Table Of ContentCAN THE UNITED STATES INCREASE
OIL ROYALTIES?
Y 4. G 74/7; 01 5/6
Can the United States Increase Dil...
HEARING
BEFORE THE
SUBCOMMITTEE ON GOVERNMENT MANAGEMENT,
INFORMATION, AND TECHNOLOGY
OF THE
COMMITTEE ON GOVERNMENT
REFORM AND OVERSIGHT
HOUSE OP REPRESENTATIVES
ONE HUNDRED FOURTH CONGRESS
SECOND SESSION
JUNE 17, 1996
Printed for the use of the Committee on Government Reform and Oversight
U.S. GOVERNMENT PRINTING OFFICE
43-977 WASHINGTON : 1997
ForsalebytheU.S.GovernmentPrintingOffice
SuperintendentofDocuments,CongressionalSalesOffice,Washington,DC 20402
ISBN 0-16-055698-8
CAN THE UNITED STATES INCREASE
OIL ROYALTIES?
Y 4, G 74/7; 01 5/6
Can tlie United States Increase Oil...
HEARING
BEFORE THE
SUBCOMMITTEE OX GOVERNMENT MANAGEMENT,
AND TECHNOLOGY
INFORiA'IATION,
OF THE
COMMITTEE ON GOVERNMENT
REFORM AND OVERSIGHT
HOUSE OP REPRESENTATIVES
ONE HUNDRED FOURTH CONGRESS
SECOND SESSION
JUNE 17, 1996
Printed for the use of the Committee on Government Reform and Oversight
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U.S. GOVERNMENT PRINTING OFFICE
43-977 WASHINGTON 1997
:
ForsalebytheU.S.GovernmentPrintingOffice
SuperintendentofDocuments,CongressionalSalesOffice,Washington,DC 20402
ISBN 0-16-055698-8
COMMITTEE ON GOVERNMENT REFORM AND OVERSIGHT
WILLIAM F. CLINGER, Jr., Pennsylvania, Chairman
BENJAMIN A, OILMAN, New York CARDISS COLLINS, IlUnois
DAN BURTON, Indiana HENRY A. WAXMAN, CaUfomia
J. DENNIS HASTERT, Illinois TOM LANTOS, California
CONSTANCE A. MORELLA, Maryland ROBERT E. WISE, Jr., West Virginia
CHRISTOPHER SHAYS, Connecticut MAJOR R. OWENS, New York
STEVEN SCHIFF. New Mexico EDOLPHUS TOWNS, New York
ILEANA ROS-LEHTINEN, Florida JOHN M. SPRATT, Jr., South Carolina
WILLIAM H. ZELIFF, Jr., New Hampshire LOUISE McINTOSH SLAUGHTER, New
JOHN M. McHUGH, New York York
STEPHEN HORN, CaUfomia PAUL E. KANJORSKI, Pennsylvania
JOHN L. MICA, Florida GARY A. CONDIT, California
PETER BLUTE, Massachusetts COLLIN C. PETERSON, Minnesota
THOMAS M. DAVIS, Virginia KAREN L. THURMAN, Florida
DAVID M. Mcintosh, Indiana CAROLYN B. MALONEY, New York
JON D. FOX, Pennsylvania THOMAS M. BARRETT, Wisconsin
RANDY TATE, Washington BARBARA-ROSE COLLINS, Michigan
DICK CHRYSLER, Michigan ELEANOR HOLMES NORTON, District of
GIL GUTKNECHT. Minnesota Columbia
MARK E. SOUDER, Indiana JAMES P. MORAN, Virginia
WILLIAM J. MARTINI, New Jersey GENE GREEN, Texas
JOE SCARBOROUGH. Florida CARRIE P. MEEK, Florida
JOHN B. SHADEGG, Arizona CHAKA FATTAH, Pennsylvania
MICHAEL PATRICK FLANAGAN, Illinois BILL BREWSTER, Oklahoma
CHARLES F. BASS, New Hampshire TIM HOLDEN, Pennsylvania
STEVEN C. LaTOURETTE, Ohio ELIJAH CUMMINGS, Maryland
MARSHALL "MARK" SANFORD, South
Carolina BERNARD SANDERS, Vermont
ROBERT L. EHRLICH, Jr., Maryland (Independent)
James L. Clarke, StaffDirector
Kevin Sabo, General Counsel
Judith McCoy, ChiefClerk
Bud Myers, Minority StaffDirector
Subcommittee on Government Management, Information, and Technology
STEPHEN HORN, California, Chairman
MICHAEL PATRICK FLANAGAN, Illinois CAROLYN B. MALONEY, New York
PETER BLUTE, Massachusetts MAJOR R. OWENS, New York
THOMAS M. DAVIS, Virginia JOHN M. SPRATT, Jr., South CaroUna
JON D. FOX, Pennsylvania PAUL E. KANJORSKI, Pennsylvania
