Report to the Royalty Policy Committee

Mineral Revenue Collection from 

Federal and Indian Lands and the 

Outer Continental Shelf 

Submitted by: 

The Subcommittee on Royalty Management 

with staff support from 

U.S. Department of the Interior 

Office of Policy Analysis (Office of the Secretary) 

and the Bureau of Land Management 

December 17, 2007

Members of the Subcommittee on Royalty Management 

Co-Chairs:

Bob Kerrey former U.S. Senator Jake Garn former U.S. Senator

Vice Chair:

David Deal Member, Royalty Policy Committee 

Members:

Cynthia Lummis former State Treasurer, State of Wyoming

Mario Reyes Professor of Finance, University of Idaho 

Perry Shirley Assistant Director, Minerals Department, Navajo Nation

Bob Wenzel former Deputy Commissioner, Internal Revenue Service

Staff:

Larry Finfer Staff Director and Deputy Director, Office of Policy Analysis, 

 Department of the Interior 

Bob Anderson Deputy Assistant Director, Minerals, Realty, and Resource Protection, 

Bureau of Land Management 

John Broderick Economist, Bureau of Land Management 

Christian Crowley Economist, Office of Policy Analysis, Department of the Interior 

Alicia Kaiser Program Analyst, Office of Policy Analysis, Department of the Interior 

Alan Rabinoff Deputy State Director, Minerals and Lands, Bureau of Land 

Management, Wyoming 

Benjamin Simon Economist, Economics Staff Director, Office of Policy Analysis, 

Department of the Interior 

Loretta Beaumont Special Assistant to Subcommittee Co-chairs 

J. Wiley Westall Special Assistant to the Assistant Secretary for Land and Minerals 

Management

 Table of Contents

i 

Table of Contents 

Table of Contents...................................................................................................... i

List of Figures ......................................................................................................... iv

List of Tables........................................................................................................... iv

Executive Summary............................................................................................... vii

1. Introduction .....................................................................................vii

2. Charge of the Subcommittee on Royalty Management.................. viii

3. Subcommittee on Royalty Management—Activities and Data 

Gathering ....................................................................................... viii

4. Coordination of Royalty Management Activities ............................. viii

5. Findings and Recommendations......................................................ix

Summary of Major Recommendations................................................................. xv

I. Collections and Production Accountability ...................................................xv

II. Audit, Compliance, and Enforcement..........................................................xvi

III. Coordination among MMS, BLM, and BIA ................................................. xvii

IV. Royalty in Kind .......................................................................................... xviii

V. Lack of Price Thresholds in Offshore Oil and Gas Leases – 1998 and 

1999 Lease Sales in the Gulf of Mexico......................................................xxi

Chapter 1 Introduction and Charge to the Subcommittee................................ 1

I. Introduction ................................................................................................... 2

II. Subcommittee Data-Gathering Process........................................................ 3

Chapter 2 A Brief History of Royalty Management ........................................... 5

Chapter 3 Collections and Production Accountability ................................... 13

I. Subcommittee Charge ................................................................................ 16

II. Introduction ................................................................................................. 16

III. Background................................................................................................. 17

IV. Findings and Recommendations................................................................. 19

A. Federal and Indian Oil and Gas............................................................ 19

1. Accurate Reporting of British Thermal Unit (BTU) Values.............. 19

2. Collections Complexities under the Royalty Simplification and 

Fairness Act of 1996 ...................................................................... 23
Report to the Royalty Policy Committee 

ii 

3. Electronic Data Submittals, Data Exchange, and Accounting 

Tools...............................................................................................24

4. Gas Plant Efficiency .......................................................................28

B. Policy and Guidance for Production Accountability Activities................30

C. Personnel Issues for Production Accountability and Revenue 

Collection Activities ...............................................................................33

1. BLM Staffing for Production Accountability Activities......................33

2. MMS Staffing Levels for Revenue Collection Activities ..................36

3. Training for BLM Production Accountability Staff............................38

Chapter 4 Audits, Compliance, and Enforcement ...........................................43

I. Subcommittee Charge.................................................................................46

II. Introduction..................................................................................................46

III. Background .................................................................................................46

A. Compliance and Enforcement—Process and Tools..............................46

B. Audits and Compliance Reviews...........................................................52

1. Compliance and Enforcement Activity ............................................52

2. Risk-Based Compliance Strategy...................................................54

C. Staffing and Resources Available for Compliance Activities .................55

D. Inspector General Reports....................................................................56

E. Royalty Collections As a Result of Audit and Compliance 

Activities................................................................................................57

IV. Findings and Recommendations.................................................................59

Chapter 5 Coordination, Communication, and Information Sharing 

among MMS, BLM, and BIA .............................................................75

I. Introduction..................................................................................................77

II. Background .................................................................................................77

A. Roles and Responsibilities of the Federal Agencies .............................77

B. Mineral Leases on Indian Lands ...........................................................78

C. Decentralization of Mineral Leasing Responsibilities ............................79

D. Geospatial Information..........................................................................80

III. Findings and Recommendations.................................................................81

A. Indian Mineral Leases...........................................................................81

B. Interagency Coordination......................................................................82

Chapter 6 The Royalty in Kind Program...........................................................87

I. Subcommittee Charge.................................................................................91

II. Introduction..................................................................................................91
 Table of Contents

iii 

III. Background................................................................................................. 91

A. Advantages Associated with Royalty in Kind Compared to 

Royalty in Value.................................................................................... 93

B. Statistics and Program Administration.................................................. 94

1. RIK Volumes and Revenues .......................................................... 94

2. RIK Administrative Costs................................................................ 97

3. Comparison between Crude Oil and Natural Gas Sales ................ 98

4. Competition for RIK Volumes....................................................... 100

IV. Findings and Recommendations............................................................... 105

A. Growth of the RIK Program ................................................................ 105

B. Market Position, Organizational Structure, and Incentives ................. 109

C. Crude Oil Program.............................................................................. 115

1. Onshore RIK Oil........................................................................... 115

2. Small Refiner Program................................................................. 117

3. Strategic Petroleum Reserve ....................................................... 120

D. RIK Personnel Breadth and Depth ..................................................... 122

E. Performance Measures ...................................................................... 126

F. RIK Auction Procedures ..................................................................... 129

Chapter 7 OCS Royalty Relief: Lack of Price Thresholds in Offshore 

Oil and Gas Leases – 1998 and 1999 Lease Sales in the Gulf 

of Mexico......................................................................................... 133

I. Introduction ............................................................................................... 135

II. Background............................................................................................... 135

III. Findings and Recommendations............................................................... 136

A. Findings .............................................................................................. 136

B. Recommendations.............................................................................. 138

Appendices .......................................................................................................... 141

Appendix 1 Complete List of Recommendations ............................................ 142

Appendix 2 Risks Facing the RIK Program..................................................... 160

Appendix 3 Price Trends for Oil and Natural Gas, 1990-2006. ....................... 161

Appendix 4 RIK Volume Data, FY 2004-FY2010 (historical and estimated) ... 162

Appendix 5 Credit Scoring Models.................................................................. 163
Report to the Royalty Policy Committee 

iv 

List of Figures 

Figure 1 BLM Staffing Levels for Production Accountability Functions (FY 

2006) ...............................................................................34

Figure 2 Minerals Revenue Management FTEs, FY 2001 Compared to 

FY 2006...........................................................................37

Figure 3 Annual RIK Natural Gas Volumes, 2004-2010....................................96

Figure 4 Annual RIK Oil Volumes, 2004-2010 ..................................................97

Figure 5 Federal Offshore Gulf of Mexico Natural Gas Marketed 

Production, 1997-2006 ....................................................99

Figure 6 MMS Marketing Strategy ..................................................................110

Figure 7 Disposition of RIK Crude Oil .............................................................116

Figure 8 Minerals Revenue Management FTEs, FY 2001 Compared to 

FY 2006 Source: MRM FTE and Payroll Summary 

FY 2001-2006................................................................123

Figure 9 U.S. Natural Gas Wellhead Price; Federal Offshore U.S. Gulf 

Coast Crude Oil Wellhead Acquisition Price by First 

Purchasers ....................................................................161

List of Tables 

Table 1 Mineral Lease Revenue Collections, FY 2007......................................7

Table 2 Mineral Lease Revenue Disbursements, FY 2007................................7

Table 3 Total Royalty Revenues Associated with Producing Leases for 

FY 2007 (Accounting Year) .............................................18

Table 4 Reported Royalties and Revenues, FY 2001 – FY 2007 ($ 

millions) ...........................................................................25

Table 5 MMS Compliance and Asset Management Activities..........................49

Table 6 Internal Revenue Service Compliance Activities.................................50

Table 7 Audits and Compliance Reviews by Compliance Office, FY 

2005-06 ...........................................................................54

Table 8 Leases and Revenues by State, FY 2006...........................................56

Table 9 Reported Royalty Revenue and Royalty Collections As a Result 

of Compliance Activities, FY 2003 – FY 2006 ($ 

millions) ...........................................................................58

Table 10 Total Cost by Compliance Office, FY 2003–FY 2006 ($ millions) .......58
 List of Tables

v 

Table 11 Total Cost of Compliance Activities and Revenue Collections by 

Compliance Activity ($ millions)....................................... 59

Table 12 Data Fields in Various Compliance Information Systems................... 69

Table 13 Management of Federal and Indian Mineral Resources: Roles 

and Responsibilities ........................................................ 78

Table 14 RIK Volumes FY 2004-2006............................................................... 95

Table 15 RIK Oil and Gas Revenues (from RIK Auctions), FY 2004-2006 

($ millions)....................................................................... 96

Table 16 Administrative Costs for RIK and RIV: $ per Barrel of Oil 

Equivalent (BOE) ............................................................ 98

Table 17 Comparison of RIK Sales for Crude Oil and Natural Gas................. 100

Table 18 RIK Gas Sale Statistics, 2005-2007 ................................................. 101

Table 19 RIK Oil Sale Statistics, 2005-2007 ................................................... 102

Table 20 MMS Classification of Crude Types.................................................. 104

Table 21 Comparison of Average RIK Prices Received with Market Index 

Prices ............................................................................ 105

Table 22 Comparison of RIK Oil and Natural Gas Marketing Flexibility .......... 107

Table 23 RIK Royalty Volumes, FY 2006 ........................................................ 116

Table 24 Small Refiner RIK Sales, 2001-2007................................................ 119

Table 25 MMS costs related to SPR Obligations, ($ millions) ......................... 120

Table 26 Change in BOEs per FTE 2004-2006............................................... 123

Table 27 Risks facing the RIK Program .......................................................... 160

Table 28 Qualified Bidders for RIK Auctions Companies ................................ 166
Report to the Royalty Policy Committee 

vi 
 Executive Summary

vii 

Executive Summary 

1. Introduction 

The Minerals Management Service (MMS) administers and enforces the financial 

terms for all Federal mineral leases: onshore, offshore, and on Indian lands. In 

Fiscal Year 2007, over 2,000 companies reported and paid royalties totaling 

approximately $10.3 billion from approximately 30,000 producing Federal and Indian 

leases. Additionally, MMS and the Bureau of Land Management (BLM) have 

leasing, permitting, inspection and enforcement responsibilities, including conducting 

production accountability reviews. MMS’s and BLM’s responsibilities apply to 

offshore leases, onshore Federal leases, and leases on Indian Lands. 

On March 22, 2007, the Subcommittee on Royalty Management (“the 

Subcommittee”) was appointed by the Secretary of the Interior (“the Secretary”) to 

conduct an independent prospective examination of the MMS’s Minerals Revenue 

Management program. The Subcommittee was appointed following the publication 

of a report by the Department of the Interior (DOI) Office of the Inspector General 

(IG) that raised concerns about the audit and compliance program, as well as other 

issues separately raised by the IG related to employee misconduct.1

 These reports 

led to increased public concern and heightened scrutiny by members of Congress. 

As a result of these concerns, the Secretary determined that a fully independent 

examination of the program was warranted, and necessary to restore credibility to 

this important revenue-generating program, and to the staff who support. 

The Subcommittee reports to the Royalty Policy Committee, which is chartered 

under the Federal Advisory Committee Act (FACA) to provide advice to the 

Secretary and other Departmental officials responsible for managing mineral leasing 

activities. The Royalty Policy Committee further serves as a forum for individual 

States, American Indian Tribes, individual Indian mineral lease holders, industry, 

government agencies, other stakeholders, and the general public who wish to voice 

their viewpoints on pertinent royalty policy issues. The Subcommittee on Royalty 

Management consists of seven members, chosen for their broad expertise and 

knowledge of public policy concerns, or for their experience managing mineral 

leasing and revenue management programs. 

 

1

 Minerals Management Service’s Compliance Review Process. Report No. C-IN-MMS-006-2006. 

Department of the Interior Office of Inspector General. December 2006. Also see 

Minerals Management Service, False Claims Allegations, Redacted Report of Investigation. U.S. 

Department of the Interior, Office of Inspector General, September 7, 2007. 
Report to the Royalty Policy Committee 

viii 

2. Charge of the Subcommittee on Royalty Management 

The Subcommittee on Royalty Management was initially charged with reviewing: 

• The extent to which existing procedures and processes for reporting and 

accounting for Federal and Indian mineral revenues are sufficient to ensure 

that the Minerals Management Service receives the correct amount; 

• The audit, compliance, and enforcement procedures and processes of the 

Minerals Management Service to determine if they are adequate to ensure 

that mineral companies are complying with existing statutes, lease terms, and 

regulations as they pertain to payment of royalties; and 

• The operations of the Royalty in Kind program to ensure that adequate 

policies, procedures, and controls are in place so that decisions to take 

Federal oil and gas royalties in kind result in net benefits to the American 

people. 

Subsequently, in September 2007, Assistant Secretary C. Stephen Allred asked the 

Subcommittee to review procedures promulgated by the Department in response to 

the lack of price thresholds in Gulf of Mexico leases from 1998 and 1999 sales. 

3. Subcommittee on Royalty Management—Activities and Data Gathering 

The Subcommittee secured staff assistance from DOI’s Office of Policy Analysis (a 

staff office within the Office of the Secretary) and from the Bureau of Land 

Management. Minerals Management Service staff provided briefings, data and 

information as requested by the Subcommittee and its staff. MMS staff did not 

participate in the deliberations of the Subcommittee nor did it prepare or review any 

portions of this report. 

The Subcommittee held two face-to-face meetings and numerous teleconferences to 

develop and discuss issues and recommendations. In addition to briefings and 

information received from MMS, Subcommittee members and/or staff consulted with 

several entities, including: 

• Various U.S. States and the Province of Alberta (on Royalty in Kind issues); 

• Consultants with expertise in specific areas; 

• The Department of Energy; and 

• The Internal Revenue Service. 

Staff and Members conducted field visits to offshore and onshore operations, and 

initiated an effort to gather information from the BLM offices that manage onshore 

minerals leases. Furthermore, the Subcommittee and staff found several recent 

reports issued by the Department’s Office of Inspector General to be especially 

valuable, including those addressing MMS’s audit and compliance program and 

events pertaining to Gulf of Mexico leases issued between 1998 and 1999. 

4. Coordination of Royalty Management Activities 

Three DOI bureaus have important roles in royalty management – the Minerals 

Management Service (MMS), the Bureau of Land Management (BLM), and the 

Bureau of Indian Affairs (BIA). The table below identifies the major roles and 
 Executive Summary

ix 

responsibilities of the DOI bureaus, and the significant information sharing and 

coordination required at each step in the royalty management process. 

Table ES-1. Management of Federal and Indian Mineral Resources: Roles and Responsibilities 

 Location of Mineral Resource 

Onshore Function Offshore Federal Indian 

Information necessary for effective 

coordination 

Develop and 

implement 

Management 

Plans* 

MMS BLM BIA Land status, areas available for 

leasing, stipulations 

Lease parcels MMS BLM BIA Lease terms and conditions, royalty 

rate, distribution of revenue 

Permit/inspect 

operations/enforce

ment 

MMS BLM BLM Well/lease operating and production 

status, information on operations 

Production 

verification 

MMS BLM BLM Production information generated by 

agency field measurements and 

inspections 

Production reports MMS MMS MMS Operator reported production 

Production 

accountability 

(compare 

measurements to 

reports) 

MMS BLM BLM Production information reported by 

operators; production information from 

agency information systems 

Royalty payment 

compliance 

MMS MMS MMS Compliance status 

Royalty 

collections/ 

enforcement 

MMS MMS MMS Compliance status 

Revenue 

distribution 

MMS MMS MMS Revenue distribution information 

*BLM is responsible for Resource Management Plans on BLM-managed lands. Other Federal 

agencies are responsible for surface management on lands they manage (e.g., Forest Service, 

Department of Defense., Fish and Wildlife Service). 

Source: Subcommittee. 

While communication among MMS, BLM, and BIA is critical to effective royalty 

management, internal communication within each bureau is also necessary to 

ensure that leasing and royalty management program managers and compliance 

staffs are able to work effectively together. 

5. Findings and Recommendations 

In general, the Subcommittee concludes that the Minerals Management Service is 

an effective steward of the Minerals Revenue Management program, and that MMS 

employees are genuinely concerned with fostering continued program 

improvements. The Subcommittee members unanimously agree that that MMS is 

the Federal agency best suited to fulfill the stewardship responsibilities for Federal 

and Indian leases. This includes the RIK program, which has grown under MMS’s 
Report to the Royalty Policy Committee 

x 

management from a small pilot to a major component of the royalty management 

program. However, a number of aspects of royalty management activities 

administered by MMS and the Bureau of Land Management require prompt, and in 

some cases, significant management attention to ensure public confidence. The 

Subcommittee’s recommendations are intended to help achieve this end, and 

address a variety of policy, management and technical concerns. 

In this report, the Subcommittee makes over 100 recommendations related to the 

charges in the Subcommittee charter. These recommendations concern the 

activities of all three of DOI bureaus involved in royalty management. Most of the 

recommendations in the report can be implemented through administrative action by 

the Department and the relevant Bureaus. Many of them can be accomplished in a 

relatively short period of time. 

The Subcommittee’s recommendations include several major issues that will require 

further study and, in some cases, legislative action. These include: 

• MMS should explore the feasibility of establishing a “trust fund” within 

Treasury, the interest from which could be used to fund DOI activities, 

particularly those related to royalty management. (see Chapter 6) 

• MMS should evaluate the benefits and costs of alternative governance 

arrangements for the RIK program. (see Chapter 6) 

• The Department of the Interior should support amending the Royalty 

Simplification and Fairness Act (RSFA) to permit MMS to collect debts by 

pursuing the royalty payor rather than the operating rights owner. (see 

Chapter 3) 

• MMS should consider establishing a “whistleblower” program to strengthen 

production accountability and compliance efforts. (see Chapter 4) 

Some recommendations will require long-term and continuing effort to achieve 

successful implementation. These include: 

• MMS should implement a risk-based strategy for identifying companies and 

properties for audits and compliance reviews. This effort will require 

developing, testing and refining various strategies over the next several 

years, as well as providing the information systems support needed to 

achieve a fully functional risk-based approach. The Subcommittee expects 

this to be an evolving process but it also expects MMS to take aggressive 

action to make significant progress over the short- and mid-term. The Internal 

Revenue Service (IRS) has spent many years perfecting its audit strategy, 

and continues to make improvements. MMS should work with the IRS to 

benefit from the lessons IRS has learned over the years. (see Chapter 4) 

• MMS should strengthen the oversight of the Royalty in Kind (RIK) program. 

In the short-term, this can be addressed by establishing a subcommittee to 

the existing Royalty Policy Committee. (see Chapter 6) 
 Executive Summary

xi 

• MMS should implement improvements to the information systems that are 

critical to royalty management, with the goal of eliminating redundant 

systems, improving the ability of all systems to share data easily, and moving 

to an all-electronic format for data submissions. (see Chapter 3 and Chapter 

4) 

Many of the Subcommittee’s recommendations can be easily implemented. Some 

examples include: 

• MMS should amend Form MMS-2014 to record natural gas BTU values, 

which form the basis for required royalty payments. This will require adding a 

second column to the form: the new column will report BTU value, and the 

original column will still report volume times BTU value (total mmBTU). (see 

Chapter 3) 

• MMS’s Offshore Minerals Management division (OMM) should phase in a 

requirement for offshore lease operators to submit all oil and gas volume and 

quality statements electronically, in an automated file format. Once electronic 

reporting of quality information is established, MMS should modify the Gas 

and Liquid Verification Systems (GVS and LVS) to compare information 

submitted via GVS/LVS to information submitted via Oil and Gas Operations 

Reports (OGORs). (see Chapter 3) 

• MMS and BLM should convene an annual workshop for BLM Petroleum 

Engineering Technicians and Petroleum Accountability Technicians and 

equivalent MMS Offshore Minerals Management (OMM) personnel to share 

applicable best practices and identify and propose resolutions to common 

production accountability concerns. (see Chapter 3) 

• MMS should automate the data entry process for all compliance management 

information systems and establish a schedule for completing this effort, with a 

completion date of not later than June 2009. This will keep data current, 

improve data quality and consistency, and improve the reliability of the 

information used in decision-making and performance tracking and 

evaluation. (see Chapter 4) 

• MMS should establish an RIK Subcommittee to the Royalty Policy Committee 

(RPC). Issues that should be addressed include performance benchmarks, 

volume verification and market positioning. (see Chapter 6) 

Several important recommendations cut across all of the Subcommittee’s charges. 

These include: 

• Recommendations to update, consolidate and make more transparent 

policies and guidance in a number of areas, including production 
Report to the Royalty Policy Committee 

xii 

accountability, compliance reviews, and the Royalty in Kind program. 

Examples include: 

 The Department of the Interior should finalize the “technical changes” 

Indian oil valuation rule in order to address a long standing concern of 

Indian Tribes. (see Chapter 4) 

 MMS should compile and publish a guidebook of RIK procedures and 

policies, which should be made available to the public. (see Chapter 

6) 

 BLM should update all policy and guidance on production 

accountability, including any expired and current instruction 

memoranda, the “Redbook,” and any relevant pre-1983 USGS 

guidance. (see Chapter 3) 

• The Department of the Interior must improve communication among the 

bureaus involved in royalty management, and must improve internal 

communication within each bureau. One of the problems found by the 

Subcommittee was that even when well defined roles, procedures, and data 

standards existed, a common set of information was not available to all of the 

relevant entities involved. Improved communication across bureaus will 

strengthen royalty management in general; improved communication within 

bureaus will improve data handling and allow compliance and royalty 

management staffs to better coordinate their efforts. A particular emphasis 

should be placed on facilitating communication across the production 

accountability staffs in BLM and MMS. (see Chapter 5) 

• MMS should increase the resources devoted to production accountability; 

MMS and BLM should strengthen the training provided to their production 

accountability staffs. (see Chapter 3) 

• The Department of the Interior should target and strengthen the ethics 

training required for all staff involved in royalty management. This is 

particularly important for staff whose responsibilities involve frequent 

interactions with private-sector entities, such as the staff of the Royalty in 

Kind program. This training should include guidance on public-private-sector 

interactions, use of official and/or proprietary data, and prohibitions on the use 

of public office for private gain. (see Chapter 6 and Chapter 7) 

With respect to price threshold concerns related to certain Gulf of Mexico leases 

issued during 1998-1999, the Subcommittee has determined that the Secretary’s 

February 2007 memorandum appears to provide adequate policy guidance. 

However, to be effective, the Subcommittee recommends that this guidance be 

supported by documented, detailed and rigorous procedures and guidelines, as well 

as periodic and comprehensive reviews to ensure that the guidelines are being 

implemented. 
 Executive Summary

xiii 

Another factor affecting royalty revenues and the royalty management program is 

the use of RIK oil to fill the Strategic Petroleum Reserve (SPR). The Department of 

the Interior has entered into an agreement with the Department of Energy that 

provides for using RIK oil to fill the SPR. The current agreement is for MMS to 

provide sufficient volumes to add 27 million barrels to the SPR. This effort began in 

July 2007 with deliveries of 50,000 bbl/day and is expected to be completed in 2008, 

with MMS delivering 70,000 bbl/day. 

While the current targeted SPR capacity of 727 million barrels is expected to be 

reached by 2009, there are also plans for expanding SPR capacity to 1 billion 

barrels. An issue that will require attention is the timing of SPR capacity expansion, 

and the impact of that expansion on the Royalty in Kind program, in particular, the 

extent to which RIK oil will intermittently be needed to fill the SPR in the future. 

