty  prices and costs, including ceiling test  performance of current wells  performance of mining- type activities for hydrocarbon production  ability to convert reserves  remaining terms of leases and concessions  effects of different forms of rights to resources  geopolitical risks  other material trends, demands, commitments, uncertainties and events