RANDY TATE, Washington COLLIN C. PETERSON, Minnesota
JOE SCARBOROUGH, Florida TIM HOLDEN, Pennsylvania
CHARLES F. BASS, New Hampshire
Ex Officio
WILLIAM F. CLINGER, Jr., Pennsylvania CARDISS COLLINS, lUinois
J. Russell George, StaffDirector and Counsel
Mark Brasher, Professional StaffMember
Ian Davison, StaffAssistant
Mark Stephenson, Minority Professional StaffMember
David McMillen, Minority Professional StaffMember
(II)
CONTENTS
Page
Hearing held onJune 17, 1996 1
Statement of:
Armstrong, Robert L., Assistant Secretary ofthe Interior, Land and Min-
erals Management, U.S. Departmentofthe Interior 56
Calvert, Ken, a Representative in Congress from the State ofCalifornia ... 10
McMahon, M. Brian, attorney for the city of Long Beach, trustee for
the State of California, accompanied by Robert Shannon, assistant
city attorney, city of Long Beach; and James McCabe, deputy city
attorney, city ofLong Beach 68
Quarterman, Cjnithia, Director, Minerals Management Service, Depart-
ment ofthe Interior, accompanied by Robert Berman, economist. Office
of Policy Analysis, Department of the Interior; Abraham E. Haspel,
Acting Principal Deputy Assistant Secretary for Policy and Inter-
national Affairs, Office ofPolicy and International Affairs, Department
of Energy, accompanied by Robert Speir, economist. Office of Oil and
Natural Gas Policy, Department ofEnergy 21
Letters, statements, etc., submitted forthe record by:
Calvert, Ken, a Representative in Congress from the State ofCalifornia:
Letterdated May 30, 1996 11
Prepared statement of 14
Maloney, Hon. Carol3Ti B., a Representative in Congress from the State
ofNewYork:
Letterdated March 29, 1994 67
Testimony ofthe Projecton Government Oversight 6
McMahon, M. Brian, attorney for the city of Long Beach, trustee for
the State ofCalifornia, prepared statement of 75
Quarterman, C3mthia, Director, Minerals Management Service, Depart-
ment ofthe Interior, prepared statementof 24
(III)
CAN THE UNITED STATES INCREASE OIL
ROYALTIES?
MONDAY, JUNE 17, 1996
House of Representatives,
Subcommittee on Government Management,
Information, and Technology,
Committee on Government Reform and Oversight,
Washington, DC.
The subcommittee met, pursuant to notice, at 9:30 a.m., in room
2154, Raybum House Office Building, Hon. Stephen Horn (chair-
man ofthe subcommittee) presiding.
Present: Representatives Horn and Maloney.
Staff present: J. Russell George, staff director and counsel; Mark
Brasher, professional staff member; Ian Davison, staff assistant;
and Mark Stephenson and David McMillen, minority professional
staffmembers.
Mr. Horn. Good morning. A quorum being present, the Sub-
committee on Government Management, Information, and Tech-
nology will come to order.
On April 25, 1996, the Debt Collection Improvement Act passed
the House of Representatives and was subsequently enacted into
law. The purpose of that measure, which I introduced and was
joined by the ranking minority member, Mrs. Maloney of New
York, was to provide the Federal Government with the tools that
it needs to collect the money that is due it. The Nation's enormous
deficits demand that the Federal Government take every step to
collect outstanding amounts.