The Subcommittee’s major recommendations are summarized below. The full report 

provides greater details on these and other recommendations, as well as related 

findings. Included at the front of each chapter is a list of major recommendations for 

that chapter. In addition, the full set of the Subcommittee’s recommendations is 

provided in Appendix 1.
Report to the Royalty Policy Committee 

xiv 
 Summary of Major Recommendations

xv 

Summary of Major Recommendations 

I. Collections and Production Accountability 

Legislative Changes 

• The Department of the Interior should support amending the Royalty 

Simplification and Fairness Act (RSFA). The Energy Policy Reform and 

Revitalization Act of 2007 (HR 2337) introduced in the 110th Congress contains 

language in Section 215 (“Liability for Royalty Payments”) simplifying the RSFA 

collection requirements by restoring MMS’s ability to pursue the “payor” for debts, 

as was done prior to the enactment of RSFA. The Subcommittee recommends 

separating Section 215 from HR 2337, if necessary, for passage as a standalone piece of legislation. This RSFA amendment would allow for more timely 

and less costly collection of MMS’s unsettled royalty debts. (see 

Recommendation 3-8 on page 23) 

Verification of BTU Values 

• MMS should amend Form MMS-2014 to record natural gas BTU values, which 

form the basis for required royalty payments. This will require adding a second 

column to the form: the new column will report BTU value, and the original 

column will still report volume times BTU value (total mmBTU). (see 

Recommendation 3-6 on page 22) 

• MMS should modify the Gas and Liquid Verification Systems (GVS and LVS), or 

develop an equivalent, automated system to compare BTU values and oil quality 

data in submitted product quality statements to information in Oil and Gas 

Operations Reports (OGORs) (see also recommendations under Electronic Data 

Submittals, Data Exchange, and Accounting Tools, beginning on page 27). (see 

Recommendation 3-7 on page 23) 

Training and Human Resource Improvements 

• BLM should develop estimates of the number of hours required to complete 

simple and complex reviews. These estimates should be used to help determine 

appropriate staffing levels, closely corresponding to oil or gas activity in a given 

field office. In the interim, BLM should reallocate its FY 2008 funding for oil and 

gas activities to place greater emphasis on the timely hiring of additional 

Production Accountability Technicians (PATs) sufficient to meet current and 

expected workloads. (see Recommendation 3-25 on page 36) 

• BLM should assess the training needs for Petroleum Engineering Technicians 

and Production Accountability Technicians (see Recommendation 3-32 on page 

40) 

• MMS and BLM should establish standardized position descriptions for Production 

Accountability Technicians in order to consistently define the roles and 

responsibilities of these individuals (see Recommendation 3-30 on page 40) 
Report to the Royalty Policy Committee 

xvi 

Technological Improvements 

• BLM should establish and maintain a gas measurement team of specialists to 

assess new gas measurement technologies. This team should provide 

recommendations to BLM by June 2008. Following the development of an initial 

set of recommendations, the team should meet on an annual basis to evaluate 

the extent to which new technologies should be considered in BLM’s guidance. 

(see Recommendation 3-23 on page 33) 

• BLM should work with MMS’s Minerals Revenue Management (MRM) division to 

develop and implement a system that electronically transmits information on 

lease establishment and any follow-up leasing actions affecting lease status. 

(see Recommendation 3-9 on page 27) 

• MMS’s Minerals Revenue Management division (MRM) should phase in a 

requirement that all payors submit their payments electronically, with a goal of full 

implementation in five years. (see Recommendation 3-13 on page 27) 

• MMS’s Offshore Minerals Management division (OMM) should phase in a 

requirement for offshore lease operators to submit all oil and gas volume and 

quality statements electronically, in an automated file format. Once electronic 

reporting of quality information is established, MMS should modify the Gas and 

Liquid Verification Systems (GVS and LVS) to compare information submitted via 

GVS/LVS to information submitted via Oil and Gas Operations Reports 

(OGORs). (see Recommendation 3-11 on page 27) 

Budget and Performance 

• BLM should add an action code in its LR2000 records tracking system to allow 

each production accountability review to be tracked for management and 

performance monitoring purpose. (see Recommendation 3-24 on page 36) 

II. Audit, Compliance, and Enforcement 

Regulatory Changes 

• MMS should finalize the “technical changes” Indian oil valuation rule immediately, 

and forward it to the Office of Management and Budget. The rulemaking process 

to change to Indian oil valuation methodology to provide greater certainty for all 

parties and address a long standing concern of Indian Tribes should commence 

as soon as possible once the proposed rule has been forwarded to OMB. (see 

Recommendation 4-24 on page 72)

Compliance Strategy 

• MMS should complete its risk-based compliance pilot project and develop a plan 

for implementing a risk-based compliance strategy on an MMS-wide basis, using 

an incremental approach to ensure that essential data and related management 

information systems are validated and ready for wider application. The first 

phase of this effort should be completed by the end of FY 2008 and should 

address the offshore program. (see Recommendation 4-9 on page 65) 

• MMS should develop a new set of Government Performance and Results Act 

goals and measures based on the recently completed analysis of the benefits 

and costs of different compliance tools and the risk-based compliance process 
 Summary of Major Recommendations

xvii 

pilot (a risk-based pilot is scheduled for completion in February 2008). MMS 

should establish final goals and measures by the end of February 2008. (see 

Recommendation 4-13 on page 67) 

Process Improvements 

• MMS should place a high priority on improving the processes and procedures 

associated with calculating interest on royalty payments. (see Recommendation 

4-16 on page 69) 

• MMS should eliminate duplicate data by consolidating several databases, 

including databases for the Compliance Information Management system (CIM), 

the Performance Tracking Tool (PTT), and the Government Performance and 

Results Act (GPRA). (see Recommendation 4-17 on page 69) 

• MMS should require electronic submission of all offshore run tickets for input to 

Liquid Verification System and Gas Verification System. (see Recommendation 

4-21 on page 70) 

• By the end of FY 2008, MMS should publish proposed revisions to the gas 

valuation regulations and guidelines to address the cost-bundling issue, and to 

facilitate the calculation of gas transportation and gas processing deductions. 

MMS should consider incorporating into the proposed revisions the use of market 

indices for gas valuation in the context of non-arm’s length transactions in lieu of 

the benchmarks that have been employed since 1988. (see Recommendation 4-

26 on page 73) 

• By the end of FY 2008 MMS should review, and (as appropriate) revise and 

implement the regulations and guidance for calculating prices used in checking 

royalty compliance for solid minerals, with particular attention to non-arms-length 

transactions. (see Recommendation 4-27 on page 73) 

III. Coordination among MMS, BLM, and BIA 

• By June 2008, the Department should establish a Coordinating Committee with 

representatives from the senior management level in MMS, BLM, and BIA. 

Bureau representatives should have the authority to ensure decisions and 

recommendations are implemented in their respective bureaus. (see 

Recommendation 5-9 on page 85) 

• To support the Departmental Coordinating Committee described in 

Recommendation 5-9, each Bureau should establish procedures for 

strengthening intra-Bureau coordination. (see Recommendation 5-10 on page 

86) 

• MMS and BLM should secure appropriate access to the Indian lease system. 

This is necessary to prevent delays in approving lease activity, and to ensure 

MMS has the correct information for managing revenue from Indian leases. (see 

Recommendation 5-2 on page 84) 

• DOI should work to reconnect the systems containing Indian data after 

appropriate security measures are in place. The Indian Automated Fluid Mineral 

Support System (IAFMSS) and the Indian Well Information System (IWIS) should 

be restarted; appropriate access to IAFMSS for MMS and Indian contract 

inspectors should be provided. In addition, once appropriate security measures 
Report to the Royalty Policy Committee 

xviii 

are in place, MMS should provide BLM users with the ability to query these 

systems by any parameter (e.g., lease number). (see Recommendation 5-3 on 

page 84) 

• DOI should establish standards for geospatial data regarding Indian leases that 

facilitate management of Indian resources while still meeting DOI’s Trust 

responsibilities. (see Recommendation 5-7 on page 84) 

• DOI should seek a review of the decision classifying boundary information for 

Indian allotments, leases, and agreements as Trust information. Any solution 

should satisfy Trust responsibilities and allow the DOI bureaus to carry out their 

management responsibilities efficiently. (see Recommendation 5-8 on page 85) 

IV. Royalty in Kind 

Governance (Short-Term) 

• MMS should establish an RIK Subcommittee to the Royalty Policy Committee 

(RPC). Issues that should be addressed include performance benchmarks, 

volume verification and market positioning. (see Recommendation 6-1 on page 

108) 

• MMS should issue new or revised regulations and/or guidelines that would offer 

MMS, the public, and potential RIK purchasers or providers of 

transportation/processing services additional certainty concerning program 

administration. Additional certainty for these parties may assist in providing 

greater transparency for MMS business practices. (see Recommendation 6-3 on 

page 108) 

• By the end of FY 2008, MMS should clarify the extent to which Federal 

Acquisition Regulations (FAR) apply. If the FAR is found to apply, MMS should 

place a high priority on identifying contracting arrangements least likely to impair 

the program. (see Recommendation 6-7 on page 114)

• MMS should amend the Memorandum of Understanding with the Department of 

Energy to include reimbursement for administrative and contract costs incurred in 

transferring RIK oil to the Strategic Petroleum Reserve. Additional 

reimbursement should not result in a reduction in MMS’s base budget. (see 

Recommendation 6-14 on page 122)

Governance (Medium-Term) 

• MMS should explore the feasibility of establishing a “trust fund” within Treasury, 

the interest from which could be used to fund DOI activities, particularly those 

related to royalty management. Priority for funding should be given to activities 

required for addressing the Subcommittee’s recommendations related to 

production accountability, audit, collections and enforcement (as noted above, 

RIK administrative costs are already funded by a share of RIK revenues). 

Legislation would be required to establish this fund. If this option is pursued, it is 

essential that these funds should be available without subsequent appropriation. 

It is important to “hold harmless” the base budgets for fund-supported activities to 

ensure net increases in support for them; otherwise there will be no net increase 

in program support. (see Recommendation 6-6 on page 108) 
 Summary of Major Recommendations

xix 

• MMS should conduct a cost-benefit analysis of various governance 

arrangements for the RIK program to determine the organizational structure that 

will best and most cost effectively align incentives with programmatic goals and 

provide the institutional flexibility necessary to function in a commercial 

environment. Alternatives should include but not be limited to: the status quo; 

contracting out marketing functions; an FFRDC model or some variation thereof; 

and the status quo with some legislative exemptions from the FAR and personnel 

regulations. Any such arrangement should maintain institutional oversight by the 

Department of the Interior and MMS, and also provide the additional oversight 

mechanism suggested in Recommendation 6-10 (see Recommendation 6-9 on 

page 114) 

• If an alternative governance structure is established for the RIK program, an 

independent oversight board should be established. This board should include 

experts in marketing and management, and representatives of the public interest. 

The board should periodically evaluate the RIK program, to assess balance 

sheets and other “business-like” performance measures. The board should have 

the ability to recommend program expansion or contraction (onshore or offshore 

and by commodity) based on market trends and other concerns, and to address 

specific concerns such as the small refiner program. Furthermore, the Secretary 

could respond to the Board’s recommendations with on-the-record findings. (see 

Recommendation 6-10 on page 115) 

• MMS should explicitly recognize (e.g., in a charter or mission statement) that the 

RIK program is a commercial activity, and should treat the program accordingly. 

Consistent with this, MMS should seek to operate the program as close to how a 

private business would operate as possible, including establishing a sole 

objective to maximize net revenue within risk parameters established by program 

executives. A business model should apply to all aspects of the RIK program, 

including identifying potential properties where royalties might be taken in kind, 

pre-sale bidder qualification procedures, the sales themselves, and performance 

measurement. (see Recommendation 6-8 on page 114)

• MMS should undertake a concerted effort to provide outreach to States, Industry, 

and the public to assist in communicating RIK’s inner workings (e.g., seminar 

courses, workshops). This will clarify MMS’s role in administering royalties, and 

facilitate understanding and confidence for clients and partners of MMS. (see 

Recommendation 6-5 on page 108) 

• MMS should discontinue its onshore RIK crude oil program until it can be 

determined to be in the best financial interest of the government. While MMS 

has realized sizable revenue gains relative to RIK on crude oil sales in the past, 

there has been no systematic evaluation of onshore crude oil costs. Any 

decision to restart the onshore program should consider administrative cost 

implications. This will ensure that the government is collecting onshore royalties 

in the most beneficial manner. (see Recommendation 6-11 on page 121)

• The Subcommittee finds no strong justification for the small refiners’ set-aside, 

and recommends discontinuing the program as soon as possible. The program 

should not be resumed until the Secretary makes a new determination of need. 

(see Recommendation 6-13 on page 122) 
Report to the Royalty Policy Committee 

xx 

Human Resource Issues 

• MMS should immediately take steps to ensure that the RIK program has 

sufficient personnel depth to maintain an expanding trading operation and to 

ensure that RIK personnel have a solid understanding of existing ethics 

guidelines. MMS should develop and implement a Personnel Plan by June 2008 

to strengthen those areas requiring additional personnel with industry expertise. 

(see Recommendation 6-16 on page 125)

• MMS should streamline the process for announcing and filling vacancies. Priority 

should be given to filling the asset manager vacancies for oil and gas. (see 

Recommendation 6-18 on page 125)

• MMS should secure dedicated legal support for the RIK program, ideally 

stationed within the program in Denver, Colorado, or otherwise in the Regional or 

Washington, DC Office of the Solicitor. Securing dedicated legal support should 

improve the ability of RIK personnel to interact with their industry counterparts 

and with industry lawyers. (see Recommendation 6-19 on page 125) 

Performance Measurement 

• MMS should recognize, and annually report on, the opportunity costs associated 

with transfers of oil to the SPR using the performance measures established for 

the RIK program. (see Recommendation 6-15 on page 122)

• MMS should carry the range-of-values methodology associated with benchmarks 

through to the reporting of performance measures based on those benchmarks. 

(see Recommendation 6-23 on page 128)

• MMS should develop a presentation of the benchmarking process that makes it 

easier for outsiders to quickly understand the basics of how the benchmarks are 

assembled and applied. (see Recommendation 6-22 on page 128) 

• MMS should evaluate whether performance measures could be enhanced 

following standard business practices (e.g., balance sheet, cash flow statement, 

financial ratios). (see Recommendation 6-27 on page 128)

• MMS should publish a program cost comparison, comparing the RIK program to 

other public- and private-sector efforts toward marketing in-kind royalties (e.g., 

the Province of Alberta, Texas General Land Office, industry). (see 

Recommendation 6-28 on page 128) 

• MMS should implement a systematic and detailed procedure for handling bid 

documents (including both bids and notices of acceptance) to ensure security 

and integrity. In particular, the procedures should address “refreshing.” In that 

regard, the procedures and associated documents used to announce sales and 

associated procedures should explicitly lay out the procedures for determining 

when and if additional bidding rounds will be held. (see Recommendation 6-30 

on page 131) 
 Summary of Major Recommendations

xxi 

V. Lack of Price Thresholds in Offshore Oil and Gas 

Leases – 1998 and 1999 Lease Sales in the Gulf of 

Mexico 

• The Department of the Interior should continue its efforts to pursue voluntary 

royalty payment agreements with holders of the 1998 and 1999 leases without 

price thresholds. (see Recommendation 7-1 on page 138) 

• Congress and the Secretary of the Interior should continue to explore legislative 

options, which could address the loss of royalties without violating legitimately 

signed contracts. (see Recommendation 7-2 on page 138) 

• MMS and the Office of the Solicitor should coordinate to develop new procedures 

and guidelines, or revise any existing procedures and guidelines to ensure that 

the Secretary’s February 15, 2007 memorandum is effectively implemented. The 

revised procedures and guidelines should clearly delineate what constitutes a 

thorough review; how MMS will coordinate its clearance procedures internally, 

how the Office of the Solicitor will coordinate with MMS. The new procedures 

and guidelines should be reviewed by the Inspector General, and they should be 

put in place within 60 days of the submittal of the Subcommittee’s report to the 

Department. (see Recommendation 7-3 on page 138) 

• MMS and the Department should establish periodic, comprehensive and formally 

structured reviews of the procedures and guidelines to ensure they are being 

implemented correctly and successfully. Any necessary remedial actions should 

be defined and implemented promptly. (see Recommendation 7-4 on page 138) 

• Effective implementation of the procedures and guidelines should be 

incorporated in the performance standards for key staff, supervisors, and 

managers in MMS and the Office of the Solicitor. (see Recommendation 7-5 on 

page 138) 

• In addition to the standard training provided to all Departmental employees, the 

Department and MMS should require additional annual ethics training for staff 

involved in royalty management (this includes staff in the Office of the Solicitor). 

This training should include guidance on public-private-sector interactions, use of 

official and/or proprietary data, and prohibitions on the use of public office for 

private gain. (see Recommendation 7-6 on page 138) 

1 

Chapter 1 

Introduction and Charge to the 

Subcommittee
Report to the Royalty Policy Committee 

2 

Chapter 1 Introduction and Charge to the 

Subcommittee 

I. Introduction 

The Minerals Management Service (MMS) administers and enforces the financial 

terms for all Federal mineral leases, both onshore and offshore, and on Indian lands. 

In Fiscal Year 2007, over 2,000 companies reported and paid royalties totaling $10.3 

billion from approximately 30,000 producing Federal and Indian leases. 

Concerning the accuracy and effectiveness of MMS’s royalty management program, 

Department of the Interior Secretary Dirk Kempthorne and Assistant Secretary C. 

Stephen Allred determined that an independent panel should be convened to review 

the procedures and processes surrounding the management of mineral revenues 

and to provide advice to the Department on certain aspects of such management. 

Accordingly, on March 22, 2007, the Subcommittee on Royalty Management was 

appointed to conduct a prospective examination of MMS’s mineral leasing program 

(see Exhibit A). The Subcommittee was commissioned to report to the Royalty 

Policy Committee, which is chartered under the Federal Advisory Committee Act 

(FACA) to provide advice to the Secretary of the Interior and other Departmental 

officials responsible for managing mineral leasing activities, and also to serve as a 

forum for individual States, American Indian Tribes, individual Indian mineral lease 

holders, the industry, government agencies, and the public to voice their viewpoints 

on pertinent issues. 

Representing a diverse spectrum of interests, abilities, and experience, the 

Subcommittee on Royalty Management consists of seven members, who were 

chosen because of their broad expertise and knowledge of public policy concerns or 

the specific activities associated with managing mineral leasing and revenue 

management programs. 

The Subcommittee on Royalty Management was charged with reviewing the current 

leasing program and providing advice to the Department of the Interior on royaltymanagement issues and other mineral-related policies. Specifically, the 

Subcommittee was asked to review: 

• The extent to which existing procedures and processes for reporting and 

accounting for Federal and Indian mineral revenues are sufficient to ensure 

that the Minerals Management Service receives the correct amount. 

• The audit, compliance, and enforcement procedures and processes of the 

Minerals Management Service to determine if they are adequate to ensure 

that mineral companies are complying with existing statutes, lease terms, and 

regulations as they pertain to payment of royalties. 

• The operations of the Royalty in Kind program to ensure that adequate 

policies, procedures, and controls are in place to ensure that decisions to take 
 Chapter 1

3 

Federal oil and gas royalties in kind result in net benefits to the American 

people. 

Subsequently, on September 28, 2007, the Subcommittee was asked by the 

Assistant Secretary for Land and Minerals Management to review procedures 

promulgated by the Department in response to the lack of price thresholds in Gulf of 

Mexico leases from 1998 and 1999 sales. 

This report provides the Subcommittee on Royalty Management’s findings and 

recommendations to the Royalty Policy Committee. In general, the Subcommittee 

concludes that MMS is an effective steward of the minerals revenue management 

program. However, the minerals revenue management program has some flaws 

that require prompt management attention, and distinct improvements must occur to 

ensure public confidence. The Subcommittee’s recommendations, which are 

intended to help achieve this end, address a variety of policy, program management 

and technical concerns that impact all three of the Department of the Interior 

bureaus that are involved in royalty management. 

II. Subcommittee Data-Gathering Process 

The Subcommittee held two face-to-face meetings and numerous teleconferences to 

discuss the issues and recommendations. 

The Subcommittee and staff reviewed information provided by MMS; met with MMS 

management and staff in Lakewood, Colorado in January and July 2007; attended a 

Royalty in Kind (RIK) crude oil sale in August, 2007; consulted with various RIK 

practitioners including staff of the Alberta Petroleum Marketing Commission 

(Province of Alberta Department of Energy), the New Mexico State Land Office, the 

Alaska Department of Natural Resources, the Texas General Land Office, the 

University of Texas Lands Office, and several major domestic oil and gas producers; 

and held discussions with Lukens Energy (consultants to MMS on various aspects of 

royalty management), the Internal Revenue Service, and the Department of Energy. 

In addition, the Subcommittee and staff found several recent reports issued by the 

Department’s Office of Inspector General to be especially valuable, including those 

addressing MMS’s audit and compliance program and events pertaining to Gulf of 

Mexico leases during 1998-99. 

In June 2007, Subcommittee staff visited an offshore operation in the Gulf of Mexico, 

accompanied by an inspector from the Office of Minerals Management (OMM). The 

staff also had discussions with accounting employees at OMM, in Metairie, 

Louisiana regarding MMS procedures for verifying production and reported heat 

content values. To better understand gas processing and measurement, 

Subcommittee staff visited two gas plants near Metairie handling gas from offshore 

production. Subcommittee staff also visited conventional and coal bed gas 

operations in the Atlantic Rim area south of Rawlins, Wyoming, and an oil operation 

in Bairoil, north of Rawlins, Wyoming. They were accompanied by Petroleum 

Engineering Technicians (PETs) from two Bureau of Land Management (BLM) field 
Report to the Royalty Policy Committee 

4 

offices: Rawlins and Cheyenne. While in Rawlins, the staff interviewed the PETs as 

well as a Production Accountability Technician (PAT) on production verification and 

accountability. Similar visits were made to BLM field offices in Carlsbad, New 

Mexico and Pinedale, Wyoming, to examine on-the-ground oil and gas metering 

facilities. In addition, Subcommittee staff also held telephone conversations with 

PAT staff and Petroleum Engineers in several BLM field offices: Tulsa, Oklahoma; 

Farmington, New Mexico; Carlsbad, New Mexico; Hobbs, New Mexico; and Ukiah, 

California. 

The Subcommittee staff also initiated a data-collection effort to gather additional 

information from the 31 BLM offices that manage onshore minerals leases for oil, 

gas, and solids. This information led to a number of findings and assisted in 

formulating recommendations. 
5 

Chapter 2 

A Brief History of Royalty Management
Report to the Royalty Policy Committee 

6 

Chapter 2 A Brief History of Royalty Management 

The Federal government owns, or is a trustee for, the rights to significant oil, gas, 

and other mineral resources located on Federal lands and in offshore locations. In 

exchange for leases enabling the exploration, development, and production of those 

resources, the government receives specified amounts of compensation in the form 

of bonuses, rentals, and royalties. Additionally, the Federal government provides 

revenue management services for mineral leases on Indian lands as part of its trust 

responsibility. 

Royalty payments derived from mineral leases on public and Indian lands have 

constituted a major source of revenue for the Federal government, States, and 

Indian Tribes and allottees. Table 1 and Table 2 below present information on 

mineral revenue collections and disbursement. As shown in Table 1, revenues from 

mineral leases totaled $11.4 billion in FY 2007. Table 2 shows mineral lease 

revenue disbursements. In FY 2007, disbursements totaled about $11.7 billion.2

 

The Minerals Management Service (MMS) has distributed a cumulative total of 

approximately $164.9 billion to Federal, State, and Indian accounts and special 

funds since 1982.3 Minerals royalties represent one of the largest sources of nontax revenue to the Federal Government. 

 

2

 Disbursements can include funds from prior fiscal years 3

 Statement of C. Stephen Allred, Assistant Secretary, Land and Minerals Management, U.S. 

Department of the Interior, before the Committee on Energy and Natural Resources, U.S. Senate, 

Jan. 18, 2006. p. 3 (available at

http://energy.senate.gov/public/_files/AllredOilandGasRoyaltyManagmentattheDOI11706TestimonyFi

nal2.doc). 
 Chapter 2

7 

Table 1 Mineral Lease Revenue Collections, FY 2007 

Offshore Federal Revenues

Royalties $6,441,214,179 

Rents $200,993,255 

Bonuses $373,930,998 

Other revenues $3,166,689 

Subtotal $7,019,305,121 

Onshore Federal Revenues

Royalties $3,345,115,685 

Rents $65,238,025 

Bonuses $528,705,220 

Other revenues $-4,286,262 

Subtotal $3,934,772,668 

American Indian, Tribal and Allottee Land Revenues

Royalties $465,513,833 

Rents $954,721 

Bonuses $0 

Other revenues $8,093,708 

Subtotal $474,562,262 

Total Royalties $10,251,843,696 

Rents, Bonuses, and Other Revenues $1,176,796,354 

Total $11,428,640,051 

SOURCE: U.S. Department of the Interior, Minerals Management Service, 

MRM Statistics Home, available at 

http://www.mrm.mms.gov/MRMWebStats/Home.aspx. 

