Royal Dutch Shell Group .com

The Times: Time to clean up oil accounting: “SHELL’s nightmare”


By Patience Wheatcroft

June 30, 2004

Posted 1 July 04


SHELL’s nightmare over oil and gas reserves may serve to bring reforms way beyond its own outdated bureaucracy. Sir Phil Watts’s little accounting adjustment set alarm bells jangling noisily because top management’s corner-cutting so clearly revealed the Anglo-Dutch group’s serial failure to find enough new oil and gas. It also revealed that methods for booking reserves imposed by the US Securities and Exchange Commission have become obsolete for the global oil industry and, in some cases, misleading.


Lord Browne of Madingley has now taken this side of the argument further, opening the way for more sophisticated approaches to reflect an exploration industry that is more likely to find hydrocarbons many fathoms under the ocean or in remote frozen wastes than in fields conveniently close to customers. BP’s chief executive, exploiting the group’s currently high reputation, has, ever so politely, issued a challenge to the SEC, and also to accountants round the world, to come up with a more realistic way for resource companies to tell investors where their future business will come from.


Few would doubt the need for clarity and consistency in this area. Oil exploration companies, like gold prospectors, are intrinsically speculative shares. If promoters are allowed to hype up their prospects with optimistic interpretations of what they may, or may not, have found, risk soon turns into manipulation, false markets and fraud.


The SEC’s Seventies formula, unfortunately, has the dual drawback of being imposed extraterritorially, yet being designed for the domestic model of independents setting up forests of nodding donkey pumps across the endless plains of Texas. Reserves can easily be delineated by seeing how far the donkeys can graze without coming up dry. Even the SEC had to admit this was not a suitable model for fields far out in the Gulf of Mexico, where it was impractical to drill vast numbers of wells, but this exception does not, in theory, apply to the rest of the world.


The daft consequence is exhibited at the Ormen Lange gas field in Norway’s North Sea sector. The three partners that have US interests and have to file with the SEC now report quite different values for their proven reserves. Shell, desperate to be beyond reproach, reduced its claimed figure. Norsk Hydro has cut its reserve a little. BP has stayed where it was, now much higher than Shell. In part, differences depend on how far companies depend on electronic seismic mapping of oil and gas basins, rather than the SEC’s preferred methods.


Whatever method is used, however, there is no single correct accounting for reserves. Values depend on how much oil is there, the cost and time taken to move the oil from underground to a confirmed market, and the price it will fetch. For the SEC, value depends on actual end-of-year market price, which can be arbitrary. In the UK, it depends on a projected long-term price, the sort of thing that is being rejected for pension accounting.


Global accounting methods need to be developed to restore some faith in the figures. The SEC cannot be an accepted global authority. As in other areas, users of accounts also need to recognise that no single figure is likely to give them all the information they want. Only a variety of complementary measures, backed up by frank commentary by an accountable management, is likely to give investors a genuine picture of what is going on.


If the Ormen Lange farce provokes reform, Shell’s red face and Lord Browne’s initiative will serve a positive purpose.

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