In today's hearing, the subcommittee asks: one, has the valuation
ofthe oil produced on Federal leases been fair and reasonable, and,
two, are the Federal Government and other entities which might
be involved receiving the royalties owed in a timely manner?
On May 16, the Department of the Interior released an inter-
agency report which examined the valuation of California oil pro-
duced on Federal lands, and the oil royalty payments which re-
sulted from that production. The report entitled, "Final Interagency
Report on the Valuation of Oil Produced from Federal Leases in
California," concluded that during the years 1978 through 1993,
there was a possible undervaluation of California oil. Query, given
the lower grade of oil produced in California compared to Alaska
and Texas, is that necessarily so? Those responsible for the admin-
istration of Federal oil properties believe that the posted price of
oil was understated, and, if so, the Federal royalty received could
also be understated. We will be interested to learn how that valu-
ation system works.
(1)
The conclusion reached by the Department of the Interior seems
supported by a comment attributed to a representative of an oil
company which called the posted price a "dinosaur" which bears no
relationship to the market value of the oil. The Federal Govern-
ment must ensure that it has a reliable gauge by which to measure
the value of oil so that the Government collects all the revenue to
which it is appropriately entitled.
This is potentially an enormous problem. The report concluded
that the underpayment ranges from zero dollars to possibly $856
million, for California alone. The report does not consider the other
49 States. It does not cover the natural gas leases. In California,
the State portions of the royalty are dedicated to funding kinder-
garten through 12th grade education. With that most important
use of the pajrment at stake, it is clear that we might well need
better management ofthe Federal oil and gas leasing program.
This issue continues to be the subject of litigation by the States
because of vague Federal rules and apparent lack of resources to
pursue the matter. Congress needs to work with the administration
to identify better ways to manage the leasing programs.
One option is turning the administration of these programs over
to those States which already seem eager to audit the oil leasing
program. My colleague from California, Representative Ken Cal-
vert, has introduced legislation to accomplish this approach. His
bill, H.R. 1975, however, does not provide for retroactivity.
Although his legislation was vetoed by the President when it was
included as a part ofthe budget reconciliation measure, the admin-
istration has expressed support for the bill. If enacted, the Calvert
approach will solve the undervaluation problem in the future, but
leave any undervaluation during the 1978 through 1993 period un-
resolved.
This morning we hope to learn if the Department of the Interior
needs to make improved management and collection of royalties a
priority.
Does the ranking minority have an opening statement?
Mrs. Maloney. Yes, I do, Mr. Chairman, and thank you very
much for holding this hearing so swiftly after my office and POGO
released a report requesting a hearing and the other task report
came out.
First of all, I deeply want to express my appreciation for holding
this hearing on Federal royalty undervaluation. This might sound
like an old problem but it is a problem that has not yet been
solved, and I want to commend you and your stafffor bringing this
issue before the committee.
I might add, that your great State ofCalifornia has a deep inter-
est in solving this problem, as half of the money due back on Cali-
fornia onshore production would mean at least $142 million for the
State ofCalifornia.
I also want to congratulate the administration's efforts on this
issue. The Department of the Interior set up an interagency task
force which focused on California crude oil valuation. Their report
states clearly that 10 oil companies owe the Federal Government
up to $856 million in oil royalty and underpayments in California
alone.
This report is strong and to the point. I think our job now is to
immediately begin collecting this money for the American people.
The task force report brings up many very important issues from
which we must take action. Most important, we must decide how
to collect and from what period to collect underpaid royalties. The
task force discusses two methodologies on how to collect: No. 1,
using Alaskan North Slope spot prices referred to as ANS prices
and, No. 2, computing premiums paid on arm's length contracts.
The first method would bring in $856 million, and the second
method would likely bring in less than half that. I recommend
using the Alaskan North Slope price because it is simpler, more ac-
curate, it is the method the oil companies use themselves, and it
will bring in at least twice as much money.
Between 35 and 45 percent of oil refined in California comes
from the Alaskan North Slope. That represents a significant quan-
tity. Likewise, less than 20 percent of oil is traded at arm's length,
which is not a significant quantity. Yet, Federal regulations require
significant quantity when computing arm's length contract pre-
mium.