Table 2 Mineral Lease Revenue Disbursements, FY 2007 

American Indian Tribes and Allottees $464,998,979 

Historic Preservation Fund $150,000,000 

Land & Water Conservation Fund $899,000,000 

Reclamation Fund $1,469,924,290 

State shares 

Offshore 8(g) $68,874,086 

Onshore $1,903,448,859 

U.S. Treasury $6,715,095,418 

Total $11,671,341,632

SOURCE: U.S. Department of the Interior, Minerals Management Service, 

MRM Statistics Home, available at 

http://www.mrm.mms.gov/MRMWebStats/Home.aspx. 
Report to the Royalty Policy Committee 

8 

The Mining Law of 1872 includes metallic, gemstones, and some specialty industrial 

minerals that can be developed without a royalty to the U.S. The Minerals Leasing 

Act of 1920 (MLA) provided the legislative foundation for the Federal royalty program 

for oil, gas, coal, and other minerals.4 Under the MLA, oil and gas royalties for 

production on Federal lands may be collected either “in value” or “in kind.” In-value 

royalties are taken in cash, as a share of the market value of the mineral production, 

while in-kind royalties are a share of the production volume.5 In 1947, the Acquired 

Lands Act extended the leasing authority of the MLA to include properties acquired 

from States and individuals, and the Outer Continental Shelf Lands Act of 1953 

(OCSLA) further extended this authority to offshore resources.6

 In conjunction with 

their implementing regulations, these laws required a royalty payment (in kind or in 

value) of at least 12.5% in exchange for the right to develop Federal and Indian 

resources.7 Developers of common variety minerals, such as sand, gravel, and clay 

also pay a fee to BLM for the extraction of those minerals. 

The collection, management, and disbursement of the royalties owed under these 

laws has proven a major responsibility and, given the substantial sums involved, one 

which has attracted a considerable degree of scrutiny through the years. The task of 

administering the royalty program was initially delegated to the Department of the 

Interior’s U.S. Geological Survey (USGS). In 1942, USGS promulgated royalty 

valuation rules for onshore leases that remained in effect until 1988, and later 

promulgated similar rules that governed valuation of production from offshore 

leases.8 

However, USGS management of the royalty program was subject to increasing 

criticism. Between 1969 and 1977, the Department of the Interior’s Inspector 

General issued five reports critical of the program, and in October 1981, a GAO 

report entitled Oil and Gas Royalty Collections—Longstanding Problems Costing 

Millions was issued.9 Citing mismanagement, an obsolete accounting system, and 

under-collection of royalties, it was the sixth GAO report criticizing the program in 22 

years.10 In July 1981, the media openly accused the USGS of mismanagement 

resulting in the theft of “billions of dollars’ worth of the public’s oil” from Federal and 

Indian lands.11 

 

4

 Congressional Budget Office, Reforming the Federal Royalty Program for Oil and Gas, Chapter 1: 

Introduction, Nov. 2000 (available at http://www.cbo.gov/showdoc.cfm?index=2695&sequence=2#t1). 5 Ibid. 6 Id. 7

 Peter J. Schaumberg & Geoffrey Heath, Royalty Valuation and Management 101: A Primer (Part A), 

p. 2A-1-A-2. 

8 Id. at p. 2A-4 9

 Energy and Materials Program, Office of Technology Assessment, U.S. Congress, The Royalty 

Management Program’s Auditing and Financial System: Technical Issues (Background Paper), Jul. 

1990, p. 11 (available at http://govinfo.library.unt.edu/ota/Ota_2/DATA/1990/9040.PDF); Government 

Accountability Office, Oil and Gas Royalty Collections--Longstanding Problems Costing Millions, 

AFMD-82-6, Oct. 1981 (available at http://archive.gao.gov/f0902b/116872.pdf). 10 Id. 11 Jack Anderson, Laxity Allows Cheating on Oil Royalties, Washington Post, Jul. 2, 1981, p. B17. 
 Chapter 2

9 

In response, on July 8, 1981, Secretary of the Interior James Watt established the 

Commission on Fiscal Accountability of the Nation’s Energy Resources, better 

known as the Linowes Commission, to investigate allegations of irregularities in 

royalty payments, as well as charges of oil theft from Federal and Indian lands. After 

studying the long history of royalty management and previous recommendations for 

improvements, the Commission submitted its report entitled Report of the 

Commission, Fiscal Accountability of the Nation’s Energy Resources (Linowes 

Commission Report) on January 21, 1982. 

The results of the investigation undertaken by the Linowes Commission raised a 

number of serious concerns. In its report, the Commission stated that: 

“Management of royalties for the nation’s energy 

resources has been a failure for more than 20 years. 

Because the Federal government has not adequately 

managed this multibillion dollar enterprise, the oil and gas 

industry is not paying all the royalties it rightly owes. The 

government’s royalty recordkeeping is in disarray. . . . 

The results of individual audits, which have often 

uncovered large underpayments, suggest that hundreds 

of millions of dollars owed to the U.S. Treasury, the 

States, and Indian Tribes are going uncollected every 

year. 

In addition, oil thefts are occurring on Federal and Indian 

leases. The extent of theft and the amount of royalty 

losses from theft are unknown, but it is well-documented 

that security at many Federal and Indian lease sites is lax 

and is an open invitation to theft.”12

The report cited an array of specific problems, including: 

• The failure to verify data reported by companies; 

• Unreliable lease account records; 

• Late payments and/or underpayments; and 

• An ineffective audit system.13 

It concluded that, “[i]n short, the industry is essentially on an honor system.”14 

Accordingly, the Linowes Commission determined that the government’s system of 

royalty management was in need of “a thorough overhaul” in order to ensure that 

“royalties for the Nation’s energy resources were fully and fairly collected on behalf 

of the people of the United States,” and detailed 60 specific recommendations for 

 

12 U.S. Department of the Interior, Report of the Commission, Fiscal Accountability of the Nation’s 

Energy Resources, David F. Linowes, Chairman, Jan. 1982, p. xv. 13 Id. at p. 15. 14 Ibid. 
Report to the Royalty Policy Committee 

10 

revising and rebuilding the system.15 The Commission’s findings and 

recommendations in many ways signaled the transition to modern royalty valuation 

in the U.S., becoming major guideposts as the royalty management program 

evolved. 

Congress responded to one of the Commission’s recommendations by passing the 

Federal Oil and Gas Royalty Management Act of 1982 (FOGRMA16), which sought 

to ensure the prompt and accurate collection of oil and gas royalties. Consistent 

with the Linowes Commission’s report, FOGRMA directed the Secretary to establish 

a “comprehensive inspection, collection, and fiscal and production accounting and 

auditing system to provide the capability to accurately determine oil and gas 

royalties, interest, fines, penalties, fees, deposits, and other payments owed, and to 

collect and account for such amounts in a timely manner.”17 In FOGRMA sections 

202 and 205, Congress provided for States and Tribes to assume compliance 

activities on leases within their respective jurisdictions. This was to be accomplished 

through cooperative audit agreements. 

Among the other influential recommendations set forth by the Commission was the 

suggestion that an independent royalty and minerals management agency be 

created in order to ensure effective accounting, production verification, royalty 

collection, and enforcement from that point forward. Secretarial Order 3071 issued 

by Secretary Watt on January 17, 1982 created a new bureau, the Minerals 

Management Service (MMS), which assumed responsibility for the nation’s royalty 

management program. By creating MMS, the Secretary of the Interior effectively 

elevated royalty management from a program within a division of USGS to a bureaulevel mission, with a sharper focus, a new dedication of purpose, and the means for 

streamlining and improving its operations.18 In December 1982, the production 

accountability responsibilities of the United States Geological Survey Conservation 

Division were transferred to the Bureau of Land Management. 

The newly created MMS was to manage and account for all revenues generated by 

onshore mineral leases on Federal and Indian lands, as well as by Federal offshore 

leases. Later, in May 1982, MMS was also charged with running the Federal 

government’s program for managing mineral resources on the Outer Continental 

Shelf (OCS).19 Since that time, new legislation, court decisions, agency regulations, 

and agency policies and guidance have further altered the landscape of royalty 

management. 

 

15 Id. at p. xv. 16 P.L. 97-451, Jan. 12, 1983. 

17 Id. at § 101(a), 96 Stat. 2449. 18 U.S. Department of the Interior Minerals Management Service, Gulf of Mexico Region, About MMS: 

Who is the Minerals Management Service?

http://www.gomr.mms.gov/homepg/whoismms/mmsfact.html (Mar. 21, 2001). 19 Id. 
 Chapter 2

11 

Notably, in 1996, the Federal Oil and Gas Royalty Simplification and Fairness Act 

(RSFA20) attempted to improve and streamline the Federal royalty program by 

expanding the authority of States to share in the responsibility for royalty collection 

and accounting, prescribing statutes of limitations for royalty collection and refunds, 

and imposing credit interest on overpayments and underpayments of royalties. In 

1996 Congress also enacted the Outer Continental Shelf Deep Water Royalty Relief 

Act, Public Law 104-58, offering royalty relief for certain deepwater oil and gas 

leases in order to promote deep water exploration and development. 

More recently, the Energy Policy Act of 2005 21 featured new incentives for marginal 

properties, gas hydrates, CO2 injection production, and deep gas shallow water and 

deep water production, as well as several other programs and provisions to increase 

the Nation’s energy supplies.22

MMS’s regulations since passage of FOGRMA in 1982 appear principally at Title 30, 

Code of Federal Regulations, Subchapter A. Examples of MMS’s activities since 

then include the following: 

• MMS promulgated regulations addressing site security23 and expanding the 

role of States and Indian Tribes in the audit of royalty payments.24 

• MMS convened a Royalty Management Advisory Committee in 1986, which 

offered detailed recommendations for the oil and gas valuation regulations 

issued in 1988, and later addressed the relative roles of MMS, State and 

Indians. 25

• MMS established the Royalty Policy Committee in 1995. 

• MMS promulgated regulations or policy guidance addressing several matters 

prescribed by RSFA: 

o Period for agency action and appeals (30 C.F.R. Part 290); 

o Delegation of royalty collection authority to States (30 C.F.R. Part 227); 

o Marginal properties (30 C.F.R. Part 204, Subparts A and C). 

 

20 P.L. Law 104-185 

21 Public Law 109-58 

22 Judith M. Matlock & Deborah Gibbs Tschudy, A Practical Application of the Federal and Indian Oil 

and Gas Valuation Regulations, p. 5-6 (Feb. 2007). 23 Civil penalty provisions are provided in 30 C.F.R. § 241.60(a)(2), for failure or refusal “to permit 

lawful entry, inspection, or audit”; and in Section 241.60(b)(2) for persons who “Knowingly or willfully 

take or remove, transport, use or divert any oil or gas from any lease site without having valid legal 

authority to do so”; and in Section 241.60(b)(2), for persons who “Purchase, accept, sell, transport, or 

convey to another person, any oil or gas knowing or having reason to know that such oil or gas was 

stolen or unlawfully removed or diverted.” 

24 30 C.F.R. Part 227 (“Delegation to States” for Federal leases) expanded States’ delegation 

activities; Parts 228 and 229 delegated Indian lease audit activities to States, for Indian leases 

located in those States. 

25 53 FR 1184 (Jan. 15, 1988) (oil valuation); 53 FR 1230 (Jan. 15, 1988). 
Report to the Royalty Policy Committee 

12 

• After issuance of a 1996 Interagency Report critical of oil valuation 

standards,26 MMS undertook two major oil valuation rulemakings leading to 

promulgation of regulations, in 2000 and again in 2004 that significantly 

changed oil valuation and withstood legal challenge.27 

• In 1997, MMS revised and tightened gas valuation standards for Federal 

leases.28 That regulation also withstood a legal challenge from industry.29

• In 2005, MMS promulgated regulations clarifying procedures for 

transportation deductions in gas valuation.30

Today, MMS oversees two major programs, the Minerals Revenue Management 

(MRM) program and the Offshore Minerals Management (OMM) program. MMS 

shoulders significant responsibilities in managing the natural and economic 

resources of the U.S., managing more than a billion acres of offshore public land, 

and collecting billions of dollars in mineral revenues annually.31 Both of these 

functions are important to the nation’s economic health, and key to meeting the 

nation’s energy needs.32 With this background in mind, the Subcommittee focused 

primarily on reviewing procedures and processes surrounding the management of 

mineral revenues derived from royalties on Federal and Indian oil and gas leases at 

the Department of the Interior. 

The management of Federal and Indian resources continues to be a complex 

process. Coordination among Federal, State, and Tribal agencies is required to 

ensure that resources are available for development and production, the 

environment is protected, and royalty revenues are collected and properly 

distributed.

 

26 “Final Interagency Report on Valuation of Oil Produced from Federal Leases in California,” U.S. 

Department of the Interior, U.S. Department of Energy and U.S. Department of Commerce, May 

1996. 

27 The 2000 Oil Rule, 65 FR 14022 (March 15, 2000), abandoned the use of posted prices and other 

benchmarks in favor of spot price indexing; the 2004 Oil Rule, 69 FR 24959 (May 5, 2004) shifted 

from spot price indexing to NYMEX futures indexing. Although the 2000 Oil Rule was the subject of a 

judicial challenge, that challenge was dismissed after settlement negotiations led to the 2004 Oil 

Rule. 

28 1997 Gas Rule, 62 FR 65753 (Dec. 16, 1997). 29 IPAA v. DeWitt, 279 F.3d 1036 (D.C. Cir. 2002). 30 The 2005 Gas Rule, 70 FR 11869 (March 10, 2005) clarified and amended the 1997 Gas Rule. 31 Ibid. 32 Allred, supra note 2, at p. 2. 
13 

Chapter 3 

Collections and Production Accountability 
Report to the Royalty Policy Committee 

14 

 Chapter 3 Collections and Production Accountability 

Summary of Major Recommendations in Chapter 3 

(A complete list of all recommendations is provided in Appendix 1) 

Legislative Changes 

• The Department of the Interior should support amending the Royalty 

Simplification and Fairness Act (RSFA). The Energy Policy Reform and 

Revitalization Act of 2007 (HR 2337) introduced in the 110th Congress contains 

language in Section 215 (“Liability for Royalty Payments”) simplifying the RSFA 

collection requirements by restoring MMS’s ability to pursue the “payor” for debts, 

as was done prior to the enactment of RSFA. The Subcommittee recommends 

separating Section 215 from HR 2337, if necessary, for passage as a standalone piece of legislation. This RSFA amendment would allow for more timely 

and less costly collection of MMS’s unsettled royalty debts. (see 

Recommendation 3-8 on page 23) 

Verification of BTU Values 

• MMS should amend Form MMS-2014 to record natural gas BTU values, which 

form the basis for required royalty payments. This will require adding a second 

column to the form: the new column will report BTU value, and the original 

column will still report volume times BTU value (total mmBTU). (see 

Recommendation 3-6 on page 22) 

• MMS should modify the Gas and Liquid Verification Systems (GVS and LVS), or 

develop an equivalent, automated system to compare BTU values and oil quality 

data in submitted product quality statements to information in Oil and Gas 

Operations Reports (OGORs) (see also recommendations under Electronic Data 

Submittals, Data Exchange, and Accounting Tools, beginning on page 27). (see 

Recommendation 3-7 on page 23) 

Training and Human Resource Improvements 

• BLM should develop estimates of the number of hours required to complete 

simple and complex reviews. These estimates should be used to help determine 

appropriate staffing levels, closely corresponding to oil or gas activity in a given 

field office. In the interim, BLM should reallocate its FY 2008 funding for oil and 

gas activities to place greater emphasis on the timely hiring of additional 

Production Accountability Technicians (PATs) sufficient to meet current and 

expected workloads. (see Recommendation 3-25 on page 36) 

• BLM should assess the training needs for Petroleum Engineering Technicians 

and Production Accountability Technicians (see Recommendation 3-32 on page 

40) 

• MMS and BLM should establish standardized position descriptions for Production 

Accountability Technicians in order to consistently define the roles and 

responsibilities of these individuals (see Recommendation 3-30 on page 40) 
 Chapter 3

15 

Technological Improvements 

• BLM should establish and maintain a gas measurement team of specialists to 

assess new gas measurement technologies. This team should provide 

recommendations to BLM by June 2008. Following the development of an initial 

set of recommendations, the team should meet on an annual basis to evaluate 

the extent to which new technologies should be considered in BLM’s guidance. 

(see Recommendation 3-23 on page 33) 

• BLM should work with MMS’s Minerals Revenue Management (MRM) division to 

develop and implement a system that electronically transmits information on 

lease establishment and any follow-up leasing actions affecting lease status. 

(see Recommendation 3-9 on page 27) 

• MMS’s Minerals Revenue Management division (MRM) should phase in a 

requirement that all payors submit their payments electronically, with a goal of full 

implementation in five years. (see Recommendation 3-13 on page 27) 

• MMS’s Offshore Minerals Management division (OMM) should phase in a 

requirement for offshore lease operators to submit all oil and gas volume and 

quality statements electronically, in an automated file format. Once electronic 

reporting of quality information is established, MMS should modify the Gas and 

Liquid Verification Systems (GVS and LVS) to compare information submitted via 

GVS/LVS to information submitted via Oil and Gas Operations Reports 

(OGORs). (see Recommendation 3-11 on page 27) 

Budget and Performance 

BLM should add an action code in its LR2000 records tracking system to allow each 

production accountability review to be tracked for management and performance 

monitoring purpose. (see Recommendation 3-24 on page 36) 
Report to the Royalty Policy Committee 

16 

Chapter 3 Collections and Production Accountability 

I. Subcommittee Charge 

In the charter creating the Subcommittee on Royalty Management, the Secretary 

charged the Subcommittee with reviewing 

“the extent to which existing procedures and processes for 

reporting and accounting for Federal and Indian mineral 

revenues are sufficient to ensure that MMS receives the correct 

amount.” 

II. Introduction 

Given that Federal and Indian oil, gas and coal make up about 98% of the total 

royalties paid in FY 2006, it appeared prudent for the Subcommittee to focus 

primarily on these commodities.33 In the course of investigating issues relating to 

collections and production accountability, the Subcommittee gathered data from 

MMS in Denver, Colorado and Metairie, Louisiana, as well as a number of BLM 

State and field offices. 

Production accountability is a function performed by both MMS and BLM, to ensure 

that an operator or lessee accurately reports barrels of oil, cubic feet of gas, British 

Thermal Units (BTUs) of gas, tons of coal, tons of rock, etc. produced from Federal 

and Indian properties. MMS and BLM currently perform yearly reviews of production 

and royalty accountability, and set annual targets for accomplishing production 

accountability reviews. 

MMS is responsible for collecting all revenue from production, and BLM is 

responsible for verifying the onshore portion of this production, including BTU values 

for natural gas. MMS’s division of Offshore Minerals Management (OMM) is 

responsible for verifying production from offshore leases. If BLM and OMM find that 

the verified production differs what is reported on the Oil and Gas Operations Report 

(OGOR) or the Production and Royalty Report for solid minerals, they will notify 

MMS’s Minerals Revenue Management division (MRM). MRM is responsible for 

taking action to account for the correct production. 

Collections activities are a function of the MMS Financial System, and are designed 

to account for all the different statutes governing collection and disbursement of 

revenues from oil, gas, and solid minerals. When BLM issues onshore leases, each 

lease is assigned a specific Treasury fund code relating to the lands where the lease 

is located. MRM reviews this data for consistency and inputs the data into the 

system with a distribution code instructing the system on how to distribute each 

collection. For offshore leases, the MMS Gulf of Mexico region office collects 

information on leased acreage and revenue-sharing requirements with the States 

 

33 The Subcommittee also gathered information on other commodities, including Indian sand and 

gravel. 
 Chapter 3

17 

under relevant statues (Outer Continental Shelf Act of 1978; Gulf of Mexico Energy 

Security Act of 2006). Offshore block and boundary data is also collected and 

automatically transferred to MRM. 

The Subcommittee’s work highlights the importance of production accountability for 

efficient royalty management. When problems occur in this area, they can have a 

dramatic impact on “downstream” functions such as audit and compliance. 

Production accountability problems may not be apparent to staff involved in the audit 

and compliance processes; these problems can make it difficult or impossible for the 

audit and compliance processes to ensure that proper payment occurs.34

III. Background 

The leasing program accounted for FY 2007 revenues of over $10 billion on a range 

of minerals taken from nearly 30,000 onshore and offshore leases. Table 3 reports 

mineral leases of record for 2007, as well as the revenue generated from these 

leases.35 The onshore and offshore programs differ in terms of scope and scale, 

affecting the impact that these programs have on royalty management. The onshore 

program also deals with issues relating to jurisdiction (e.g., Federal, State, Tribal, 

local governments) and land ownership (e.g., Federal, State, Indian, private lands). 

Furthermore, there is a large number of low-producing onshore leases scattered 

across the landscape. 

The onshore program covers many more jurisdictions than the offshore program. Of 

the nearly 30,000 total leases, about 27,300 are associated with onshore minerals. 

In FY 2007, these onshore leases accounted for approximately $3.8 billion, or 37% 

of total royalty revenue. The 2,335 offshore leases accounted for approximately 

$6.4 billion, or 63% of total royalty revenue. 

 

34 The Subcommittee acknowledges the diligence, and dedication of BLM and MMS staff members, 

who are charged with managing thousands of leases. 

35 Note that Table 3 includes only royalty revenues; Table 1 and Table 2 in Error! Reference source 

not found. include royalties, rents, bonuses, and other revenues. 
Report to the Royalty Policy Committee 

18 

Table 3 Total Royalty Revenues Associated with Producing Leases for FY 

2007 (Accounting Year) 

Jurisdiction Minerala 

Producing 

Leases Royalty Revenuesb

Federal

Offshore Oil & Gas 2,330 $6,444,367,887

Sulfur 5 $12,980

Subtotal 2,335 $6,444,380,867

Federal

Onshore Asphalt 4 - 

Clay 2 $4,510

Coal 250 $554,874,658

Copper 1 $26,110

Garnet 1 - 

Geothermal 134 $12,128,433

Gilsonite 15 $632,049

Hardrock 41 $15,036,237

Oil & Gas 22,608 $2,717,175,246

Phosphate 81 $2,318,456

Potassium 131 $12,234,503

Sand & Gravel 2 - 

Sodium 81 $14,200,724

Subtotal 23,351 $3,328,630,927

Federal/Indian 

(Cook Inlet Leases)

Onshore Oil & Gas 66 $14,419,059

Subtotal 66 $14,419,059

Indian

Onshore Cinders 1 $6,549

Coal 7 $87,899,929

Copper 2 $5,271,328

Gypsum 2 $516,710

Hard Rock 1 - 

Mining-Unspecified 2 - 

Oil & Gas 3,811 $367,821,610

Phosphate 23 $1,200

Sand & Gravel 35 $9,869,652

Uranium 1 - 

Subtotal 3,885 $471,386,979

Grand Total 29,637 $10,258,817,831

b

 Royalty revenue does not include bonuses or rents paid.

Source: MMS data.

a

 Minerals developed under the 1872 Mining Law are not included in this table as 

no royalties are paid for them.
 Chapter 3

19 

IV. Findings and Recommendations 

A. Federal and Indian Oil and Gas 

1. Accurate Reporting of British Thermal Unit (BTU) Values 

Issue 

The Department of the Interior is responsible for ensuring accurate measurement 

and reporting of both the volume and heat value of produced gas. Heat value is 

commonly measured in British Thermal Units (BTUs). Incorrect BTU reporting can 

adversely affect royalty payments owed to the United States, States and Indian 

Tribes and Indian allottees. 

Background 

Natural gas is typically sold by the mmBTU (million British Thermal Units). This tally 

depends on the volume and BTU value of the gas. Any discrepancy in the reported 

BTU value of gas has a direct impact on the sale value and resultant royalty owed. 

For example, a volume of 500 million cubic feet (mmcf) of natural gas with a heat 

content of 1,000 BTU per standard cubic foot has a total heat value of 500,000 

mmBTU. At a market value of $6 per mmBTU, this gas would be worth $3,000,000. 

If the same 500 mmcf of gas was reported to have a heat content of 1,100 BTU per 

standard cubic foot, the total market value at $6 per mmBTU would be $3,300,000. 

The total reported value, and thus the total royalty owed would be 10% higher. 

The BTU value of natural gas production varies from reservoir to reservoir, and can 

vary over time within a single reservoir. Natural gas in “wet gas reservoirs” (gas 

reservoirs containing natural gas liquids, or NGLs), tends to have a higher BTU 

value (because of those NGLs). Many natural gas reservoirs that initially produce 

dry gas flows (with little or no presence of NGLs) become wet natural gas flows as 

they age.36 Approximately 85% of offshore natural gas production from the Gulf of 

Mexico is considered wet gas.37 Approximately 57% of onshore natural gas 

production from the Western United States is wet gas.38

Factors that may cause variation in the BTU value of a gas reservoir include 

• New wells entering the production stream; 

• Old wells stopping production; 

 

36 Wet Gas Flow Metering With Gas Meter Technologies, Richard Steven, Colorado Engineering 

Experiment Station, Inc, Nunn, Colorado,

http://www.ceesi.com/pubs/1006_GasMeterTechnologies.pdf, September 1, 2006. 37 E-mail communication, Petroleum Engineer, MMS, OMM division, based on 2006 Gulf Region 

production data, September 13, 2007. 

38 Geologist, Wyoming State Office, BLM, E-mail communication, based on IHS Energy Inc 

production data for July 2007, October 2, 2007. 
Report to the Royalty Policy Committee 

20 

• Changes in the relative contributions from multiple gas formations in a well; 

• Variation in the amount of natural gas liquids (NGL) in wet gas; and 

• The effectiveness of gas separators in removing production liquids after gas 

leaves the wellhead. 

