What is it?
An energy producer that applies to companies seeking a license to explore for energy is an exploration company. Exploration companies are assessed a Liability Management Rating (“LMR”) by the Alberta Energy Regulator (“AER”).
An LMR is a rating that determines whether the producer will have to provide a deposit to secure against the end-of-life obligations of oil and gas wells that are required to bring land to its normal state. Essentially, an LMR calculates a producer’s assets against its liabilities to determine the likelihood that the producer will meet its operations’ end-of-life commitments.
An LMR is a revolving calculation since a producer’s assets and liabilities will change over time. Additionally, any one well can be owned a number of times by a number of different producers, and thus calculations as to its end-of-life obligations are fluid..
The following is an explanation of the LMR program. It is intentionally written with generalizations in order to provide a broad understanding of this program. For more specific information, the reader can look to AER’s website, specifically Directives 006 and 011 among others.
Calculation
The formula for calculating an LMR depends on whether a producer is in the LLR program or the Non-Producer Licensee program.
The LLR program covers most conventional upstream oil and gas wells, facilities and pipelines. The NPL program covers producers with more midstream assets than upstream assets.
The calculation of LMR for a producer in the LLR program is calculated by taking:
a producer’s deemed assets in the LLR program (divided by)
its deemed liability in the LLR program plus deemed liability in any other programs
DEEMED ASSETS are determined by calculating the producer’s production of oil and gas for the last 12 months in cubic meters oil equivalent (m3 OE) and multiplying that number by the 3-year average industry netback. The AER has set this netback at $236.54, and this number is intended to represent the amount that a producer will earn per cubic metre of oil equivalent after paying royalties and operating costs. This is not to be confused with profit since items like taxes and office costs (amongst many other expenses) will also have to be paid by the producer.
Essentially, a producer’s deemed assets are the operational net revenue for the past 12 months.
DEEMED LIABILITY is essentially the abandonment and reclamation cost of the producer’s oil and gas wells. In other words, the amount of money calculated to put the land into its original state.
The specific calculations of these costs are contained in AER’s Directive 011. A general summary of the costs are:
Abandonment costs are based on region, depth of drill and downhole completion costs and can vary from $12,800.00 to $134,177.00 depending on those variables.
Abandonment costs are also increased if any of the following scenarios are applicable:
groundwater protection cost - $46,288.00
vent flow repair cost - $169,309.00
gas migration cost – 67,868.00
multiple event sequence factor – 25%
Reclamation costs are based on areas, such as grasslands or alpine areas and can range from $16,500.00 to $42,125.00.
As such, a producer’s LMR rating is its 12-month operational net revenue on its assets divided by the costs of abandoning and reclaiming those assets.
Deposits
The AER requires a deposit if a producer’s LMR rating is below 1.0. That is if the 12-month operational net revenue on a producer’s assets is below the cost of abandoning and reclaiming those assets, a deposit will be required to cover the difference.
The required deposit is 2x the deemed liability, as defined above.
In practice, it is better for a producer to try to maintain an LMR of 2.0 or higher, in order to be deemed to be a good producer by the AER. With an LMR rating of less than 2.0, a producer will be watched by the AER and could ultimately be required to pay a deposit to maintain its license. The AER can require a deposit for producers with an LMR below 2.0, but such producers have more room to negotiate their deposit.
-Brent J. Nelson, Principal
-Byron W. Nelson, Counsel
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