According to the task force report, which is based on the court-
sealed documents from the Long Beach cases 1 and 2, the oil com-
panies use the Alaskan North Slope spot prices to base the value
of their oil. If it is good enough for the oil companies, it should be
good enough for the State of California and the Federal Govern-
ment.
Calculating underpaid royalties by using the Alaskan North
Slope spot prices is very easy because the value ofANS oil is pub-
lished widely in trade journals; however, trying to calculate pre-
miums paid on arm's length contracts would take not only years to
accomplish but would most likely be very inaccurate. The task force
report even admits to some ofthese pitfalls.
For example, on page 18 the task force reports.
Most oil from Federal oil and gas leases is produced by integrated companies that
transfer production from their production arm to a trading or refining arm. After
this initial nonarm's length transfer, oil produced from Federal leases loses its iden-
tity in companies' accounting systems so that its price subsequent to transfers usu-
allycannotbe determined.
Then page 34, it goes on to say: "Rarely is it possible to trace
Federal production past the first transfer between the company's
production and trading affiliates."
On pages 49 and 50, the report says,
After transferring Federal crude ofa specific type to a company^s trading division,
the distinction between Federal and non-Federal crude oil was lost. Federal crude
oil was not specifically invoiced in companies' records after internal transfers, so it
is unlikely that gross proceeds in excess ofposted prices canbe traced to the produc-
tionofspecific Federal leases.
It is my opinion that the oil companies could easily bury the al-
ready understaffed royalty management program audit teams in a
maze of company trading transactions. That is not to mention the
legal roadblocks and endless appeals the oil companies will use to
prevent the release of their affiliate's records. ANS is by far the
easiest and most logical method to use.
The second important question is which time period do we use
to limit our collection of undervalued royalties? Over the last few
months I have uncovered evidence that posted prices have not rep-
resented market value since the 1930's. According to the task force
report, two task force team members recommended going back to
at least 1980. The other team members make no recommendation.
I recommend at the very least that we should commit to using 1980
as the reasonable starting point.
Clearly, 74 percent of the undervalued crude oil was sold from
1980 to 1985. Collecting on these 6 years alone would bring the
Federal Government over $500 million. Contributing to the under-
valuation problem is that some pipelines are not operating as com-
mon carrier pipelines. However, Federal law requires that pipelines
which cross Federal land operate as common carriers.
Oil companies which use noncommon carrier pipelines exercise
tremendous market power over all other oil companies. As long as
pipelines are not opened up as common carriers, the California oil
market will never be a free market with open competition. As such,
I recommend that the Secretary of the Interior use his powers to
immediately enforce common carrier access to all California pipe-
lines which cross Federal land.
We have waited long enough. On behalf of the American people,
the Federal Government should start collecting royalties based on
the market value for oil. The evidence to date shows that we have
not been getting our money's worth. We need to fix this problem
now and collect all that is owed us from the past. As such, I urge
the Department of the Interior to take immediate steps to collect
the money owed. We should also change the regulations so that
they are more helpful in the future.
Over the last few months very compelling evidence has come to
my attention that oil in Texas, New Mexico, Louisiana, Wyoming,
and a dozen other States has been undervalued. This is not sur-
prising because oil trading in California is very similar to oil trad-
ing in the Gulf States. As such, I have made a request to Assistant
Secretary Robert Armstrong that the task force continue their in-
vestigation to include oil and gas undervaluation beyond the State
of California. A future task force would most likely discover that
the $856 million figure for California would probably increase to
several billion dollars once offshore and onshore production from
the rest ofthe country is included.
Finally, I strongly believe that all future global settlements
should specifically exclude the oil and gas undervaluation issue
throughout the country. The Department of the Interior already
made the mistake of globally settling with Exxon only to find out
later that Exxon owed nearly $200 million in underpaid royalties.
With the release of the task force report, we now have convincing
evidence that the oil and gas undervaluation issue exists. We
would make a huge mistake if we globally settled with additional
oil companies and gas companies.
I would like to put into the record, Mr. Chairman, a letter that
I wrote to Mr. Armstrong, the Assistant Secretary of Land and
Minerals Management, calling upon him not to have any more
global settlements until this issue is resolved.
I would likewise like to put into the record the testimony of the
Project on Government Oversight. They weie not able to testify