MMS regulations require offshore producers to sample natural gas to determine its 

BTU value on at least a semi-annual basis. MMS previously required the vast 

majority of operators to submit monthly gas analysis reports (GARs) containing the 

gas components and BTU value for each gas royalty measurement point. The GAR 

submission requirement was discontinued in 1996.39 BLM requires onshore 

operators to report BTU values for onshore Federal leases on at least an annual 

basis.40 Although both MMS and BLM regulations address gas sampling frequency, 

neither agency has specific requirements for the method of taking samples. 

MMS uses the automated Gas Verification System (GVS) to compare gas volume 

statements from producing Federal offshore oil and gas leases to Oil and Gas 

Operations Reports (OGORs) provided by producers from those leases. The GVS 

automatically generates reports when reported gas volumes from gas statements do 

not match volumes reported on OGORs.

Findings 

MMS and BLM do not consistently request gas analysis reports to verify BTU values 

reported by oil and gas operators. For example, none of the BLM offices 

administering the top fourteen gas-producing onshore Federal leases requested gas 

analysis reports for those leases during FY 2005 or FY 2006. Similarly, MMS has 

not recently requested gas analysis reports from operators in the Gulf of Mexico.41 

While the Subcommittee has not collected a comprehensive set of information, 

anecdotal information suggests that in some instances, BLM offices and the Navajo 

Nation have expressed concerns regarding the accuracy of operator-reported BTU 

values.42 The Subcommittee views this as an issue that should be addressed on a 

more systematic basis, given the potential royalty collection implications. 

Federal regulations for offshore oil and gas (30 CFR 250.1203(b)(5)), and BLM 

Onshore Order Number 5 for onshore oil and gas, address a producer’s BTU 

sampling frequency requirements. The regulations generally require that certain 

 

39 When MRM redesigned its systems in approximately 1988, it developed a mathematical model to 

estimate the volume of gas, to target obvious under-reporting and request plant statements to 

corroborate the volumes reported on Form MMS-2014. This replaced the GAR requirement. E-mail 

communication, Supervisory Minerals Revenue Specialist, October 3, 2007. 40 In some instances this may be required on a more frequent basis. See Onshore Oil and Gas Order 

No. 5, III C. 23, Federal Register Vol. 54, No. 36, February 24, 1989. 41 Personal communication, Section Chief, Surface Commingling and Production Measurement 

Section, MMS, September 26, 2007.

42 For example, BTU values typically vary over time as a reservoir is drained. Reporting the same 

monthly BTU value for several consecutive months, may be an indication of inaccurate reporting. Email communication, Assistant Director, Minerals Department, Navajo Nation, September 26, 2007.
 Chapter 3

21 

types of samples be taken (i.e., proportional-to-flow or spot samples), or require the 

use of methodologies such as recording calorimeters or compositional analysis. 

However, neither the Regulation nor the BLM Order addresses specific standards to 

be used to obtain such samples. For example, these regulations do not set 

requirements for sampling locations (upstream or downstream from sales meters), or 

indicate how to take samples to avoid biasing the results. 

The Gas Verification System (GVS) does not compare BTU values of offshore 

natural gas production reported from gas statements with OGORs at this time, 

focusing solely on gas volume. Similarly, the Liquid Verification System (LVS) does 

not compare oil quality from run tickets with OGORs. 

Form MMS-2014 does not require reporting of BTU values for natural gas upon 

which royalty payments could be made. MMS staff performing compliance reviews 

or audits would benefit from clear reporting of BTU values, rather than having to 

manually derive those values from sales volume and total mmBTUs sold. 

30 CFR 250.1203(b)(5) and BLM Onshore Order Number 5 require operators to take 

natural gas samples, but these regulations do not require submittal of gas analysis 

reports based on these samples to MMS or BLM. 

As used in this report, a Production Accountability Review does not include oil or gas 

taken or lost before it reaches metering points within individual leases, units or 

communization agreement areas.43 BLM regulations allow for certain unmetered 

uses of gas on-site at a lease,44 and oil or gas may be lost as a result of leaks in 

infrastructure or outdated equipment. However, losses are considered more likely to 

result from inadequate site security, allowing resources to be taken illegally before 

reaching a metering point, such as a Lease Automated Custody Transfer (LACT) 

unit, or orifice plate/Electronic Flow Computer. Quantifying these losses is 

extremely difficult. 

The Subcommittee received anecdotal reports of producing leases (Federal and 

Indian) where MMS has not received required reports (i.e., the 2014 royalty report 

and the OGOR) from the responsible party (operator, lessee or payor). Although the 

issue is beyond the scope of this review, the Subcommittee wishes to bring it to the 

Secretary’s attention. 

 

43 See 43 CFR 3105.2-2: “When a lease or a portion thereof cannot be independently developed and 

operated in conformity with an established well-spacing or well-development program, the authorized 

officer may approve communitization or drilling agreements for such lands with other lands, whether 

or not owned by the United States, upon a determination that it is in the public interest. Operations or 

production under such an agreement shall be deemed to be operations or production as to each 

lease committed thereto.” 

44 BLM performs some production accountability to verify that the amount of unmetered gas used can 

be considered reasonable. 
Report to the Royalty Policy Committee 

22 

Accurate determination and reporting of BTU values for natural gas produced from 

all oil and gas leases will help to ensure accurate royalty payments to the United 

States, States and Tribes.45

Recommendations 

By June 2008, MMS and BLM should implement the following recommendations: 

Recommendation 3-1 MMS and BLM should develop a procedure to determine 

the potential BTU variability of produced natural gas on a by-reservoir or bylease basis, and estimate the implications for royalty payments. 

Recommendation 3-2 MMS and BLM should adjust BTU frequency 

requirements for sampling and reporting on a case-by-case basis, or consider 

other regulatory requirements. 

Recommendation 3-3 MMS and BLM should establish consistent guidelines for 

requesting BTU information from gas producers, and should systematically 

examine the validity of that information. 

Recommendation 3-4 MMS and BLM should establish procedures to 

systematically compare the BTU values reported on the Oil and Gas 

Operations Reports (OGORs) with gas analysis reports (GARs) to determine 

whether BTU reporting is accurate. 

By December 2008, MMS and BLM should implement the following 

recommendations: 

Recommendation 3-5 MMS should revise 30 CFR 250.1203(b)(5) (“Oil and Gas 

and Sulfur Operations in the Outer Continental Shelf—Gas Measurement.” 

Similarly, BLM should revise BLM Onshore Order Number 5. Both revisions 

should reflect BTU sampling requirements deemed necessary by the agency 

to ensure accurate BTU sampling frequency, methodology, and reporting. 

Revisions on methodology should include requirements for sampling location 

(e.g., immediately upstream or downstream of natural gas sales meters). 

MMS’s Offshore Minerals Management (OMM) office and BLM should 

consider adopting the gas sampling standard of the American Petroleum 

Institute, Chapter 14, Section 1, Collecting and Handling of Natural Gas 

Samples for Custody Transfer, February 2006, or a similar standard. Both 

agencies should consider requiring certified (ISO) lab testing of natural gas 

samples. 

Recommendation 3-6 MMS should amend Form MMS-2014 to record natural 

gas BTU values, which form the basis for required royalty payments. This will 

require adding a second column to the form: the new column will report BTU 

 

45 The “whistleblower” program discussed in Chapter 4 is also relevant with respect to efforts to 

improve production accountability. 
 Chapter 3

23 

value, and the original column will still report volume times BTU value (total 

mmBTU). 

Recommendation 3-7 MMS should modify the Gas and Liquid Verification 

Systems (GVS and LVS), or develop an equivalent, automated system to 

compare BTU values and oil quality data in submitted product quality 

statements to information in Oil and Gas Operations Reports (OGORs) (see 

also recommendations under Electronic Data Submittals, Data Exchange, 

and Accounting Tools, beginning on page 27). 

2. Collections Complexities under the Royalty Simplification and Fairness 

Act of 1996 

Issue 

The Royalty Simplification and Fairness Act of 1996 (RSFA) prevents MMS from 

pursuing the “payor” for payments of royalties owed. Amending RSFA would reduce 

time, effort, and cost associated with collecting unpaid royalties from oil and gas 

operators. 

Background 

MMS’s division of Minerals Revenue Management (MRM) uses a financial system 

based on reporting and paying by “payors” (entities that report and pay royalties). 

RSFA requires that MRM pursue the operating rights owner (primarily), or the lessee 

(secondarily), for any unsettled debts, rather than simply pursuing the entity 

reporting and paying MRM (the “payor”). 

Findings 

MRM does not have a system in place to track the identity of operating rights 

owners. If MMS were to enforce the obligation against a lessee, the result could be 

an extremely costly and lengthy process involving collection actions against 

hundreds of entities. In addition, under the Debt Collection Improvement Act MMS 

has only 180 days to collect payments. Because debt collection under RSFA is such 

a slow process, a 2006 Inspector General audit46 concluded that MMS was not in 

compliance with the Debt Collection Improvement Act of 1996, by failing to identify 

delinquent receivables to the U.S. Department of the Treasury in a timely manner. 

Recommendation 

Recommendation 3-8 The Department of the Interior should support amending 

the Royalty Simplification and Fairness Act (RSFA). The Energy Policy 

Reform and Revitalization Act of 2007 (HR 2337) introduced in the 110th

Congress contains language in Section 215 (“Liability for Royalty Payments”) 

simplifying the RSFA collection requirements by restoring MMS’s ability to 

pursue the “payor” for debts, as was done prior to the enactment of RSFA. 

 

46 Draft Independent Auditors’ Report on the Minerals Management Service Financial Statements for 

Fiscal years 2006 and 2005 (Assignment No. X-IN-MMS-0019-2006). 
Report to the Royalty Policy Committee 

24 

The Subcommittee recommends separating Section 215 from HR 2337, if 

necessary, for passage as a stand-alone piece of legislation. This RSFA 

amendment would allow for more timely and less costly collection of MMS’s 

unsettled royalty debts. 

3. Electronic Data Submittals, Data Exchange, and Accounting Tools 

Issue 

Royalty collection operations offer opportunities for substantial efficiency 

improvements, especially in areas of coordination between MMS and BLM: 

• Automated lease information data exchange; 

• Electronic payments; 

• Automated accounting tools; and 

• Electronic volume or quality reporting by oil and gas producers. 

Non-electronic (i.e., manual or paper) lease status and production information, nonelectronic rental payments, non-electronic royalty payments, and inefficient 

accounting tools can result in: 

• Errors in determining whether Federal leases meet all statutory and 

regulatory requirements; 

• Inefficiencies in production accountability; and 

• Delays or erroneous royalty distributions from MRM to States. 

Background 

In FY 2007, over 2,000 companies reported and paid royalties totaling $10.25 billion 

from approximately 29,600 producing Federal and Indian leases. Table 4 shows 

that in FY 2007, MMS collected about a further $1.17 billion in non-royalty revenues, 

including bonus, rents, and other revenues. Total collections for FY 2007 (royalties 

plus revenues) were $11.4 billion. 

There are currently about 1,100 offshore Federal oil and gas sales locations on 

platforms in the Gulf of Mexico. When an offshore lease is established MMS’s 

division of Offshore Minerals Management (OMM) sends data electronically to 

Minerals Revenue Management (MRM). This is timed to coincide with MRM 

receiving the first year’s rental payment and any lease bonus. All post-leaseestablishment actions, such as notification that leases have started producing 

Federal oil and gas, are also sent electronically by OMM to MRM. 

BLM’s management challenges differ from those of MMS in several respects. First, 

the onshore program has considerably more leases and more wells than the 

offshore Federal oil and gas program: there are currently about 27,000 onshore 

Federal and Indian oil and gas leases with approximately 70,700 producing wells. 

Second, leases administered by decentralized BLM offices are spread throughout 

the western States and Alaska. MRM receives manual transmissions from BLM 

offices regarding notification of onshore Federal oil and gas lease establishment, as 

well as follow-up lease actions, such as notices of first production. 
 Chapter 3

25 

Table 4 Reported Royalties and Revenues, FY 2001 – FY 2007 ($ millions) 

FY 2001 FY 2002 FY 2003 FY 2004 FY 2005 FY 2006 FY 2007 

Royalties (by Mineral) 

Gas $5,358 $2,749 $4,235 $4,770 $5,151 $5,766 $4,644

Oil $2,363 $1,872 $1,553 $1,539 $2,594 $3,977 $4,401

Coal $399 $503 $463 $521 $542 $597 $634

NGL $206 $156 $183 $240 $286 $285 $368

Other $641 $59 $118 $66 $133 $106 $204

Royalty Total $8,967 $5,339 $6,551 $7,136 $8,706 $10,732 $10,252

Revenue Source 

Bonus $799 $331 $1,399 $709 $1,298 $1,586 $903

Rents $232 $189 $309 $264 $284 $285 $267

Other $5 $15 $8 $19 $5 $14 $7

Revenue Total $1,036 $535 $1,716 $992 $1,587 $1,885 $1,177

Grand Total $10,003 $5,874 $8,267 $8,128 $10,293 $12,616 $11,429

Source: MMS data.

Post-lease-establishment actions affect lease status, including whether a lease is 

meeting all statutory and regulatory requirements. For example, until a lease enters 

producing status, the operator must submit rental payments. Once a lease enters 

producing status, royalty payments required instead. MRM must have up-to-date 

information to avoid erroneous follow-up actions, such as sending improper rentalbill notices to a payor entitled to stop making rental payments. 

MMS computer systems are unable to automatically import volume statements from 

Federal onshore and offshore (Gulf of Mexico) gas producers. This is a major 

impediment to efficient royalty collection operations. In the early 1990s, BLM and 

MRM were developing an electronic system for sharing lease data. However, that 

system was never completed.47 

While MRM receives over 90% of royalty payments electronically, approximately 

40% of rental payments are received non-electronically. In FY 2007 electronic 

submissions totaled $9.3 billion in royalty payments and $107 million in rental 

payments, 

Prior to 2001, MRM used an automated tool known as the Accounting and Financial 

System/Production Auditing and Reporting System (AFS/PAAS). The AFS/PAAS 

system would compare of Federal oil and gas production volume reports to the 

royalties paid. Upon finding inconsistencies, the system would generate automatic 

exception reports. These exception reports, numbering in the thousands every 

 

47 Issues contributing to the abandonment of this system include difficulties with migrating data 

systems for concerns related to “Y2K,” competing priorities relating to the Automated Land and 

Minerals Record System implementation effort, and agencies’ failure to reach consensus on the use 

of “company codes” to identify lessees in data transmittals to MRM. Personal communication, 

Manager, Reporting Services, MMS. September 18, 2007 and November 14, 2007. 
Report to the Royalty Policy Committee 

26 

month, identified royalty payment discrepancies which could warrant follow-up action 

by MRM. This system was terminated during an MRM software migration, and has 

not been replaced. 

Findings 

For onshore and offshore Federal oil and gas leases, BLM manually transmits 

information on lease establishment and follow-up lease actions (e.g., notices of first 

production) to MRM. This manual process is a major impediment to efficient royalty 

collection operations. 

When operators manually submit oil and gas volume and quality statements, OMM 

personnel manually enter volume statements to the Liquid Verification System (LVS) 

and Gas Verification System (GVS). LVS and GVS then automatically compare the 

volume data to the volumes reported in Oil and Gas Operations Reports (OGORs). 

Manual entry by operators and OMM staff is inefficient and introduces potential for 

reporting errors. 

Neither MMS’s OMM division nor BLM receive Federal natural gas production 

volume data in a form that can be automatically imported into MMS computer 

systems. If volume reporting were automated, MMS and BLM would have a far 

more efficient system for reviewing the accuracy of Federal gas production data. 

BLM is currently developing a system for near real-time production data collection 

and auditing. The Remote Data Acquisition for Well Production system (RDAWP) is 

a secure, automated system being implemented in two BLM pilot offices established 

under Section 365 of the Energy Policy Act of 2005.48 RDAWP will allow BLM and 

industry to access current production data and other information necessary for timely 

production accountability assessments. 

As described in the MRM Strategic Business Plan 2007-2012, submission of nonelectronic rental and royalty payments to MRM can introduce errors as well as 

delays in distribution payments to States.49 For example, payors may submit 

payments for several leases without clearly or accurately indicating how to allocate 

the payment among the leases. This, in turn, makes it difficult for MRM to match 

payments to leases. 

When payors make electronic payments for Federal solid minerals production (i.e., 

coal, potash, etc.) using the Solid Minerals Production and Royalty Report Form 

(MMS-4430), the electronic interface performs up-front error correction. For 

example, when payors enter payment data, the data entry screens check for 

erroneous or prohibited data. Electronic payments could be matched to other 

information submitted on production volumes and royalties as well. The electronic 

Report of Sales and Royalty Remittance form (MMS-2014) is used for Federal oil 

 

48 Section 365 establishes a Federal Permit Streamlining Pilot Project (“Pilot Project”) with the intent 

to improve the efficiency of processing oil and gas use authorizations on Federal lands. 49 See http://www.mrm.mms.gov/StudyRepts/PDFDocs/MRMSP0712.pdf.
 Chapter 3

27 

and gas production payments, and includes error correction for some, but not all, 

data entry. 

Prior to 2001, AFS/PAAS automatically generated exception reports that might 

warrant follow-up action by MRM staff to ensure that correct royalty was paid on 

produced Federal oil and gas. The new system replacing AFS/PAAS does not 

generate exception reports. As a result, MRM staff must use other tools to 

determine which royalty cases to investigate. 

Increased sharing of electronic information between BLM and MRM, as well as 

between OMM and MRM, would dramatically increase the consistency of Federal 

lease status and production information across these agencies. In turn, this would 

help ensure timely and accurate royalty payments to the United States. 

Recommendations 

Recommendation 3-9 BLM should work with MMS’s Minerals Revenue 

Management (MRM) division to develop and implement a system that 

electronically transmits information on lease establishment and any follow-up 

leasing actions affecting lease status. 

Recommendation 3-10 MMS and BLM should require gas analysis reports from 

all operators, at a frequency to be determined by the agencies. 

Recommendation 3-11 MMS’s Offshore Minerals Management division (OMM) 

should phase in a requirement for offshore lease operators to submit all oil 

and gas volume and quality statements electronically, in an automated file 

format. Once electronic reporting of quality information is established, MMS 

should modify the Gas and Liquid Verification Systems (GVS and LVS) to 

compare information submitted via GVS/LVS to information submitted via Oil 

and Gas Operations Reports (OGORs). 

Submittal of gas analysis reports to MMS’s OMM division and BLM would 

enable these agencies to more readily verify the reasonableness of reported 

BTU values. 

Recommendation 3-12 BLM should complete the pilot effort on Remote Data 

Acquisition for Well Production, and determine whether the system can be 

implemented for all Federal and Indian onshore oil and gas production. 

Recommendation 3-13 MMS’s Minerals Revenue Management division (MRM) 

should phase in a requirement that all payors submit their payments 

electronically, with a goal of full implementation in five years. 

Recommendation 3-14 As outlined in the Minerals Revenue Management (MRM) 

Strategic Business Plan 2007–2012, MMS’s MRM division should complete 

the process of adding up-front error correction to the electronic interface for 
Report to the Royalty Policy Committee 

28 

Form MMS-2014. This will reduce errors received by MRM, by up-front 

checks to a payor’s entry to the electronic royalty payment system. 

Completion of the system allowing these up-front edits would ultimately save 

staff resources at MRM. 

Recommendation 3-15 MMS’s Minerals Revenue Management division (MRM) 

should develop and implement software to perform the function of the 

Accounting and Financial System/Production Auditing and Reporting System 

in automatically generating exception reports. This system should work in 

conjunction with MMS’s Compliance Program Tools to automatically generate 

exception reports requiring follow-up gas plant compliance reviews or audits. 

MRM would need to establish a system to prioritize cases for follow-up, to 

ensure proper royalties are being paid. 

This recommendation will also assist in addressing the Gas Plant Efficiency 

issues discussed below. 

4. Gas Plant Efficiency 

Issue 

For Federal leases, MMS’s Minerals Revenue Management division (MRM) 

reconciles payments reported on Form MMS-2014 (for individual component gases) 

with reported production in Oil and Gas Operations Reports (OGORs) (for 

unprocessed natural gas). This process depends on the accuracy of gas plant data, 

and is necessary for checking the accuracy of royalties paid on gas-plant products 

(i.e. valuable liquids extracted during processing). 

Background 

Royalties are paid at the wellhead for 30% of offshore natural gas, and for 63% of 

conventional (non-coalbed methane) Federal onshore natural gas. Royalties are 

paid after gas-plant processing for the remainder: 70% of Federal offshore natural 

gas; 37% of conventional (non-coalbed methane) Federal onshore natural gas 

production.50 Volumes reported at the wellhead differ from the volumes reported 

after gas-plant processing, following compression and removal of valuable natural 

gas liquids, such as ethane, propane, and butane. Thus for royalties paid after 

processing, MRM must rely on gas-plant efficiency data to determine whether 

payments are reasonable. 

BTU values and gas volumes must be reported on OGORs for both offshore and 

onshore natural gas. In instances where such gas is sold at the lease, MMS 

compares the production reported on the OGOR to the royalty paid for the gas, 

reported on Form MMS-2014. In cases where royalty is paid on gas after 

processing at a gas plant, MRM looks at gas-plant efficiency to predict expected 

 

50 Data from Supervisory Minerals Revenue Specialist, MMS-MRM, December 7, 2007 
 Chapter 3

29 

volumes of gas components such as residue gas (methane) and natural gas liquids 

for which royalty should be paid. MRM then reviews the natural gas volumes 

reported on OGORs for Federal oil and gas leases feeding the gas plant. 

For example, an OGOR may report 100 mcf of natural gas transferred to a gas 

processing plant, while a Form MMS-2014 reports 75 mcf of residue gas and 100 

gallons of NGLs. If gas-plant efficiency data (factors) indicate that 75 mcf of residue 

gas and 100 gallons of NGLs would be the expected products from 100 mcf of 

unprocessed gas, then MMS would conclude that the volumes reported on Form 

MMS-2014 are reasonable. If the gas plant factors were inaccurate, the calculated 

volume would be either overstated or understated, and MMS would not be aware of 

a possible underpayment of royalties. 

Gas plant factors may change for various reasons such as upgrades to the gas 

plant, a change in the makeup of the incoming gas stream from the wells, or a 

change in processing requirements. Furthermore, gas-plant efficiency may change 

over time as a plant ages. It is important that MRM maintain current gas-plant 

efficiency data. If the gas-plant efficiency factors used by MRM in calculating 

expected volumes are inaccurate, MMS will not receive the correct royalty. 

In the past, all offshore (and some onshore) gas-plant operators were required to 

submit Gas Plant Operations Reports (GPORs) to MRM on a monthly basis. The 

monthly GPOR filing requirement was terminated in 2001 and was not reinstated. 

MRM may still request information about gas plant operations, and use the response 

to calculate plant efficiency. 

Prior to 2001, MRM used an automated tool known as the Accounting and Financial 

System/Production Auditing and Reporting System (AFS/PAAS).51 AFS/PAAS 

imported gas plant efficiency data from Form MMS-2014 when it was submitted for 

royalties paid on gas plant products. 

MRM currently uses a suite of automated tools known as Compliance Program 

Tools (CPTs) in performing compliance reviews. Such tools can help calculate 

expected volumes of natural gas fed to a gas plant when assessing the accuracy of 

royalties paid on gas plant products. 

Findings 

MMS relies on the efficiency data from natural gas processing plants to determine 

expected volumes of processed gas and natural gas liquids, and ultimately the 

royalties owed. Accurate gas plant efficiency data are critical for making this 

determination. In general, gas plant efficiency data used by MRM are not current. 

Such data may change through time as plants age or are modified, potentially losing 

or gaining efficiency. 

 

51 See discussion under Electronic Data Submittals, Data Exchange, and Accounting Tools beginning 

on Page 24.
Report to the Royalty Policy Committee 

30 

The Compliance Program Tools (CPTs) used by MRM in performing compliance 

reviews are targeting tools for estimating gas volume discrepancies. However, 

CPTs must be invoked by MRM staff; there is no automatic check for discrepancies. 

These tools can help calculate expected volumes of natural gas fed to a gas plant 

when assessing the accuracy of royalties paid on gas plant products. 

Recommendations 

Recommendation 3-16 MMS should reinstate periodic reporting of gas plant 

efficiency data by plant operators, similar to Gas Plant Operations Reports 

(GPORs). The reporting period should be consistent with established audit 

schedules. 

Recommendation 3-17 MMS should establish a prioritized gas-plant compliance 

review or audit schedule to examine gas-plant efficiency. This schedule could 

be based on factors such as plant processing capacity, age of the plant and 

age of the efficiency data. 

Compliance reviews and audits using up-to-date gas plant efficiency data 

would help ensure that proper royalties for gas plant products are being paid 

to the United States. 

B. Policy and Guidance for Production Accountability 

Activities 

Issue 

Written guidance regarding BLM’s and MMS’s production accountability 

responsibilities is unconsolidated, outdated, and sometimes insufficient. This results 

in inconsistent and outmoded approaches to production accountability tasks, and 

potential reductions in royalty revenue. 

Background 

BLM has promulgated regulations and established guidance to manage programs on 

public lands. These become outdated over time with changes in laws, 

Congressional appropriations, administrative policy, and new technology. For 

example, the use of a plane table for surveying the volume of rock taken from a mine 

has been replaced with the use of automation software, with increased accuracy and 

less time required for these measurements. 

Policy and guidance play a critical role in oil and gas production accountability, both 

onshore and offshore. Guidance for the oil and gas program tends to be more 

complicated than that of the solid minerals program, as oil and gas leases are 

located both offshore and onshore, and are managed by two agencies: MMS for 

offshore leases and BLM for onshore leases. This responsibility fell to BLM 

following the merger of the United States Geological Survey Conservation Division 

with BLM in 1982. 
 Chapter 3

31 

Information collected from the BLM field offices indicate that they continue to rely on 

guidance from the now defunct USGS Conservation Division, some of which is 

outdated. BLM utilizes other forms of guidance to administer its production 

accountability responsibilities, including its Manual guidance systems and Onshore 

Orders. Nevertheless, the agency’s policy and guidance have not kept pace with the 

rapid changes in technology in the oil and gas industry, or shifts in law, 

administrative policy, and procedure. Similarly, MMS’s Offshore Minerals 

Management (OMM) division has limited written guidance or manuals to guide their 

performance of production accountability tasks, and instead relies primarily on 

informal on-the-job training. 

BLM’s most recent guidance for solid minerals operations, including production 

verification, was released in 1985, in what is called the “Redbook.” Portions of this 

guidance are sufficient, but much of it is now outdated. 

Findings 

Updated policy and guidance is critical for BLM and MMS field personnel carrying 

out production verification and accountability duties. It is equally important for the 

minerals industry, as they need certainty and consistency in their interactions with 

BLM and MMS. 

BLM policy and guidance have not been consolidated in a single document or 

publication. As a result, BLM’s 31 oil and gas field offices use varying policy and 

guidance to address or correct oil and gas protocol because the policy and guidance 

is not consolidated. Some BLM policy and guidance is outdated or non-existent 

(e.g., policy and guidance for non-metered “beneficial use” of natural gas at the 

lease), and some policies issued by memoranda have expired. As there is no 

national on-lease policy, some BLM State Offices (e.g., Wyoming) have issued their 

own. For the solid minerals most BLM field offices rely on the “Redbook” (last 

revised in 1985), which appears to never have been placed in BLM’s record library 

as an official document. 

In addition, some BLM state offices have issued their own “Notices to Lessees” for 

oil and gas operations.52 While such Notices to Lessees may impact oil and gas 

field operations in a positive manner, they nevertheless lack a national perspective 

and may introduce inconsistencies among States. One field office reported that 

“over the last 20 years, field offices have had to set standards for everything from 

Electronic Flow Computers to V-cone/wafer cone measurement. As a result, 

national consistency in measurement standards has been an issue.” Operators 

regularly question why BLM has not updated its policy and guidance to reflect new 

technology and standards. 

 

52 Notices to Lessees and Operators (NTLs) are written notices issued by BLM to implement oil and 

gas regulations and operating orders, and serve as instructions on specific items of importance within 

a State or field office. 
Report to the Royalty Policy Committee 

32 

Consistent policy and guidance would provide consistency in regulating mineral 

producers and monitoring production accountability. Updated guidance and policy 

would ensure consistency in application of methodology for minerals resources 

removed from Federal and Indian lands, and provide for more timely and thorough 

review of production records. Revenue collection from oil and gas production would 

be enhanced through up-to-date, consolidated, and consistent guidance. 

Recommendations 

BLM and MMS should undertake a number of actions to update and consolidate 

existing policy and guidance. These include the following: 

Recommendation 3-18 BLM should update all policy and guidance on production 

accountability, including any expired and current instruction memoranda, the 

“Redbook,” and any relevant pre-1983 USGS guidance. The updated 

material should be incorporated into the BLM Manual System.53 

Specific policy and guidance updates include the following: 

• Require that commingling requests identify allocation between zones. 

• Re-evaluate the policies and guidance for onsite beneficial use of gas. 

• Remove references to the Solid Leasable Minerals System, which ceased 

to exist in the early 1990’s. 

• Include the use of tools such as “BRIO” to access MMS reports.54

• Require entry into LR2000 (BLM’s records tracking system) no later than 

30 days after an inspection, using the Action Code of 411 for production 

verification inspections. 

• Require that BLM Inspectors obtain copies of the State certification of 

weight scales, whenever it is required by the State. 

• Update requirements for certification of BLM mine inspectors. 

Recommendation 3-19 BLM and MMS should develop timelines and standards 

for communicating and providing feedback to each other on production 

accountability issues. 

Recommendation 3-20 MMS should provide BLM an updated MMS personnel 

contact list for production accountability issues, by operator. 

Recommendation 3-21 MMS should update production accountability guidance 

and handbooks. This guidance should be used instead of on-the-job training. 

Recommendation 3-22 BLM should establish a workgroup to evaluate Onshore 

Orders 2, 3, 4, and 5 to ensure that they include sufficient guidance for 

checking that sufficient royalties are paid on oil and gas. This workgroup 

should be established as soon as possible and complete its work by June 

 

53 BLM Instruction Memoranda expire automatically if no action is taken to incorporate them into 

BLM’s manual/handbook system. 

54 BRIO is a software package used for processing and reporting for all the major database 

management systems. 
 Chapter 3

33 

2008. In particular, Onshore Order #5 (involving gas measurement) should 

be evaluated for its treatment of electric flow computers, gas sampling and 

analysis, point of measurements, alternate measurement devices and BTU 

determination. Furthermore BLM should clarify standards when it comes to 

meters that record less than 100 mcf per day, address overall uncertainty and 

bias, and finally address minimum distances that compression must be 

placed from a meter.55 

Recommendation 3-23 BLM should establish and maintain a gas measurement 

team of specialists to assess new gas measurement technologies. This team 

should provide recommendations to BLM by June 2008. Following the 

development of an initial set of recommendations, the team should meet on 

an annual basis to evaluate the extent to which new technologies should be 

considered in BLM’s guidance. 

C. Personnel Issues for Production Accountability and 

Revenue Collection Activities 

1. BLM Staffing for Production Accountability Activities 

Issue 

It is unclear whether BLM’s current levels of production accountability staff 

(Production Accountability Technicians and Petroleum Engineering Technicians) are 

adequate to meet the agency’s production accountability goals. Adequate BLM 

production accountability staffing levels are necessary to ensure accurate collection 

of royalty revenues. 

Background 

While MMS’s OMM division oversees approximately 2,300 producing Federal and 

Indian offshore leases, BLM is responsible for the oversight of approximately 26,500 

producing onshore oil and gas leases. A minimum of quarterly inspections is 

 

55 Potential issues to consider might include the following: 

• If production is less than 100 mcf of gas per day on a monthly basis, the meter must be calibrated 

at least annually and the orifice plate removed and inspected at least annually. 

• If production is at least 100 mcf but less than 200 mcf of gas per day on a monthly basis, the 

meter must be calibrated at least semiannually and the orifice plate removed and inspected at 

least annually. 

• For production of 200 mcf or more of gas per day on a monthly basis, the meter must be 

calibrated at least quarterly and the orifice plate removed and inspected at least semiannually. 

• Whether each allocation meter should consist of, as a minimum, a positive displacement meter 

with a non-resettable totalizer, a static mixer, a composite sampler, and a cut probe. The 

allocation meters and cut probes must be calibrated monthly for a period of six months following 

installation. 

• Whether to require the use of Flow Conditioners in lieu of straightening vanes to shorten the 

upstream meter run; reducing the meter calibration frequency based on low volume production; 

and the use of “Roots” for a positive displacement of gas meters for very low volume wells. 

• Whether to include Coriolis and Ultrasonic meters, and meter proving schedules. 
Report to the Royalty Policy Committee 

34 

required for each producing solid mineral lease (or mine) to verify that production 

reported to MMS by the operator is accurate. 

Figure 1 shows the distribution of Petroleum Engineering Technicians (PETs) and 

Production Accountability Technicians (PATs) currently employed in BLM States. In 

FY 2006, BLM employed 164 PETs and 20 PATs nationwide, with nine of those 

PATs located in Wyoming field offices. Nineteen of the thirty-one BLM field offices 

with oil and gas responsibilities employ no PATs. In those offices where PATs are 

employed, there are currently no more than four PATs in a given office. Mining 

Engineers are also in short supply, and BLM has difficulty recruiting and retaining 

staff for these jobs because of the higher salaries that are available in the private 

sector. This presents a daunting challenge for BLM to meet its production 

accountability responsibilities.56

Figure 1 BLM Staffing Levels for Production Accountability Functions (FY 2006) 

0

10

20

30

40

50

60

Alaska

California

Colorado

Eastern States

Montana

Nevada

New Mexico

Utah

Wyoming

BLM States

Staff

Petroleum Engineering Technicians

Production Accountability Technicians

Source: BLM AFMSS data. 

For FY 2006, BLM’s Inspection and Enforcement policy required inspections of all 

572 Federal Oil and Gas Royalty Management Act (FOGRMA)-high producing 

leases, and inspection of 33% of the 26,200 non-FOGRMA-high cases on Federal 

and Indian lands.57 A FOGRMA high producing lease is a lease that produces more 

than 12,000 barrels of oil, and 120,000 mcf of gas per month. 

 

Because BLM field offices commonly face funding constraints, PATs typically must 

divide their time between production accountability duties and administrative or 

clerical tasks. Also, in offices with high levels of oil and gas drilling activity, PETs 

 

56BLM is responsible for production accountability for coal and other leased minerals shown in Table 

3 on page 18. 

57 BLM Washington Office Instruction Memorandum No. 2006-033, Nov. 2, 2005, 

http://www.blm.gov/nhp/efoia/wo/fy06/im2006-033.htm.
 Chapter 3

35 

must divide their time between on-the-ground inspections and production 

accountability tasks. These considerations adversely impact the effectiveness of 

BLM’s overall production accountability capabilities and the ability of individual field 

offices to fulfill their production accountability responsibilities. 

BLM’s budget system utilizes “program elements” to track expenditures and 

workload accomplishments in all program areas. This allows the agency to, among 

other things, validate areas of budgetary needs and identify where the agency is 

falling short of workload accomplishment goals. BLM does not have a program 

element that specifically tracks production accountability reviews. 

Findings 

Information gathered by the Subcommittee indicates that BLM field offices may not 

be able to completely meet their current production accountability annual targets. 

This is due, in part, to a shortage of production accountability personnel and the use 

of some production accountability personnel for non-production-accountability 

activities.58 BLM field offices reported that they could complete more detailed 

production accountability reviews if additional staff were available. BLM’s current 

internal cost-tracking system does not include a “program element” for tracking 

production accountability review activities. 

In FY 2007, there were approximately 29,000 producing Federal and Indian oil and 

gas leases. Interviews with several BLM Production Accountability Technicians 

(PATs) indicate that reviews performed on these leases can be categorized as either 

“simple” or “complex.” Based on these interviews, about 15% of leases can be 

categorized as “complex cases.” A complex case requires approximately 16 to 40 

in-office hours, not including Petroleum Engineering Technician field work, to 

complete a review of onshore lease production records. Approximately 85% of 

producing leases can be categorized as “simple cases,” requiring approximately 5 to 

16 hours to complete. 

Production accountability reviews are critical for accurate revenue collection, given 

the potential for underreporting by payors or lease operators. Cumulative net 

onshore underreporting for fiscal years 2005, 2006 and 2007 for all Federal oil and 

gas59 was estimated to be 2.3 million barrels of oil and 137.4 million mcf of natural 

gas.60 For one BLM field office in FY 2007, discrepancies between operator records 

requested by BLM (i.e., sales reports, run tickets, etc) and operator reports sent to 

MMS Minerals Revenue Management (MRM) 61 totaled 814,000 barrels of oil, and 

33 million mcf of natural gas.62 When discrepancies are identified, BLM notifies 

 

58 Washington Office Instruction Memorandum No. 2007-100. 59 Issues related to the Cobell lawsuit have reduced the availability of underreporting statistics for 

Indian oil and gas. 

60 Information derived from BLM’s Automated Fluid Minerals Support System. 61 Production volumes are reported to MRM in the Oil and Gas Operations Report (OGOR). 62 Personal communications with BLM staff and field manager at this field office. The extent to which 

these numbers are representative of other Field Offices is unclear. 
Report to the Royalty Policy Committee 

36 

MRM of underreporting, and MMS sends the operators identified an order to pay 

royalties on the underreported volumes, plus interest. 

Recommendations 

Recommendation 3-24 BLM should add an action code in its LR2000 records 

tracking system to allow each production accountability review to be tracked 

for management and performance monitoring purpose.63

Recommendation 3-25 BLM should develop estimates of the number of hours 

required to complete simple and complex reviews. These estimates should 

be used to help determine appropriate staffing levels, closely corresponding 

to oil or gas activity in a given field office. In the interim, BLM should 

reallocate its FY 2008 funding for oil and gas activities to place greater 

emphasis on the timely hiring of additional Production Accountability 

Technicians (PATs) sufficient to meet current and expected workloads. 

Recommendation 3-26 BLM should ensure that current Production Accountability 

Technicians (PATs) are fully utilized for production accountability needs, 

whether for the home office or adjacent offices. PATs should typically not be 

used for non-production-accountability-related duties. 

2. MMS Staffing Levels for Revenue Collection Activities 

Issue 

Important collection activities have backlogs or otherwise receive insufficient 

support. Collection activities are crucial to ensuring receipt of accurate royalty 

revenues. 

Background 

During FY 2001-2006, MMS reduced Federal onshore and offshore compliance 

employees by 66 and Financial Management and other employees by 28, for a total 

reduction in these areas of 94 positions. Of these 94 positions, 46 were redeployed, 

and the remaining 48 positions were eliminated through attrition, reducing overall 

Minerals Revenue Management FTEs from 578 in 2001 to 530 in 2006. 

 

63 BLM (and the public) can access lease data over the Internet via BLM’s Land and Mineral Records 

System (LR2000). Data are tracked in part using “action code” entries to reflect the status of mineral 

leases. Adding an action code for completed production accountability reviews will allow LR2000 

users to quickly review all BLM onshore production accountability actions, without having to examine 

lease files.
 Chapter 3

37 

Figure 2 Minerals Revenue Management FTEs, FY 2001 Compared to FY 2006 

250 251

57

20

184

223

75

50

0

50

100

150

200

250

300

Federal CAM Financial Mgt

& Other

Indian CAM RIK

FTEs .

2001

2006

Source: MRM FTE and Payroll Summary FY 2001-2006 

Some of these reductions in staffing are partly due to efficiencies gained by MRM 

and also to the growth of the RIK program. Nevertheless, Financial Management 

staffing levels have decreased over the past ten years, as shown in Figure 2. This 

has caused a resultant strain on some MRM functions, such as procedures for 

resolving volume discrepancies identified by the Offshore Minerals Management 

(OMM) when using the LVS and GVS. Likewise, MRM has increased its reliance on 

compliance reviews and limited-scale audits, rather than full-scale audits. Out of 

these compliance options, full-scale audits require the most time and resources. 

Gulf of Mexico production from Federal leases is also reported on the Oil and Gas 

Operations Report. Unlike onshore production, offshore production relies on 

automated systems: the Liquid Verification System (LVS) for crude oil, and the Gas 

Verification System (GVS) for natural gas. From November 2005 through May 2007, 

the LVS and GVS accounted for production of 739 million barrels of oil and 4.51 

trillion cubic feet of natural gas, respectively. Comparison with information derived 

from Oil and Gas Operations Reports indicated discrepancies of 4.3 million barrels 

of oil and 66.3 billion cubic feet of natural gas, respectively.64 

MMS compares actual source metering data (run tickets, meter proving reports, gas 

metering statements) to the Oil and Gas Operations Report (OGOR) production 

volumes in the Gas Verification System and the Liquid Verification System. The 

discrepancies noted above require MMS staff follow-up to determine the cause (e.g., 

reporting errors, metering errors). While the MRM’s CAM Office resolves Liquid 

Verification System volume discrepancies (“exceptions”) for offshore leases, MRM is 

not sufficiently staffed to resolve GVS volume exceptions for offshore production. 

Instead, the duty of resolving Gas Verification System exceptions falls to the OMM 

division, which is not adequately staffed for that important function. In fact, in the 

Gulf of Mexico Region, OMM division has only one Petroleum Engineer available to 

 

64 Derived from MMS data at 

http://www.gomr.mms.gov/homepg/pubinfo/freeasci/product/OGOR_by_Vol.pdf and 

http://www.gomr.mms.gov/homepg/pubinfo/freeasci/product/OGOR_by_GAS_Vol.pdf. 
Report to the Royalty Policy Committee 

38 

work on these discrepancies. Resolving Liquid Verification System and Gas 

Verification System discrepancies is a crucial function as it provides MMS with 

accurate data for use in volume analysis for compliance reviews. 

Findings 

Insufficient staffing levels in MMS’s MRM Production Reporting Group cause 

backlogs in obtaining missing Oil and Gas Operations Reports (OGORs), in 

correcting errors in submitted OGORs, and potentially limit the ability of MMS to 

resolve discrepancies. If OGOR reports are missing or inaccurate MMS cannot 

compare production data with royalty payment data. Prior to the passage of the 

Royalty Simplification and Fairness Act in 1996, MRM charged OGOR submitters an 

assessment of $10 per error for inaccurate data. This assessment was dropped 

when MRM determined that low error rates and labor-intensive review requirements 

did not warrant such assessments.65 In addition, OMM staffing levels are insufficient 

to adequately review GVS discrepancies. 

MRM replaces some retirees with employees from other sources, such as other 

Federal agencies, the Financial Management Internship Program, and other 

professional internship programs. 

Recommendations 

In order to eliminate backlogs of MMS’s MRM Production Reporting Group, and 

subsequently stay current on processing the following recommendations should be 

implemented: 

Recommendation 3-27 MMS should prioritize resolving Oil and Gas Operations 

Report errors and enforcing compliance via written orders and civil penalties. 

Recommendation 3-28 MMS should replace retirees with qualified contractors or 

trained non-permanent or seasonal employees. Potential sources of 

employees include other Federal agencies (such as the Defense Financial 

Accounting Service) the Financial Management Internship Program, and 

other professional internship programs. 

Recommendation 3-29 MMS should ensure that Offshore Minerals Management 

(OMM) division staffing levels are adequate for sufficient review of 

discrepancies in the Gas Verification System (GVS). 

3. Training for BLM Production Accountability Staff 

Issue 

BLM Production Accountability Technicians (PATs) and Petroleum Engineering 

Technicians (PETs) need adequate training and standardized position descriptions. 

Training improvements would increase the efficiency of production accountability 

staff and assist in ensuring accurate collection of royalty revenues. 

 

65 Personal communication, Manager, Reporting Systems, MMS – MRM, October 10, 2007. 
 Chapter 3

39 

Background 

BLM production accountability staff consists primarily of PETs, PATs, and, to some 

extent, Petroleum Engineers. 

BLM utilizes PETs to perform onsite inspections of producing onshore Federal oil 

and gas leases. Such inspections verify that lease operators are in compliance with 

applicable regulations and BLM-approved drilling permits, site construction 

requirements, site security plans, and oil and gas measurement requirements. PETs 

identify discrepancies in reported production to PATs. 

PETs must be certified by BLM in order to perform the full range of their inspection 

duties, including issuing Incident of Noncompliance notices to operators. BLM’s 

National Training Center in Phoenix, Arizona provides periodic certification training 

for PETs. BLM State Offices test and certify PETs within their respective States. 

PATs work closely with PETs and Petroleum Engineers to perform production 

accountability verification reviews, including source document reviews and 

verification that oil and gas production reported to MMS matches production 

measurement data. BLM’s National Training Center provides infrequent certification 

training for PATs, so on-the-job training is relied on to prepare PATs for their very 

specialized duties. PATs have been utilized by BLM only since 1998, and do not yet 

have a clearly defined set of duties established through standardized position 

descriptions. 

Findings 

In the course of gathering data, the Subcommittee heard from several BLM field 

offices that the BLM National Training Center does not offer needed “Inspection and 

Enforcement Certification” training for PETs on a frequent enough basis. Similarly, 

the formal training course offered by the BLM National Training Center for PATs is 

only offered once every two to three years, depending on demand, leaving many 

BLM PATs to rely instead on informal training classes or on-the-job training. Due in 

part to infrequent formal training opportunities, some members of BLM’s production 

accountability staff may not be aware of new policies, practices, and procedures 

currently in place. Training is also important because oil and gas agreements (unit 

agreements, communitization agreements, and gas storage agreements) are 

becoming more complex. MMS’s production accountability staff generally relies 

heavily on on-the-job training as well, with little formal training available. 

Furthermore, information gathered by the Subcommittee indicates that standardized 

position descriptions for BLM PATs are either unavailable or not used throughout 

many BLM state/field offices, and that the roles and responsibilities of PATs were 

also not sufficiently defined within BLM state/field offices. BLM also does not have a 

certification process for solid mineral mine inspectors, as there is no established 

protocol for issuing certificates to BLM mine inspectors. 
Report to the Royalty Policy Committee 

40 

To do their jobs properly, production accountability staff need the proper tools. Not 

all BLM offices with producing solid mineral mines have software, i.e., AutoCAD and 

Vulcan, to provide for automated measurements of surface minerals removed in the 

mining operation, in this case coal and Indian sand and gravel. 

Improving the training opportunities available to BLM and MMS production 

accountability staff would help to ensure that accurate royalty revenues are received. 

Recommendations 

This section contains recommendations addressed to both MMS and BLM. 

Recommendation 3-30 MMS and BLM should establish standardized position 

descriptions for Production Accountability Technicians in order to consistently 

define the roles and responsibilities of these individuals. 

Recommendation 3-31 The BLM National Training Center should work with the 

BLM Washington Office and States to project the training demands for 

Petroleum Engineering Technicians (PETs) and certification requirements, 

and should offer such courses on a schedule that would meet these 

demands. In doing so, BLM should weigh the costs of waiting to offer a 

certification class until it is fully enrolled, against potential lost royalty 

revenues due to delays in PET certifications. 

Recommendation 3-32 BLM should assess the training needs for Petroleum 

Engineering Technicians and Production Accountability Technicians This 

needs assessment should include the development of a national training 

program for Production Accountability Technicians, that would provide 

training related to fundamental production accountability tasks, as well as 

more detailed instruction on topics such as oil and gas agreements (unit 

agreements, communitization agreements, commingling, allocation, and offlease measurement, and gas storage agreements). In addition, BLM should 

ensure that PETs are adequately trained in use of the Automated Fluid 

Minerals Support System (AFMSS) and other information systems necessary 

for performing production accountability tasks. Updating formal guidance on 

the items identified above is essential to developing the necessary training 

materials. 

Recommendation 3-33 MMS and BLM should convene an annual workshop for 

BLM Petroleum Engineering Technicians and Petroleum Accountability 

Technicians and equivalent MMS Offshore Minerals Management (OMM) 

personnel to share applicable best practices and identify and propose 

resolutions to common production accountability concerns. 

Recommendation 3-34 BLM should establish a formal procedure to certify mine 

inspectors, including appropriate education and experience criteria. 
 Chapter 3

41 

Recommendation 3-35 BLM should ensure that offices involved with surface 

mines are equipped with appropriate technology to accurately measure 

removed minerals materials. 

Recommendation 3-36 BLM should conduct periodic National and Statewide 

Production Accountability Technician/Petroleum Engineering Technician 

meetings to discuss production accountability procedures. Such meetings 

could provide supplemental training regarding new policies and procedures, 

as well as serve as a forum for identifying on-the-ground production 

accountability issues. 

 
Report to the Royalty Policy Committee 

42 
43 

Chapter 4 

Audits, Compliance, and Enforcement
Report to the Royalty Policy Committee 

44 

Chapter 4 Audits, Compliance, and Enforcement 

Summary of Major Recommendations in Chapter 4 

(A complete list of all recommendations is provided in Appendix 1) 

Regulatory Changes 

• MMS should finalize the “technical changes” Indian oil valuation rule immediately, 

and forward it to the Office of Management and Budget. The rulemaking process 

to change to Indian oil valuation methodology to provide greater certainty for all 

parties and address a long standing concern of Indian Tribes should commence 

as soon as possible once the proposed rule has been forwarded to OMB. (see 

Recommendation 4-24 on page 72)

Compliance Strategy 

• MMS should complete its risk-based compliance pilot project and develop a plan 

for implementing a risk-based compliance strategy on an MMS-wide basis, using 

an incremental approach to ensure that essential data and related management 

information systems are validated and ready for wider application. The first 

phase of this effort should be completed by the end of FY 2008 and should 

address the offshore program. (see Recommendation 4-9 on page 65) 

• MMS should develop a new set of Government Performance and Results Act 

goals and measures based on the recently completed analysis of the benefits 

and costs of different compliance tools and the risk-based compliance process 

pilot (a risk-based pilot is scheduled for completion in February 2008). MMS 

should establish final goals and measures by the end of February 2008. (see 

Recommendation 4-13 on page 67) 

Process Improvements 

• MMS should place a high priority on improving the processes and procedures 

associated with calculating interest on royalty payments. (see Recommendation 

4-16 on page 69) 

• MMS should eliminate duplicate data by consolidating several databases, 

including databases for the Compliance Information Management system (CIM), 

the Performance Tracking Tool (PTT), and the Government Performance and 

Results Act (GPRA). (see Recommendation 4-17 on page 69) 

• MMS should require electronic submission of all offshore run tickets for input to 

Liquid Verification System and Gas Verification System. (see Recommendation 

4-21 on page 70) 

• By the end of FY 2008, MMS should publish proposed revisions to the gas 

valuation regulations and guidelines to address the cost-bundling issue, and to 

facilitate the calculation of gas transportation and gas processing deductions. 

MMS should consider incorporating into the proposed revisions the use of market 

indices for gas valuation in the context of non-arm’s length transactions in lieu of 

the benchmarks that have been employed since 1988. (see Recommendation 4-

26 on page 73) 
 Chapter 4

45 

• By the end of FY 2008 MMS should review, and (as appropriate) revise and 

implement the regulations and guidance for calculating prices used in checking 

royalty compliance for solid minerals, with particular attention to non-arms-length 

transactions. (see Recommendation 4-27 on page 73) 
Report to the Royalty Policy Committee 

46 

Chapter 4 Audits, Compliance, and Enforcement 

I. Subcommittee Charge 

The charter creating the Subcommittee on Royalty Management charged the 

Subcommittee with reviewing: 

“the audit, compliance and enforcement procedures and 

processes of the Minerals Management Service to determine if 

they are adequate to ensure that mineral companies are 

complying with existing statutes, lease terms, and regulations as 

they pertain to payment of royalties.” 

II. Introduction 

In fulfilling its charge, the Subcommittee identified several issues relating to audit, 

compliance, and enforcement procedures. These issues fall into two broad 

categories. The first group is those issues involving only the Minerals Revenue 

Management (MRM) division within MMS. MRM-only issues are addressed in this 

chapter. The second broad category includes issues involving coordination and 

information-sharing between MRM and other DOI bureaus. These issues are 

presented in Chapter 5 “Coordination, Communication, and Information Sharing 

among MMS, BLM, and BIA,” starting on page 75. 

The Compliance and Asset Management program (CAM) is a component of MRM, 

and assists with the MRM mission of accounting for, substantiating, and disbursing 

Federal and Indian mineral revenues. There are four CAM offices: Federal Onshore, 

Indian, Offshore, and Solids and Geothermal. CAM personnel are located in 

Colorado, Texas, New Mexico and Oklahoma, as well as in major royalty payor 

offices. State and Tribal auditors are located in eleven States and on seven Indian 

Reservations. Onshore production volume information is collected by the Bureau of 

Land Management (BLM) and provided to MMS. 

III. Background 

A. Compliance and Enforcement—Process and Tools 

The audit, compliance, and enforcement process begins when the collections and 

production accountability systems return information filed by the operators and 

payors (e.g., production and sales volumes, royalty due).66 This information may 

include deductions allowed in calculating royalties (e.g., transportation costs). The 

CAM Program uses audits and compliance reviews to validate data provided by the 

operators and payors. When discrepancies are found, a range of formal and 

informal steps may be taken to obtain information for resolving the discrepancy. 

 

66 MMS is responsible for offshore oil and gas production accountability; BLM is responsible for 

onshore activities. 
 Chapter 4

47 

Accurate calculation of royalties requires information related to lessees, payors, 

operators, royalty rates, prices, and transportation costs. 67 Much of this information 

is tracked in CAM data systems. However, some information relating to royalty 

compliance is recorded outside of CAM data systems (e.g., land status, lease 

information, operator information, lease and well status). Company-reported 

information comes from Reports of Sales and Royalty Remittance (Form MMS2014), Oil and Gas Operations Reports (OGORs), and Production and Reporting 

reports (P&Rs). 

The receipt of accurate and timely information on critical parameters such as lease 

status, royalty volumes, deductions, royalty values, etc. is important to the operation 

of an efficient audit/compliance/enforcement function. For onshore Federal and 

Indian lands, in particular, this starts with an accurate survey and identification of 

land status.68 

The MRM audit program, in compliance with Generally Accepted Government 

Auditing Standards (GAGAS), is required to undergo an external independent review 

every three years. In October 2005, MRM received an unqualified audit opinion with 

no reportable conditions from an independent certified public accounting firm. 

The primary compliance tools currently used by MMS include informal efforts, “issue 

letters,” audits, “compliance reviews,” and enforcement actions. Each of these 

involves a different level of detail, effort, and engagement.69 The compliance tools 

often have a role in both identifying and resolving problems. For example, audits 

and compliance reviews identify problems, and typically involve requests for 

information. Enforcement actions are used for resolving problems. At almost any 

point in the compliance/enforcement process, a payor can provide information 

resolving a problem. Many problems or discrepancies are resolved via informal 

requests for information. 

 

67 Special considerations can apply for Indian leases. These may include dual accounting and 

valuation using the “major portion” approach. While most Indian gas is valued using published index 

prices, a 1996 regulation allows natural gas to be valued at the highest price paid (or offered) for a 

“major portion” (at least 50%). 

68 This information includes ownership (is a parcel Federal, Indian, State, or private); type of Federal 

ownership (public lands, acquired lands, national grasslands, Corps of Engineer lands, etc.); lease 

status (is the parcel leased? If an active lease exists, is it producing?). Land status also identifies the 

revenue recipients and their share of bonuses, rents, and royalties. Land use planning determines 

which lands are available for lease and some of the stipulations that would apply to new leases. 

While these stipulations are primarily operational issues, they may affect deductible costs for royalty 

purposes. 

69 Suits brought by private citizens under the False Claims Act might also be considered a compliance 

tool, but are not considered in this report. The False Claims Act provides that the person who files 

the qui tam lawsuit may receive between 15% and 30% of any money recovered. As stated on page 

5 of the September 7, 2007 Inspector General Report,”Minerals Management Service False Claims 

Allegations,” between 1998 and 2004, the Inspector General jointly conducted royalty qui tam

investigations with the Department of Justice resulting in the recovery of more than $568 million from 

25 companies operating oil, natural gas, coal, and other activities on Federal and Indian lands. 
Report to the Royalty Policy Committee 

48 

Compliance efforts are often initiated through issuance of “issue letters” or “orders” 

on unresolved variances. These letters/orders are designed to elicit information or 

remedial actions. Variances may come to the attention of MMS through a variety of 

ways, including third parties. Issue letters/orders may lead to other compliance 

and/or enforcement actions. Systemic problems or other issues are referred to audit 

as deemed necessary. 

Audits and compliance reviews validate companies’ compliance with their royalty 

responsibilities. If problems are found, information may be requested from a payor 

and, if necessary, subsequent enforcement actions may be taken to address the 

identified underpayment. However, in contrast to an audit, a compliance review 

relies on existing information provided by the companies and/or other public 

information gathered by MMS to evaluate royalty compliance relative to standard 

benchmarks or averages. 

The Internal Revenue Service (IRS) also relies on a set of compliance tools that are 

arrayed along a continuum. The continuum of tools includes “soft notices,” full scale 

audits, “issue audits,” (similar to MMS’s limited-scope compliance reviews), as well 

as simple “math checks.” The IRS also has a “whistleblower” program under which 

rewards may be paid to individual taxpayers that bring non-compliance issues to the 

attention of the IRS. Information from a whistleblower would typically trigger some 

type of audit or compliance review. 

Table 5 summarizes the major tools used by MMS’s compliance program. Table 6 

summarizes the IRS’s set of compliance tools. 
 Chapter 4

49 

Table 5 MMS Compliance and Asset Management Activities 

Type of Compliance Activity Description 

Audits

 Company audit Review a payor’s internal controls, production and royalty 

accounting systems, and royalty payments on specific leases. 

 Property audit Review an individual lease or unit agreement containing numerous 

leases. Auditors select the properties that will be reviewed by 

performing an assessment regarding the elements of uncertainty 

present in a particular property. 

 Issue audit Cover multiple leases involved in a specific high-risk aspect of 

royalty determination. 

Compliance Reviews

 Full-Scope Compliance 

Review

Addresses all four elements of the royalty equation (volume, value, 

royalty rate, and allowances). Typically relies on data that has 

already been collected or information that is publically available. 

 Limited-Scope Compliance 

Review

Analyze one or more, but not all elements of the royalty equation. 

Typically relies on data that has already been collected or 

information that is publically available. 

Other Compliance Activities 

“Issue Letter”/”Order,” and 

other informal efforts 

Can address unresolved variances on any of the elements of the 

royalty equation (volume, value, royalty rate, and allowances). 

Could result in resolution of an issue or a continuance of 

compliance activities. 

Enforcement Actions

Enforcement and Collections Occurs subsequent to compliance activities. Used to collect unpaid 

or underpaid royalties. 

Source: MMS. 
Report to the Royalty Policy Committee 

50 

Table 6 Internal Revenue Service Compliance Activities 

Compliance 

Activity Description 

Math Error 

Process 

During the processing of filed tax returns the IRS corrects math errors, incorrect 

Social Security numbers, and incomplete supporting information. The IRS 

notifies taxpayers by mail of these adjustments, along with any refund or 

additional tax owed as a result. Returns that go through the math error process 

may also be selected for document matching and audit. 

“Soft” Notice The IRS sends a letter (including educational materials on the relevant tax rules 

and regulations) to notify a taxpayer that there may be an error with a filed 

return, The letter directs the taxpayer to file an amended return if a correction 

needs to be made. 

Document 

Matching 

The IRS issues a notice to a taxpayer for a return that the IRS is unable to 

reconcile with third-party information (W-2s, 1099s, etc.) The taxpayer is asked 

to provide documentation explaining the discrepancy, or to pay the difference in 

tax owed. Returns that go through the Document Matching process may also be 

selected for audit. 

Correspondence 

Audit 

The IRS sends a letter to notify a taxpayer of tax return(s) selected for audit, and 

of the issues under review. The taxpayer is asked to submit relevant 

documentation for review by a Tax Examiner. Correspondence audits are 

limited to the issues identified in the initial letter. 

Office Audit The IRS sends a letter to notify a taxpayer of tax return(s) selected for audit, and 

of the issue(s) under review. The taxpayer is requested to bring relevant records 

to an IRS office for review with a Tax Compliance Officer (TCO). The audit 

typically focuses on a limited set of issues, but the TCO has the discretion to 

expand the audit, with management concurrence, based on the facts of the case.

Compliance 

Check 

The IRS performs a review by a Revenue Agent to determine whether 

recordkeeping and reporting requirements are being met for the taxpayer. The 

check is intended to increase voluntary compliance by educating business 

owners about their reporting requirements. 

Field Audit: 

Agent 

(limited- or fullscope) 

A single Revenue Agent meets with the taxpayer (or the taxpayer’s 

representative) at the taxpayer’s home or business to conduct the audit. The 

agent has the discretion to expand the audit, with management concurrence, 

based on the facts of the case. 

Limited-Scope: A limited set of issues is addressed. 

Full-Scope: Multiple issues are addressed. 

Field Audit: 

Team 

(limited- or fullscope) 

A team of Revenue Agents, supported by technical specialists (e.g., Economists, 

Engineers, Computer Audit Specialists) as necessary, meet with taxpayer (or the 

taxpayer’s representative) at the taxpayer’s business to conduct the audit. The 

team has the discretion to expand the audit, with management concurrence, 

based on the facts of the case. 

Limited-Scope: A limited set of issues is addressed. 

Full-Scope: Multiple issues are addressed. 

Source: IRS. 
 Chapter 4

51 

MMS uses audits for formal examinations of company records on Federal and Indian 

mineral properties, to ensure the accuracy of reporting and payment in accordance 

with applicable laws, regulations and lease terms. MMS employs three types of 

audits: 

• Company audits review a payor’s internal controls, production and royalty 

accounting systems, and royalty payments on specific leases. 

• Property audits review an individual lease or unit agreement containing 

numerous leases. Auditors select the properties that will be reviewed by 

performing an assessment regarding the elements of uncertainty present in a 

particular property. 

• Issue audits cover multiple leases involved in a specific high-risk aspect of 

royalty determination. 

Compliance Reviews compare all of the elements of the royalty equation (e.g., 

volume, value, royalty rate and allowances) to anticipated values to check for 

variances. There are two types of compliance reviews: 

• Full-scope compliance reviews address all four elements of the royalty 

equation (volume, value, royalty rate, and allowances). 

• Limited-scope compliance reviews analyze one or more, but not all elements 

of the royalty equation. 

Compliance reviews are used in conjunction with audits to increase compliance 

coverage with available resources. Compliance reviews are substantially less costly 

than full audits, however, they are also substantially less detailed compared to a 

traditional audit. During FY 2005 and FY 2006 information provided by MMS 

indicated that on average audits were 3.6 times more costly than compliance 

reviews. Compliance reviews offer the advantage that they can be performed 

against many companies with the same resources it would take to audit one 

company. If it is determined, via a compliance review, that a payor’s variances 

exceed tolerances, documentation is requested to resolve the variance or further 

develop the issue. 

When MMS “orders” or verbal requests for company corrections are not complied 

with, MMS compliance activity leads to enforcement activities.

70 MMS statutory 

enforcement authority has civil and criminal dimensions and the authority to levy 

penalties. 

Examples of situations where enforcement actions might be appropriate include the 

following: 

• Reporting failure: failure to submit/correct monthly reports; 

• Unresolved variances: reported volumes/values differ from expected amounts; 

• Payment violations: failure to pay or repeated late payments; 

 

70 Authorities under which the enforcement operations take place include 30 USC §1719 and 

FOGRMA §109 (Oil and Gas Civil Penalties). 
Report to the Royalty Policy Committee 

52 

Office of Enforcement 

Process Summary

• Learn of violations from 

operating divisions, outside 

parties or Office initiatives 

• Investigate to confirm violations; 

determine why they occurred 

• Informally resolve case if 

appropriate (first offence; nonknowing/willful) 

• Issue a Notice of Noncompliance 

(“curable” if resolved within 20 

days) 

• Issue civil penalty 

• Issue Supplemental Notice of 

Civil Penalty Cases resolved by 

verifying compliance, settlement 

or referral to U.S. Treasury, 

BLM, or IG 

• Information refusal: refusal to adequately fulfill data requests for audit/compliance 

review; and 

• False information: false submissions in reports, letters or documents. 

The enforcement process begins when the Office of Enforcement learns of 

violations. This information would typically come from one of MMS’s operating 

divisions, though enforcement actions might be initiated based on information 

provided by an outside party. Enforcement 

staff investigate to confirm the existence of a 

violation and to determine why it occurred. A 

first offense or an offense judged by MMS to 

not to be made knowingly and willfully is 

typically resolved informally. Informal 

resolutions represent more than half of all 

cases. Other cases result in a “Notice of 

Noncompliance” (curable if satisfactory 

action is undertaken by the payor within 

twenty days) or an immediate civil penalty. 

Additional enforcement options include 

issuing a “Supplemental Notice of Civil 

Penalty,” referral to the U.S. Treasury, and 

referral to the Inspector General. Another 

avenue for enforcement is suits brought by 

private citizens under the False Claims Act. 

Cases are resolved when compliance has 

been verified, settlements executed or the 

case has been referred elsewhere. 

B. Audits and Compliance Reviews 

1. Compliance and Enforcement Activity 

Historically, audits have been the principal compliance tool, but the use of 

compliance reviews has increased in recent years to meet the increased compliance 

workload.71 Table 7 presents information on the number of audits and compliance 

reviews, as well as on “work in progress” in FY 2005 and FY 2006. Information on 

the number and type of audit and compliance reviews is not readily available for 

years prior to FY 2005. 

Over the last four years, MMS, States, and Tribes have completed 1,572 audits. 

MMS is not currently able to report the number of audits by type of audit. 

Compliance Reviews are characterized as either “full scope” or “limited scope” 

reviews. In FY 2005 and FY 2006, a total of 1,042 audits were completed, 

compared to 5,994 compliance reviews. 

 

71 MMS compliance activities also include educational efforts to help companies be compliant. 
 Chapter 4

53 

In January 2007, Subcommittee staff members were briefed by MMS’s Office of 

Enforcement. MMS reported that since FY 2000 a total of 334 cases had been 

opened, of which 206 had closed with compliance; 81 cases had been closed with a 

finding of bankruptcy, erroneous orders, etc.; and 47 cases remained open. 

Audits and compliance reviews frequently begin in one fiscal year and are completed 

in the following year. Some audits and reviews require longer than a year to 

complete. Thus, the number of completed audits and compliance reviews is an 

incomplete indicator of the level of work occurring in any given fiscal year. 

The information in Table 7 indicates that the proportion of compliance activity 

represented by audits may be falling. In FY 2005 (in-progress and completed) 

audits represented 26% of compliance activity (the other 74% comprised limited and 

full-scope compliance reviews). This percentage fell to 22.4% in FY 2006. Full 

compliance reviews form the largest proportion of compliance activity. In FY 2005, 

(in-progress and completed) full-scope compliance reviews represented 40.3% of 

compliance activity. This percentage rose to 47.9% in FY 2006. Limited-scope 

compliance reviews represent about 30% of compliance activity in both FY 2005 and 

FY 2006. 
Report to the Royalty Policy Committee 

54 

Table 7 Audits and Compliance Reviews by Compliance Office, FY 2005-06 

In Progress Completed Total In Progress Completed Total 

Federal Onshore CAM 42 227 269 46 8 54

Indian CAM 46 136 182 67 27 94

Offshore CAM 91 256 347 82 40 122

Solids & Geothermal CAM 3 8 11 2 2 4

State and Tribal 641 5 646 701 67 768

Subtotal 823 632 1,455 898 144 1,042

Federal Onshore CAM 53 532 585 82 339 421

Indian CAM 39 147 186 151 199 350

Offshore CAM 35 1,615 1,650 44 1,373 1,417

Solids & Geothermal CAM 1 25 26 0 18 18

State and Tribal 0 0 0 22 0 22

Subtotal 128 2,319 2,447 299 1,929 2,228

Federal Onshore CAM 7 15 22 28 4 32

Indian CAM 186 858 1,044 278 476 754

Offshore CAM 150 205 355 92 104 196

Solids & Geothermal CAM 109 10 119 145 49 194

State and Tribal 129 3 132 183 22 205

Subtotal 581 1,091 1,672 726 655 1,381

Grand Total 1,532 4,042 5,574 1,923 2,728 4,651

Source: MMS data.

FY 2005 FY 2006

Limited Compliance Reviews

Compliance Activity, by 

Compliance Office

Audits

Full Compliance Reviews

The current goal of the CAM program is to complete compliance activity within three 

years of the payment date on an increasing percentage of royalty revenue.72 CAM 

strategy focuses primarily on the largest properties in producing status. CAM 

implements a more detailed strategy for Indian leases.73 Given this strategy, smaller 

producing Federal properties typically are not reviewed as frequently or in as much 

detail relative to the larger producing properties. 

2. Risk-Based Compliance Strategy 

Beginning in 2006, the CAM program initiated development of a risk-based 

methodology pilot program to identify risk factors in Federal and Indian compliance, 

and to inform a new risk-based process for compliance and auditing programs. In 

 

72 Strategic Business Plan, 2007-2012, U.S. Department of the Interior, Minerals Management 

Service, Minerals Revenue Management, December 2005. 

73 In keeping with the Department's Trust responsibilities, MMS places a higher priority on revenues 

from Indian leases, processing collections sooner and conducting compliance on a higher percentage 

of revenue than for Federal leases, including 100% of Indian gas revenue. While Indian royalty 

makes up only 3% of total revenue collected, MMS expends more than 20% of its resources 

managing Indian revenue. 
 Chapter 4

55 

addition to royalties paid, this methodology was designed to incorporate factors that 

estimate the risks of production and payment variances, and the probability of 

discovering those variances. Thus large payors that generally do not have 

variances would be audited or reviewed less frequently, while smaller payors with a 

higher risk of error would be audited or reviewed more frequently. This 

methodology, once fully implemented, is expected to complement the current 

revenue-based goal. 

In developing the risk-based pilot project, MMS’s MRM division stratified the royalty 

universe by Location (onshore, offshore, or Indian), Lease, Region, and Commodity. 

These four variables are collectively referred to as “LLRC.” Risk factors are 

weighted and applied to the stratified lists. The results are analyzed for usefulness 

in predicting high risk properties and payors. This effort should also provide 

information on the probability of finding discrepancies based on the type of audit or 

compliance review. A full implementation of a risk-based process would include a 

self-correcting element that would adjust the factors used and the weights of those 

factors, based on compliance history and other information, to ensure MRM is 

making the most efficient use of its resources. Implementation of a risk-based 

process would indicate when a breakeven point is reached (i.e., when the costs of 

compliance exceed the expected proceeds). 

C. Staffing and Resources Available for Compliance 

Activities 

MMS staff for compliance activities has been reduced from 438 FTEs in 2000 to 363 

FTEs in 2006. Funding for compliance activities was $18.9 million in FY 2003; this 

increased to $22.1 million in FY 2005 and declined to $16.3 million in FY 2006. 

States and Tribes also perform audits and compliance reviews through agreements 

with MMS. MMS contracts with States and Tribes to conduct audits of leases within 

these jurisdictions, and reimburses the State’s or Tribe’s costs.74 Over the years, 

the level of funding for States and Tribes has not kept pace with inflation or 

increases in staffing needs or salary costs. As additional States and Tribes have 

entered into cooperative audit agreements, available funding has been stretched 

further. 

State and Tribal audit and compliance costs represent a significant proportion of 

total compliance costs. In FY 2006, State and Tribal costs represented about 37% 

of the total. About $9.5 million was budgeted for FY 2007 for State and Tribal audit 

costs with about 72% allocated to States and 28% to the Tribes. 

 

74 The Federal Oil and Gas Royalty Management Act of 1982 (FOGRMA) §202 lists the following 

Tribes: Blackfeet, Jicarilla Apache, Navajo nation, Shoshone/Arapaho, Southern Ute, Ute and Ute 

Mountain; §205 lists the following States: Alaska, California, Colorado, Louisiana, Montana, New 

Mexico, North Dakota, Oklahoma, Texas, Utah and Wyoming. 
Report to the Royalty Policy Committee 

56 

Information on the allocation of compliance funding across States and Tribes is not 

available. The number of leases varies across States, as do the revenues from 

those leases, as shown in Table 8. At the low end of the range is Alaska, with 41 

leases providing $60.5 million in FY 2006 royalty revenue. At the high end is 

Wyoming, with nearly seven thousand leases providing $1,716 million. Considering 

royalty revenue per lease, Oklahoma falls at the low end, with each lease providing 

an average of less than $20,000 in FY 2006. At the high end is Alaska, where each 

lease provided an average of $1.5 million. The situation is similar for Tribes. 

Table 8 Leases and Revenues by State, FY 2006 

FOGRMA 

205/202 

Entities

FY 2006

Leases

FY 2006

Royalty Revenues

Average 

Revenue per 

Lease

Alaska 41 $60,515,487 $1,475,987

California 393 $147,150,946 $374,430

Colorado 2,370 $488,075,017 $205,939

Louisiana 322 $223,333,853 $693,583

Montana 1,866 $89,447,781 $47,936

New Mexico 6,843 $1,174,327,259 $171,610

North Dakota 643 $52,524,890 $81,687

Oklahoma 2,696 $53,012,562 $19,663

Texas 265 $106,649,516 $402,451

Utah 2,182 $328,249,282 $150,435

Wyoming 6,986 $1,715,730,810 $245,596

State Totals 24,607 $4,439,017,402 $180,397

Source: MMS data.

D. Inspector General Reports 

A December 2006 Inspector General (IG) audit made a number of findings related to 

MMS’s audit and compliance activities. The Subcommittee found this report useful 

and agrees with its findings.75 The major findings included the following: 

• Compliance reviews are a legitimate tool for evaluating the reasonableness of 

company-reported royalties and allow a broader coverage of royalties while 

requiring fewer resources than audits. However, the IG noted that MMS’s 

selection process to identify properties for compliance reviews or audits does 

not take into account which companies have the highest risk for underpaying 

royalties.76 The IG stated that this inappropriately treats audits, compliance 

 

75 Minerals Management Service’s Compliance Review Process. Report No. C-IN-MMS-006-2006. 

December 2006, Department of the Interior Office of Inspector General. 76 The IG identified a number of other areas where compliance reviews could be improved. These 

included: volume analysis; analysis of transportation and processing allowances; rationale for 

variance thresholds; guidance for audit referrals; notification of companies when compliance reviews 
 Chapter 4

57 

reviews, and Royalty in Kind analyses equally, and that it is flawed because it 

focuses on dollar coverage results in many of the same companies and 

properties being reviewed year after year. 

• MMS data systems are “inaccurate and incomplete.” 

• Cost tracking is insufficient for cost allocations. Costs were not separated by 

the different types of audits and compliance reviews. The handling of 

overhead costs was also disputed. 

• The allocation of benefits from audits and compliance reviews is uncertain 

and needs more justification. 

In December 2006, MMS’s MRM division developed an Action Plan in response to 

the Inspector General's recommendations.77 The IG report and the MRM action plan 

formed the starting point for the Subcommittee review. Prior to the IG report, MRM 

internal reviews had identified and initiated improvements related to some of the 

problems noted by the IG. For example, MRM began investigating risk-based 

processes early in 2006. 

While some tasks identified in the Action Plan have been completed, others have not 

been initiated as they require the completion of earlier tasks. Thus the complete 

results of the Action Plan will not be available until 2008. 

A September 2007 IG report also draws attention to issues associated with royalty 

collections.78 Among other issues, the report highlights issues associated with the 

calculation of interest payments on royalties and concerns associated with 

determining the extent to which companies were entitled to transportation 

deductions in some situations. The Subcommittee concurs that these issues are 

significant, though they may be avoided in certain cases by switching from collecting 

royalty in value (i.e., money) to collecting royalty in kind (i.e., quantities of gas and 

oil), for cases where analysis supports making this change. This advantage of inkind royalty collection is discussed further in Chapter 6, “The Royalty in Kind 

Program,” starting on page 87. 

E. Royalty Collections As a Result of Audit and 

Compliance Activities 

Royalty collection data for FY 2003 – FY 2006 are summarized in Table 9. In FY 

2006, royalty revenue was about $10.7 billion. Compliance-activity collections 

totaled about $80 million. The large increase in collections in 2005 and 2006 is in 

part due to MMS’s recent adoption of the compliance review option. 

 are performed; collection follow-up; adherence to quality control procedures; and sharing compliance 

review tools with State and Tribal Royalty Audit Committees (STRAC). 

77 Action Plan to Strengthen Minerals Management Service Compliance Program Operations, U.S. 

Department of the Interior, Minerals Management Service, Minerals Revenue Management, 

December 2006. 

78 Minerals Management Service, False Claims Allegations, Redacted Report of Investigation, U.S. 

Department of the Interior, Office of Inspector General, September 7, 2007. 
Report to the Royalty Policy Committee 

58 

Table 9 Reported Royalty Revenue and Royalty Collections As a Result of 

Compliance Activities, FY 2003 – FY 2006 ($ millions) 

 FY 2003 FY 2004 FY 2005 FY 2006 

Royalty Revenues 

Federal Offshore $4,536 $4,608 $5,535 $6,515 

Federal Onshore $1,744 $2,141 $2,731 $3,638 

American Indian $272 $387 $440 $579 

Total Royalty Revenue1 $6,551 $7,136 $8,706 $10,732 

 

Collections as a result of: 

 Audits $29.0 $21.2 $42.1 $33.5 

 Full-Scope Compliance Review2 $1.5 $1.5 $15.4 $15.7 

 Limited-Scope Compliance Review3 $9.2 $19.5 $53.4 $30.3 

Total Collections $39.6 $42.2 $110.9 $79.5 

1

 Total reported royalty revenues include all royalties reported to MMS in a particular fiscal year, 

including audit and compliance recoveries and False Claims Act recoveries. Reported Royalty 

Revenues sums the dollars received from various sales periods during the accounting year and 

includes collections from compliance activities. 

2

 Full-scope compliance reviews address all four elements of the royalty equation (volume, value, 

royalty rate, and allowances). 

3

 Limited-scope compliance reviews analyze one or more, but not all elements of the royalty equation. 

Source: MMS web site. 

Table 10 shows the total costs incurred for compliance activities by Compliance and 

Asset Management (CAM) office for FY 2003-FY 2006. 

Table 10 Total Cost by Compliance Office, FY 2003–FY 2006 ($ millions) 

Compliance Office FY 2003 FY 2004 FY 2005 FY 2006 

Federal Onshore CAM $1.85 $1.82 $2.14 $1.81 

Indian CAM $2.90 $4.29 $4.80 $2.94 

Offshore CAM $7.61 $7.85 $8.24 $4.83 

Solids and Geothermal CAM $0.54 $0.51 $0.75 $0.75 

State and Tribal $6.07 $6.17 $6.21 $5.96 

All Offices $18.97 $20.64 $22.13 $16.29 

Source: MMS data. 

Table 11 presents MMS information on revenues collected, the costs for all audits 

and compliance reviews, and the ratio of royalties collected per dollar of compliance 

expenditure. As shown in the table, the ratio of royalties collected per dollar of 

compliance expenditure exceeded unity for FY 2003 – FY 2006. 
 Chapter 4

59 

Table 11 Total Cost of Compliance Activities and Revenue Collections by 

Compliance Activity ($ millions) 

 FY 2003 FY 2004 FY 2005 FY 2006 

Collections as a result of: 

Audits $29.0 $21.2 $42.1 $33.5 

Full-Scope Compliance Review $1.5 $1.5 $15.4 $15.7 

Limited-Scope Compliance 

Review $9.2 $19.5 $53.4 $30.3 

Total Revenue Collected $39.6 $42.2 $110.9 $79.5 

 

Costs Associated With:

Audit $10.40 $10.74 $10.97 $9.95 

Compliance Reviews $8.57 $9.90 $11.16 $6.34 

Total Cost $18.97 $20.64 $22.13 $16.29 

 

Royalties Collected per Dollar of Compliance Expenditure, by Compliance Activity

Audit $2.79 $1.97 $3.84 $3.37 

Compliance Review $1.25 $2.12 $6.16 $7.26 

Source: MMS. 

Table 11 shows a significant return to compliance activities, in terms of revenue 

collected. However, the Subcommittee recognizes that the information shown in is 

likely to be revised by MMS once cost tracking efforts have been strengthened. The 

magnitude of these adjustments may change the relative “return on investment” 

figures reported here. 

The December 2006 IG report questioned the tallying of costs and benefits across 

the various compliance activities. Questions about the costs and benefits raise 

concerns about the accuracy of reported net benefits (i.e., royalty revenues 

collected). 

IV. Findings and Recommendations 

This section presents specific issues, findings and recommendations related to 

audits, compliance and enforcement. As noted above, some issues in the 

Coordination section (starting on page 75) related to inter-bureau coordination and 

information-sharing are similar to those addressed in Chapter 3 on Collections and 

Production Accountability. 

Issue 

Reallocating compliance resources (among compliance tools and across compliance 

partners) and establishing a more systematic compliance strategy could potentially 

increase royalty revenues. 

Background 

MMS has a choice in determining how to deploy its compliance resources. 

Analyzing the financial returns to different compliance tools can assist in this regard 

and could ultimately result in increased royalty revenues. Furthermore, MMS funds 
Report to the Royalty Policy Committee 

60 

compliance activities undertaken by the States and Tribes. This funding is not 

necessarily allocated based on risks associated with compliance issues in these 

jurisdictions, the number of producing leases, or the associated royalty revenues. 

Although funding information is not available on a per-State or per-Tribe basis, the 

Subcommittee received anecdotal information that such funding is not allocated 

based on the number of leases, royalty revenue returned, or revenue-per-lease. In 

concept, funding allocations should be associated with such measures of activity. 

The December 2006 IG report criticized the cost-benefit analyses performed by 

MMS for the audit and compliance programs, as providing insufficient information to 

substantiate the allocation of costs or benefits to each type of audit and compliance 

review. Without enumerating costs and benefits by type of audit/compliance review, 

MMS cannot efficiently allocate compliance resources or apply risk-based processes 

to the compliance program. 

A final report prepared by consultants on the costs and benefits of different 

compliance approaches was provided to MMS’s Royalty Policy Committee in August 

2007. The report analyzed the costs and benefit of using of different compliance 

strategies. The Report proposed that MMS’s MRM division track costs and benefits 

by the three types of audits and the two types of compliance reviews, and by the five 

compliance offices (Federal onshore CAM; Indian CAM; offshore CAM; solids and 

geothermal CAM; State and Tribal). 

Findings 

MMS and the IRS each use a continuum of compliance strategies. The IRS 

continuum, however, seems to be more finely graded, more explicit and perhaps a 

good model for MMS to use in sharpening its own approach. The IRS continuum 

also includes a Whistleblower program. 

As noted earlier, the December 2006 IG report made a number of key findings 

regarding audit and compliance. One important point was the need for a compliance 

strategy for choosing among types of audits and compliance reviews. The 

Subcommittee believes that a risk-based process is essential to ensure a more 

robust compliance program. A risk-based approach could entail considering risks 

associated with particular types of entities, geographic locations, and/or individual 

operators. Some consideration should be given to the allocation of the overall 

compliance budget, including funding for audits or compliance reviews performed by 

States and Tribes. 

The IRS has found that the level, quality, and quantity of available information 

impact the cost of assessing compliance, as well as the ability to evaluate the risk of 

non-compliance. Increased availability of information and reliable information 

systems, increase the probability of compliance and decreases the costs for 

assessing the risk of non-compliance and conducting audits or compliance reviews. 

Given that MMS had not been tracking costs by type of audit or compliance review, 
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61 

the Subcommittee concluded that the concerns raised by the December 2006 IG are 

legitimate. 

Recommendations 

These recommendations will assist MMS in establishing a systematic compliance 

policy. This involves setting high-level compliance policies and ensuring that 

adequate information is available to allocate the costs and benefits by compliance 

method and by CAM office. This is essential input to the risk-based compliance 

process and performance measures. 

Recommendation 4-1 MMS should establish a “Compliance Strategy Council” 

to identify an MMS-wide compliance strategy. The Council should be 

established by June 2008. Membership of the Council should include senior 

MMS compliance managers. Outside membership, such as senior IRS staff 

experienced in risk-based compliance processes, should also be considered. 

The Council could consider a number of issues initially including: 

• Establishing an overall compliance policy premised on the fact that a set 

of audit/reviews are mandatory (e.g., Indian leases) and another set of 

audit/reviews is discretionary. This set would include the very large 

companies where MMS currently has teams onsite, high risk companies or 

properties, and cases suitable for training new personnel. MMS should 

employ risk models to assist in cost effectively targeting its compliance 

resources.79

• Establishing a process whereby compliance initiatives identified by MMS 

compliance staff can be reviewed and approved. 

• Establishing performance guidelines and measures to govern overall 

compliance strategy (performance measures are discussed in more detail 

below). The guidelines could be based on “yield” (either revenues 

collected per hour and/or revenue collected per dollar compliance cost 

incurred); identifying and stopping egregious behavior; and establishing an 

even-handed, fair, enforcement program. 

• Identifying a set of “filters” that could be applied to assist in targeting 

compliance resources. These filters might be based on geographic 

factors (e.g., offshore versus onshore) or on products (e.g., oil versus 

gas). 

 

79 The IRS dedicates about half its compliance budget to “discretionary” compliance activities. In 

general, filings are scored using risk models. Using historical data, the models assist in estimating the 

time and cost required and the potential benefit. For different categories of taxpayers (or payors or 

properties for MMS) the goal is to develop ranked list to determine the best candidates for an 

audit/review. 
Report to the Royalty Policy Committee 

62 

Recommendation 4-2 MMS should systematically review staffing and budgetary 

needs required to implement the August 2007 consultant’s report on 

compliance strategies. MMS should prepare a plan for tracking costs and 

benefits by audit/review type and by compliance office. 

Recommendation 4-3 MMS should systematically review the allocation of 

compliance resources across States and Tribes. This review should include 

an examination of the staffing and budgets for other Federal agencies 

engaged in similar activities. 

Recommendation 4-4 MMS should commit to an ongoing effort to evaluate the 

relative benefits and costs associated with different compliance tools. This 

effort should include appropriate investments in data gathering and analysis. 

As a starting point, MMS should evaluate the results from the audit and 

compliance program cost-benefit study and implement its recommendations 

as appropriate. During the next fiscal year, MMS should develop a plan to 

ensure that the appropriate compliance data will be collected and analyzed on 

an ongoing basis to assist in ensuring that the best mix of compliance tools is 

being applied. MMS should consider consulting with the IG and GAO 

regarding the sufficiency of these Plans. 

Recommendation 4-5 MMS should assess the use of more targeted 

audits/reviews that focus on high-risk issues, and determine the extent to 

which a more flexible approach to audits is feasible (along the lines of the IRS 

model). In particular, the IRS employs a suite of enforcement approaches 

ranging from compliance checks to limited- or full-scope field audits. 

Recommendation 4-6 MMS should initial a pilot test of a royalty non-compliance 

“whistleblower” program, similar to the program administered by the IRS, as 

authorized under Section 7623 of the Internal Revenue Code. A short-term 

step could be setting up a “hot line,” and posting signs at Federal and Indian 

facilities listing a telephone number for reporting theft of Federal minerals to 

MMS. 

A longer-term effort would require authorization by Congress and could permit 

MMS to pay a reward from additional non-interest royalties collected. The 

reward would be a portion of the additional revenues collected as a result of 

receiving information leading to the identification of Federal or Indian mineral 

royalty non-compliance. 

Anyone could file a claim for award unless: 

1. They were employed by the Minerals Management Service or the Bureau 

of Land Management at the time they received or provided the 

information; or 

2. They are a present or former Federal employee or contractor who 

received the information in the course of official duties. 
 Chapter 4

63 

Notices about the program would be posted on wells and production facilities 

located on Federal and Indian land. The identity of informants would be kept 

confidential. 

Information provided by a whistleblower would trigger some form of 

compliance review or audit. MMS would determine the amount of the reward 

(if any) to be paid. The amount of the reward would be in proportion to the 

value of the information provided, as a percentage of the additional taxes, 

fines, and penalties MMS collects.80 MMS would determine if the information 

provided warrants an investigation, and the value of any information received. 

If an investigation is initiated, there would be no time limit for disposition of the 

case. 

In addition to the above-described pilot effort, BLM should revise the 

regulations at 43 CFR 3162.6 to require a notice be posted at each Federal 

oil and gas location within a one-year phase-in period. Such notice, perhaps 

placed on condensate tanks or meter houses, could provide the reader with a 

toll-free number for reporting theft of Federal minerals to the Bureau of Land 

Management. 

Recommendation 4-7 MMS should evaluate the extent to which additional 

flexibility with accounting standards and requirements might reduce costs 

without compromising the integrity of the compliance process. MMS should 

consult with the IRS in this evaluation. 

Recommendation 4-8 MMS should require electronic submission of all relevant 

information. 

Issue 

Establishing a risk-based compliance process could improve compliance and 

potentially increase royalty revenues 

Background 

The Inspector General concluded that MMS’s processes for determining whom to 

review and when to perform audits versus compliance reviews was inadequate. 

This also applied to the level of audit or compliance review to be performed. This 

recommendation from the IG is the basis for establishing a comprehensive strategy 

that incorporates both audits and compliance reviews. As previously described, 

there are three types of audits (company audits; property audits; and issue audits), 

and two types of compliance reviews (full and limited scope). The current process 

focuses on properties with the highest royalty dollars. Thus, there is a significant 

risk that non-compliant payors are not reviewed while resources are expended 

reviewing payors with a low risk of non-compliance. Changes to compliance 

strategy could be expected to increase collections as well as making the compliance 

program more equitable. 

 

80 Interest payments would be excluded from the basis. 
Report to the Royalty Policy Committee 

64 

Findings 

• The Subcommittee agrees with the Inspector General that MMS needs to 

develop a comprehensive compliance strategy that incorporates both compliance 

reviews and audits. 

• MMS compliance and audit resources may not be deployed in the most efficient 

manner. Reducing the frequency of audits for low risk properties would allow 

resources to be redirected to reviews of small, high risk properties, reducing 

errors from rarely-reviewed operators. 

• The process for determining which properties to review has focused on high 

royalty properties. Thus properties producing high volumes of oil and gas are 

reviewed frequently even when there is a low incidence of discrepancies. Low 

volume non-Indian properties are reviewed infrequently. 

• The decision of whether to perform an audit or a compliance review has been 

based mostly on costs incurred, rather than risk of underpayment. While this 

results in wider coverage by the reviews, it may not be the best use of resources 

because error on high risk properties may be missed by a review. 

• MMS has initiated a pilot project to develop risk-based processes to help 

determine the extent to which an audit or a compliance review should be 

undertaken for any particular property, however it is premature to draw 

conclusions about the results. The pilot project is on schedule and is expected to 

be completed by February 2008. Once completed, the results will have to be 

evaluated, changes proposed, approved, and implemented. The expectation is 

this will be completed for FY 2009. The final design will be an evolving process 

that is adjusted over time as risks and conditions change. 

• The IRS has more than 40 years of experience with risk-based processes in its 

compliance program.81 While the scale and scope of the IRS mission are much 

broader than MMS mission, the issues are similar. The IRS uses sophisticated 

risk models to assist in cost-effectively deploying its compliance resources. The 

development of these models required a substantial investment in data collection 

and analysis. The data collection efforts included random samples of tax returns 

to examine the types of errors that occur and the reasons for those errors. 

Actual use of these models requires use of extensive information for every audit 

and compliance review, including what/who was audited/reviewed, what work 

was done, location, who did the work, why the audit/review was conducted (size, 

risk factors, random, etc), time and costs, and results. There are, however, 

issues for which manual review is still more useful than automated risk models. 

• Oversight of the actions identified in MMS’s Action Plan should continue until the 

satisfactory conclusion of the action plan and subsequent implementation of 

improvements. 

• Budget and staff resources available for compliance activities have decreased 

over the past several years. The Subcommittee believes that the likelihood of a 

 

81 The IRS has invested significant resources gathering and analyzing data designed to assist in 

focusing their compliance resources in an efficient manner. Underlying their efforts to effectively 

deploy their resources are data on the magnitude and composition of the "tax gap," or the difference 

between what taxpayers owe and what they actually pay on a timely basis. 
 Chapter 4

65 

successful risk-based approach will be reduced unless these trends are 

reversed. 

Recommendations 

A robust risk-based process for compliance would enable MRM to employ a more 

sophisticated and potentially more cost effective approach. Estimating the amounts 

and associated probabilities of potential royalty recovery from each payor or various 

types of payors could be combined with information on the costs of performing each 

type of audit/review (discussed in more detail below) to provide information on the 

net returns to various compliance strategies. Ultimately, implementation of a riskbased process could assist MMS in making the most efficient use of its resources. 

The following recommendations address the establishment of a risk-based 

compliance strategy. 

Recommendation 4-9 MMS should complete its risk-based compliance pilot 

project and develop a plan for implementing a risk-based compliance strategy 

on an MMS-wide basis, using an incremental approach to ensure that 

essential data and related management information systems are validated 

and ready for wider application. The first phase of this effort should be 

completed by the end of FY 2008 and should address the offshore program. 

This plan should include a review by knowledgeable IRS staff to ensure that 

relevant experience and information from the IRS’s experience with 

implementing risk-based audit strategies can be incorporated. The IRS 

experience suggests also the following: 

• In the short-term, the MMS risk-based pilot project should develop 

compliance risk models based on the data currently available. MMS 

should collect additional data over the next year to allow it to develop and 

implement more complex models. 

• Procedures should be established to ensure that the information systems 

necessary to support a successful risk-based compliance strategy are 

systematically reviewed, refined, and improved on a periodic basis. 

• Validation of risk models – MMS should establish a process to validate 

and update the risk models. If the risk models are poor predictors of 

compliance problems, MMS should collect additional information and 

analyze other factors that may be better correlated with a lack of 

compliance. Continuous evaluation and refinement over time are critical, 

and should be based on empirical analysis of the factors underlying 

compliance or non-compliance. 

• MMS should tailor its issue audits and limited scope compliance reviews 

to the high risk factors found in the pilot project and future risk analyses. 

For the most part, this means focusing on high payors and noncompliance actions that either are having significant impacts or evolve in 

that direction. However, sampling of other categories of payors is also 

necessary to ensure comprehensive coverage. 
Report to the Royalty Policy Committee 

66 

Recommendation 4-10 MMS should enhance its tracking system to include the 

following information for every audit and compliance review: identification of 

the company/property/location; who performed work (staff, office, etc.); the 

type of work that was done (type of audit/review, information collected, 

reviewed, analyzed, etc.); why the work was initiated (mandate, risk factors, 

random sample, etc.); results (royalties recovered, penalties, etc.); and time 

and resources spent. 

Recommendation 4-11 MMS should keep GAO and the IG informed on the 

progress of the pilot project and resultant proposals. 

Recommendation 4-12 The Royalty Policy Committee should continue to monitor 

the pilot, resultant proposals, implementation of improvements, and impacts 

on the compliance program. 

Issue 

A meaningful set of performance measures is essential to improve the management 

of the compliance program. 

Background 

The current Government Performance and Results Act (GPRA) goals and 

performance measures associated with royalty compliance do not provide adequate 

metrics to evaluate compliance. A strong set of performance measures is integral to 

evaluating program performance. It is important to select performance measures 

that will provide feedback on the most important elements of the activities at issue. 

Findings 

• The Performance Tracking Tool (PTT) relies heavily on manual data entry. 

This has the potential for being out of date, creating data inconsistencies, and 

is subject to manipulation. 

• As required by the IRS Restructuring and Reform Act of 1998 (RRA 98), the 

IRS developed their Balanced Measures Performance System. This 

approach has three major components: Customer Satisfaction, Employee 

Satisfaction, and Business Results. The Business Results measure uses 

goals to increase fairness of compliance as well as to increase overall 

compliance to meet the mission of taxpayer compliance (accurate data, timely 

submission, and correct payment). The Balanced Measures Performance 

System has a management hierarchy that starts with strategic goals and 

filters down to individual performance measures. 
 Chapter 4

67 

Recommendations 

MMS should establish stronger measures to evaluate the performance of the 

compliance program. This would enable further improvements to the program and 

provide a justification for additional resources if necessary. 

Recommendation 4-13 MMS should develop a new set of Government 

Performance and Results Act goals and measures based on the recently 

completed analysis of the benefits and costs of different compliance tools and 

the risk-based compliance process pilot (a risk-based pilot is scheduled for 

completion in February 2008). MMS should establish final goals and 

measures by the end of February 2008. 

Recommendation 4-14 MMS should automate the data entry process for all 

compliance management information systems and establish a schedule for 

completing this effort, with a completion date of not later than June 2009. 

This will keep data current, improve data quality and consistency, and 

improve the reliability of the information used in decision-making and 

performance tracking and evaluation. 

Recommendation 4-15 MMS should evaluate the performance measures used 

by other entities. In particular, MMS should review the IRS “Balanced 

Measures” performance system. 

Issue 

Existing compliance information systems contain duplicate information; data quality 

is also a concern. 

Background 

MMS utilizes several information systems to manage their compliance program. The 

main systems are the Compliance Information Management (CIM) system, the 

Performance Tracking Tool (PTT), the GPRA databases, the Liquid Verification 

System (LVS) and the Gas Verification System (GVS). The December 2006 IG 

report stated that these systems have “data reliability issues” and are “inaccurate 

and incomplete.” MMS is currently reviewing processes regarding LVS and GVS for 

improvements. 

Annual Compliance Workplans also constitute, in some sense, a compliance 

information system. MMS sets and communicates annual goals to the CAM offices, 

the States and the Tribes. The CAM offices, States and Tribes then develop an 

annual workplan of activities for the coming fiscal year, which must be approved by 

MMS. MMS currently seeks to avoid duplicating audits or reviews underway by the 

States and Tribes; a risk-based process would likely require greater coordination 

throughout the year, as each office works through the risk-based lists 
Report to the Royalty Policy Committee 

68 

The September 2007 IG report also noted difficulties with the MMS systems used to 

calculate interest payments on royalties. This issue merits further attention from 

MMS management. 

Findings 

• Unreliable data leads to poor decisions and miscalculations. The resulting 

problems take time and resources to correct and may also result in negative 

financial audit findings against MMS as well as incorrect payments to States, 

Tribes, and individual Indians. 

• Data entry and maintenance for the Compliance Information Management 

(CIM) tracking system by various MMS Compliance and Asset Management 

(CAM) offices has been inconsistent, preventing accurate tracking and 

reporting on compliance reviews. Some CAM offices do not enter complete 

information on their compliance reviews into CIM. In addition, the status of 

work in progress is not in CIM so managers do not have sufficient information 

to track the progress of compliance reviews and manage their workloads. 

• Existing compliance management information systems contain identical data 

and may be redundant. Duplicate data is collected for the Workplan, 

Compliance Information Management system (CIM), and Performance 

Tracking Tool (PTT) systems. 

Information is entered and updated manually separately for three databases: 

the Workplan, the Compliance Information Management system (CIM), and 

the Performance Tracking Tool (PTT), creating the possibility of data errors. 

As a result, periodic manual check must be performed to ensure that the 

values for identical data elements match across all three databases. This 

takes time and resources away from doing productive work. 

Good data management practices suggest that there should be a single 

authoritative source for each data element. When a data element from one 

dataset is required for another dataset, the element should be passed 

between datasets, rather than collected again. 

Table 12 illustrates this duplication across systems. The validation procedure 

involves checking that data elements match across all systems, and 

correcting any mismatches. This exercise is performed quarterly and at the 

end of the year to ensure that all systems contain consistent information. 

 
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69 

Table 12 Data Fields in Various Compliance Information Systems 

System Name: Compliance Information 

Management System 

Performance 

Tracking Tool 

Approved Work 

Plan 

CIM Case No. CIM No. CIM Case No. 

Compliance Type Type Compliance Type 

Office CAM Office 

Sub-Office 

“Primary” 

(GS-13 Supervisor’s name) Sub-Office 

Property Property Property 

Data Field Names, 

by system: 

Compliance Period Period Compliance Period 

• There are data reliability problems with the Liquid Verification and the Gas 

Verification Systems, both of which are used to verify offshore production 

volumes. Much of the data required for these systems is entered 

automatically from electronic run tickets, but some volume data comes in 

paper reports and must be entered manually.82 In some cases data may not 

be entered or may be entered inaccurately. MMS has released draft 

procedures and standards for entry and maintenance of data in the CIM for 

full scope compliance reviews, as well as procedures to ensure quality and 

consistency. However, these draft procedures do not apply to limited-scope 

compliance reviews. In general, the draft procedures define roles and 

responsibilities and identify procedures for manual data entry and crosschecks. Entering data into the other systems referenced in Table 10 above 

(PTT and the Workplan) are separate processes. 

Recommendations 

As noted below and in prior recommendations (e.g., those associated with riskbased processes) the Subcommittee believes it essential that data quality, reliability, 

and consistency be improved. This will reduce the time required to manually enter 

and check data. 

The following recommendations are directed toward MMS: 

Recommendation 4-16 MMS should place a high priority on improving the 

processes and procedures associated with calculating interest on royalty 

payments. These issues should be addressed as soon as possible. 

Recommendation 4-17 MMS should eliminate duplicate data by consolidating 

several databases, including databases for the Compliance Information 

Management system (CIM), the Performance Tracking Tool (PTT), and the 

Government Performance and Results Act (GPRA). 

MMS management must define a comprehensive set of requirements for 

generating management information in the work process. Queries to 

management information systems should draw from a common database that 

 

82 Run tickets record the volume of a “run” or portion of oil or gas flowing through a measurement 

meter. 
Report to the Royalty Policy Committee 

70 

can be modified to meet changing management needs and integrated with 

other systems as necessary. 

Recommendation 4-18 MMS should implement automatic updates by integrating 

the Compliance Information Management System (CIM) and the Performance 

Tracking Tool information system (PTT) rather than depending on manual 

data entry. 

For example, when a supervisor approves a compliance review, she 

subsequently goes into CIM, finds the entry for that review, indicates that she 

approved it, enters her name, the date, etc. An electronic approval process 

would allow all of information to be entered automatically and limit backdating 

or otherwise modifying entries. 

Recommendation 4-19 MMS should define and use consistent procedures for all 

compliance reviews. 

Recommendation 4-20 MMS should seek consult with the Inspector General on 

the draft procedures in the updated manuals. 

Recommendation 4-21 MMS should require electronic submission of all offshore 

run tickets for input to Liquid Verification System and Gas Verification 

System. 

The following recommendations are directed toward BLM: 

Recommendation 4-22 BLM should evaluate implementing equivalent systems 

onshore for electronic submission of run tickets. BLM can accept electronic 

run tickets now, but the many small operators onshore may render a 

requirement for electronic submission impractical. Adapting LVS and GVS to 

onshore production may supplement existing systems. 

Recommendation 4-23 BLM should integrate business process improvements 

and information management planning via improved coordination with MMS. 

Issue 

MMS refers to certain data collected for pricing and compliance reviews as 

“expected values.” This term may be more commonly used to denote estimated or 

forecasted values, rather than proxy values, as understood by MMS. 

Background 

Compliance reviews examine production volume reports, royalty reports, and 

publicly available data to assess whether the royalty amounts reported and paid 

seem reasonable, given available price data and volume measurements. Thus, 

invalid price data may lead to the compliance review overlooking likely royalty 

discrepancies. The IG questioned the validity of these “expected values” for prices 

used in compliance reviews. 
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71 

Findings 

The term “expected values” is misleading when used to connote estimated or 

forecasted numbers. In general, these “expected values” are in fact actual prices or 

actual values of market indices. The “expected value” label refers to the fact that 

although MMS does not know the exact price that should be applied during a royalty 

calculation, the prices or indices used are expected to be approximately similar. 

These prices and indices vary in quality and reliability and are dependent on the 

resource valued and its location as described below: 

• Indian gas valuation: the gas valuation methodology required in the January 1, 

2000 Indian gas rule has improved product value certainty for both the Indian 

lessors and the payors of Indian gas production. The certainty results in fewer 

issues concerning gas value issues, which also results in reduced lease 

administrative and compliance cost. 

• Indian oil valuation: MMS continues to rely on a rule dating from March 1988. 

This rule references product valuation methods based on industry posted prices. 

A revised rule to change the posted price methodology to a method that is based 

on market-driven indices was proposed in February 1998, supplemented by an 

additional proposed rule in January 2000. These proposed rules were withdrawn 

in February 2005, pending a series of public meetings and MMS’s review of the 

issue.83 

In February 2006, an Indian oil valuation rule was published, which based oil 

valuation on a lessee’s gross proceeds. The “major portion” provision84 found in 

most Indian leases would have been difficult to implement, as MMS does not 

collect information on oil type or gravity, or sales data for State and private oil. 

As a result, MMS proposed designating certain producing areas from which sales 

information could be used to perform the “major portion” calculation. This 

proposed rule was subsequently abandoned in 2006, due to strong opposition to 

certain provisions the proposed rule by both the Indian community and industry. 

MMS told the Subcommittee that the most contentious provisions were the major 

portion provision (and the additional reporting requirements that were part of the 

provision) and the non-arm's-length transportation provision mirroring Federal oil 

and gas rules.85 MMS has stated that it is planning to publish a final rule that 

would make only some technical amendments. 

Once these technical corrections are made, MMS can propose a rulemaking that 

 

83 MMS decided to withdraw the two proposed rules because of the substantial time that had passed 

since the last proposal. "Public Workshop on Proposed Rule—Establishing Oil Value for Royalty Due 

on Indian Leases” 30 CFR Part 206 Federal Register. February 22, 2005, page 8556. Other reasons 

cited by MMS include changes in the market for crude oil, including a switch to selling most Indian oil 

in arms-length transactions, and information gathered in the 2004 rulemaking process, e.g. most midcontinent oil is sold on a “NYMEX plus the roll” basis. Deputy Associate Director, MMS. E-mail “RE: 

question re Indian oil regs history.” November 20, 2007. 

84 While most Indian gas is valued using published index prices, a 1996 regulation allows natural gas 

to be valued at the highest price paid (or offered) for a “major portion” (at least 50%). 85 Deputy Associate Director, MMS. E-mail “RE: question re Indian oil regs history.” November 19, 

2007. 
Report to the Royalty Policy Committee 

72 

would implement a system comparable to that used for Indian gas. Tribes are 

understandably frustrated by this lack of progress, and are waiting for a new oil 

rule along the lines of the Federal oil rule. 

• Federal gas-onshore and offshore: The Federal gas rule promulgated in 1988 

was revised in 1997 and MMS prevailed in the 2002 DeWitt decision. To 

conform to the DeWitt decision and address the calculation of transportation 

deductions the Federal gas rule was further revised in 2005. Unlike oil valuation, 

gas valuation has not shifted to indexing but still employs benchmarks, although 

this has been the subject of review. As a separate matter, the calculation of gas 

transportation and gas processing has for both arm’s length and non-arm’s 

length transactions become very difficult because deductible and non-deductible 

costs are often bundled in the transportation or processing rates being used 

thereby greatly complicating MMS compliance review and audits. 86

• Federal oil – onshore and offshore: MMS uses NYMEX prices (except a 

benchmark price in the Rocky Mountain Region). This method uses a rolling 

average to estimate near-term prices. This is the standard market practice for 

pricing and overcomes issues with non-arms-length transactions. 

• Solid minerals: Valuation uses the actual prices paid. This works well for armslength transactions, but there are problems with non-arms-length transactions. 

For example, coal may be sold to a power plant where there is common 

ownership of the mine and power plant. The coal could be sold at less than fair 

market value with the lost profit gained in the sale of the electricity. Thus the 

government would not be receiving the appropriate royalty on the coal. Nonarms-length transactions are common in the coal industry. The potential 

development of coal for liquefaction and gasification and the development of oil 

shale will likely result in similar non-arms length transactions. 

Recommendations 

Clarifying the rules for onshore gas and transportation deductions and for solid 

minerals would provide more certainty for MMS, BLM, and industry and should result 

in better compliance. 

The following recommendations are directed toward MMS and the Department of the 

Interior: 

Recommendation 4-24 MMS should finalize the “technical changes” Indian oil 

valuation rule immediately, and forward it to the Office of Management and 

 

86 MMS has had issues with gas valuation indexing for several years. Recently the topic was 

addressed by the Royalty Policy Committee (see, e.g., Status Report, Oil and Gas Valuation 

Subcommittee, Nov. 14, 2006). Nevertheless, some issues still remain, such as gas price reporting 

by reporting services, an area regulated by the Federal Energy Regulatory Commission. As an 

example of the complexities associated with this issue, gas may have to be piped to a central 

gathering facility far from the lease. Gas may also be processed offsite to separate valuable liquids 

or to meet pipeline specifications. In any of these examples the magnitude of allowable deductions 

may be unclear. Transportation deductions are also discussed in “Minerals Management Service: 

False Claims Allegations”, Office of the Inspector General, U.S. Department of the Interior, 

September 7, 2007, pp. 76-80. 
 Chapter 4

73 

Budget. The rulemaking process to change to Indian oil valuation 

methodology to provide greater certainty for all parties and address a long 

standing concern of Indian Tribes should commence as soon as possible 

once the proposed rule has been forwarded to OMB. 

Recommendation 4-25 By June FY 2008 MMS should propose an Indian oil rule 

to change the methodology for valuing Indian oil from a posted price method 

to a market index methodology, as was done for production from Federal oil 

and Indian gas leases. 

Recommendation 4-26 By the end of FY 2008, MMS should publish proposed 

revisions to the gas valuation regulations and guidelines to address the costbundling issue, and to facilitate the calculation of gas transportation and gas 

processing deductions. MMS should consider incorporating into the proposed 

revisions the use of market indices for gas valuation in the context of nonarm’s length transactions in lieu of the benchmarks that have been employed 

since 1988.

Recommendation 4-27 By the end of FY 2008 MMS should review, and (as 

appropriate) revise and implement the regulations and guidance for 

calculating prices used in checking royalty compliance for solid minerals, with 

particular attention to non-arms-length transactions. 
Report to the Royalty Policy Committee 

74 
75 

Chapter 5 

Coordination, Communication, and 

Information Sharing among MMS, BLM, 

and BIA
Report to the Royalty Policy Committee 

76 

 Chapter 5 Coordination, Communication, and Information 

Sharing among MMS, BLM, and BIA

Summary of Major Recommendations in Chapter 5 

(A complete list of all recommendations is provided in Appendix 1) 

• By June 2008, the Department should establish a Coordinating Committee with 

representatives from the senior management level in MMS, BLM, and BIA. 

Bureau representatives should have the authority to ensure decisions and 

recommendations are implemented in their respective bureaus. (see 

Recommendation 5-9 on page 85) 

• To support the Departmental Coordinating Committee described in 

Recommendation 5-9, each Bureau should establish procedures for 

strengthening intra-Bureau coordination. (see Recommendation 5-10 on page 

86) 

• MMS and BLM should secure appropriate access to the Indian lease system. 

This is necessary to prevent delays in approving lease activity, and to ensure 

MMS has the correct information for managing revenue from Indian leases. (see 

Recommendation 5-2 on page 84) 

• DOI should work to reconnect the systems containing Indian data after 

appropriate security measures are in place. The Indian Automated Fluid Mineral 

Support System (IAFMSS) and the Indian Well Information System (IWIS) should 

be restarted; appropriate access to IAFMSS for MMS and Indian contract 

inspectors should be provided. In addition, once appropriate security measures 

are in place, MMS should provide BLM users with the ability to query these 

systems by any parameter (e.g., lease number). (see Recommendation 5-3 on 

page 84) 

• DOI should establish standards for geospatial data regarding Indian leases that 

facilitate management of Indian resources while still meeting DOI’s Trust 

responsibilities. (see Recommendation 5-7 on page 84) 

• DOI should seek a review of the decision classifying boundary information for 

Indian allotments, leases, and agreements as Trust information. Any solution 

should satisfy Trust responsibilities and allow the DOI bureaus to carry out their 

management responsibilities efficiently. (see Recommendation 5-8 on page 85) 
 Chapter 5

77 

Chapter 5 Coordination, Communication, and 

Information Sharing among MMS, BLM, and 

BIA 

I. Introduction 

The Minerals Management Service (MMS), the Bureau of Land Management (BLM), 

and the Bureau of Indian Affairs (BIA) all have responsibilities associated with the 

extraction of onshore minerals resources on Federal and Indian lands. Coordination 

and communication among these Interior bureaus is important for administering the 

minerals royalty program in an efficient manner. Clarification of the respective role 

of each agency is needed. This will help determine the level of integration of their 

activities and sharing of information. 

II. Background 

A. Roles and Responsibilities of the Federal Agencies 

Management of Federal and Indian mineral resources is a complex process 

requiring careful coordination to ensure that: 

• Those resources are available for development and production; 

• The environment is protected; and 

• Royalty revenues are collected and properly distributed. 

While there are many parties with a role in this process (Federal and State agencies, 

industry, and the public), the managing Federal agencies are MMS, BLM, and the 

BIA. For this discussion it is appropriate to separate MMS into its two components: 

Offshore Minerals Management (OMM) and Minerals Revenue Management (MRM). 

Table 13 identifies the major roles and responsibilities of the bureaus and the 

significant information and coordination required at each step in the royalty 

management process. 
Report to the Royalty Policy Committee 

78 

Table 13 Management of Federal and Indian Mineral Resources: Roles and 

Responsibilities 

 Location of Mineral Resource 

Onshore Function Offshore Federal Indian 

Information necessary for effective 

coordination 

Develop and 

implement 

Management 

Plans* 

MMS BLM BIA Land status, areas available for 

leasing, stipulations 

Lease parcels MMS BLM BIA Lease terms and conditions, royalty 

rate, distribution of revenue 

Permit/inspect 

operations/enforce

ment 

MMS BLM BLM Well/lease operating and production 

status, information on operations 

Production 

verification 

MMS BLM BLM Production information generated by 

agency field measurements and 

inspections 

Production reports MMS MMS MMS Operator reported production 

Production 

accountability 

(compare 

measurements to 

reports) 

MMS BLM BLM Production information reported by 

operators; production information from 

agency information systems 

Royalty payment 

compliance 

MMS MMS MMS Compliance status 

Royalty 

collections/ 

enforcement 

MMS MMS MMS Compliance status 

Revenue 

distribution 

MMS MMS MMS Revenue distribution information 

*BLM is responsible for Resource Management Plans on BLM-managed lands. Other Federal 

agencies are responsible for surface management on lands they manage (e.g., Forest Service, 

Department of Defense., Fish and Wildlife Service). 

Source: Subcommittee. 

Previous inter-bureau projects were intended to improve coordination. For example, 

BLM and MMS’s Offshore Minerals Management (OMM) developed data standards 

for well information that led to BLM’s Well Information System. Past proposals have 

also included a “DOI Land and Resource Management (DLRM) system.” 

While inter-bureau communication is essential, intra-bureau communication is also 

critical. This can facilitate the implementation of more effective compliance 

strategies as well as stronger production accountability efforts. 

B. Mineral Leases on Indian Lands 

BIA is responsible for planning for and issuing mineral leases on Indian lands. This 

includes solid minerals, primarily coal, and fluid minerals, such as oil and gas. 
 Chapter 5

79 

For solid minerals, once a lease has been issued and a mining plan of operations 

submitted, BLM must process this plan and, if adequate, approve it for the extraction 

of the solid minerals resource. This responsibility includes at least quarterly 

inspections, and documentation of the production that will be reported to MMS. It is 

customary for BLM to invite the BIA and a Tribal member or allottee to join BLM in its 

inspection of the mine proper. Upon request and approval by BLM, the Indian 

community may also be delegated the authority to assume BLM’s operational 

responsibility under P.L. 93-638, the Indian Self Determination Act and Educational 

Assistance Act. On a monthly basis, operators submit a Production and Royalty 

Report to MMS, who enters this data into MMS’s Minerals Revenue Management 

(MRM) system. This data is then available to BLM the same day it is entered into 

the MRM system. BLM then compares this data with sales reports, volumetric 

measurements taken in the mine, and other records to determine if the operator 

accurately reported production to MMS. 

BIA also issues “Business Permits” for mineral extraction. These permits are issued 

for the removal of relatively small quantities of material from particular sites. 

However, BLM is not necessarily made aware when a permit is issued, the minerals 

covered, or the location of the permit. These permits may in some instances also be 

issued without procedures normally applied under the more formal issuance of a 

mineral lease.87 Typically these procedures would involve compliance with the 

requirements of the National Environmental Policy Act, mitigation, reclamation, and 

inspection requirements for royalty management and production verification. 

For fluid minerals, after the lease is issued by BIA, the operator submits an 

application for permit to drill (APD). BLM approves the APD, conducts inspections 

and performs production accountability reviews. Indian Tribes can establish a 

contract with BLM to perform inspections of operations on their lands. Due to the 

large number of operations, automated information sharing is necessary for efficient 

operations. 

C. Decentralization of Mineral Leasing Responsibilities 

MMS, BLM and BIA royalty compliance staff are highly decentralized, particularly 

BLM and BIA. In addition, State and Tribal auditors are located in eleven States and 

seven Indian Reservations. The oil and gas program in BLM is active in 31 separate 

offices under the jurisdiction of eight different BLM State Offices. Further, as noted 

earlier, the onshore program manages far more leases than the offshore program. 

AFMSS has provided standardization on most operations and inspections. 

However, a standardized national lease sale system does not exist.88 The lack of a 

national lease sales system has resulted in inconsistent records creation and 

maintenance. This leads to rejections during the processing of records by MMS. 

Inaccurate data will sometimes pass MMS’s edits, resulting in problems later. 

 

87 A “permit” means any contract issued by the superintendent or the area director to conduct 

exploration operations on, or remove less than 5,000 cubic yards per year of common varieties of 

minerals from, Indian Lands. 

88 While proposed, the National Lease Sale System has been deferred for budgetary reasons. 
Report to the Royalty Policy Committee 

80 

The problems associated with decentralization are exacerbated by the lack of welltrained employees. Anecdotal information gathered by the Subcommittee indicates 

that some BLM offices have reported high turnover rates due to staff “burn out” and 

to experienced staff leaving for higher salaries in private industry. The consequence 

of this is that experienced personnel are not always available to address increasing 

workload demands. In BLM for example, the number of oil and gas leases issued 

increased from about 2,000 in FY 2003 to almost 4,000 in FY 2006; and approvals of 

applications for permit to drill (APDs) more than doubled between FY 2002 and FY 

2006. Inexperienced personnel tend to make relatively more errors than 

experienced personnel, especially when addressing complex, unusual, or special 

cases.89

Leases issued under the Indian Mineral Development Act of 1982 (IMDA) do not 

follow a standard for lease terms and conditions. This creates difficulty for MMS’s 

systems to manage automatically and typically requires manual intervention. 

D. Geospatial Information 

Efficient management of minerals makes use of geospatial information. Using 

geospatial information allows one to easily observe where leases are in effect, 

where land is available for lease, and the location of environmental resources that 

may be impacted by mineral development. For example, BLM is currently 

developing a pilot sponsored by the Trust Executive Steering Committee (TESC) 

aimed at automating the Trust Asset and Accounting Management System 

(TAMMS) in a geospatial environment. Geospatial information is also used to 

identify drainage (where oil and gas resources are being drained from Federal or 

Indian lands by wells on adjacent property). Maps are also useful for identifying 

trespass where someone is conducting unauthorized mineral activities. This 

information is also important for fire and safety issues.90

 

89 Relatively complex situations include leases on lands with unusual stipulations, Army Corps of 

Engineer lands, and Federal acquired lands (formerly privately or State-managed), 90 OMB Circular A-16 lists BLM as the agency responsible for three areas of geospatial data: 

Federal land ownership status, public land conveyance records and cadastral survey. To-date, 

BLM’s geospatial data have been maintained in separate state offices, and sometimes at individual 

field offices. BLM has recently developed national-level databases for text and GIS data, including 

legal land descriptions, Federal land status, case files for mineral leases, rights-of-way, mining claim 

data, grazing permits, and BLM roads and facilities. BLM is now working with the Forest Service to 

incorporate their geospatial and case data into the National Integrated Lands System and the LR2000 

system. These GIS data are currently used for internal and public planning and decision-making; 

cross-checking against other data and paper maps and files will be required until data validation is 

complete. Data on Indian lands is not readily accessible from the existing databases because of 

Cobell lawsuit issues. 
 Chapter 5

81 

III. Findings and Recommendations 

A. Indian Mineral Leases 

Findings 

The Regulations on “Leasing of Tribal Lands for Mineral Development” (25 CFR 

211.1 and 211.3) allow issuance of permits for mineral activities in Indian Country. 

These permits may be issued by BIA in place of mineral leases, if they are limited to 

a one-year length and a volume of 5,000 cubic yards of sand and gravel. In nearly 

all cases, BLM and MMS are not notified when these permits have been issued, and 

thus do not conduct inspections for environmental impacts or production 

accountability. BLM and MMS cannot effectively carry out their Trust responsibilities 

without being informed of issuance of these permits, the conditions under which 

royalties are paid, and how the material is mined and reclaimed. The BIA Office of 

Indian Energy and Economic Development has taken some initial steps to address 

this issue. 

Recommendation 

Recommendation 5-1 BLM should collaborate with BIA, MMS, and the Office of 

Indian Energy and Economic Development to ensure there is an 

understanding on the issuance of “permits” and the role the respective 

agencies play, in order that Trust responsibilities are met. Additionally, a 

renewed agreement on joint inspections should be initiated.
Report to the Royalty Policy Committee 

82 

B. Interagency Coordination 

Findings 

The impacts of 

inadequate 

coordination, 

communication and 

information sharing can 

manifest themselves 

via missing or incorrect 

data, resulting in 

delays in processing 

permits and receiving 

royalty revenues. 

Incorrect data leads to 

errors in royalty 

receipts and revenue 

distribution, requiring 

staff to correct the 

information and 

redistribute the 

revenue. This issue is 

particularly sensitive 

when the revenue is for 

States, Indian Tribes 

and allottees.91 

Unfavorable MMS audit findings may also result. 

The Subcommittee documented many instances of inadequate coordination and 

communication among MMS, BLM, and BIA in the area of royalty management. 

Inadequate coordination results from having three bureaus manage separate, but 

related, parts of one program. Coordination of activities associated with managing 

offshore oil and gas leases is more straightforward because only a single bureau 

(MMS) is involved. 

 

91 At certain times in the past (late 1800’s and early 1900’s) individual Indians were deeded a parcel, 

or allotment, of land, including the mineral rights. Over the generations those rights were passed 

down and apportioned to the descendants of the original owner. The allotment is not subdivided, but 

each descendant owns a fraction of the values of the total parcel. For example, if an original owner 

had two children, then each would own 50%. If one child had two children then each would have 

25% (50% divided by two). If the second child had five children, then each would have 10% (50% 

divided by five). After many generations the current allottees own small percentages of one or more 

allotments. The level of precision required in the accounting system used is much higher than the 

precision in standard off-the-shelf applications. 

Examples of Problems Resulting from Inadequate Information 

• BLM receives an APD for an Indian lease for which BLM does 

not have the necessary information. This results in delays 

while BLM acquires the information from BIA and creates a 

record in the Automated Fluid Minerals Support System. The 

result is unnecessary costs and delays in processing the APD. 

• MRM receives a royalty payment for a lease that it has not 

received a first production notice from BLM. The record is 

rejected until the records are updated, resulting in unnecessary 

costs and potentially delaying distribution of revenue. This 

could result from a late notification from the operator or a 

backlog of data entries into BLM’s systems. 

• BLM/BIA/OMM enters incorrect information in the lease record, 

resulting in incorrect distribution of revenue. MMS must obtain 

the correct data, update records, and rectify the revenue 

distribution. This is particularly a problem with distributions to 

States or Indian Tribes and allottees where even small errors in 

revenue are significant. It also will result in an audit finding 

during the regular audits that MRM contracts. 

• MRM makes untimely notifications to BLM of delinquent or late 

lease rental payments. Such delays result in BLM approving 

drilling permits, and operators drilling wells on leases which 

have terminated by law. 
 Chapter 5

83 

Information sharing has been severely hampered by the Cobell lawsuit.92 Previously 

BLM had implemented the Automated Fluid Minerals Support System (AFMSS) for 

all Federal and Indian lease operations.93 MMS had full access to this system. 

Federal lease information contained in LR2000 (BLM’s case recordation system) 

was available to MMS. BLM had also implemented the Well Information System 

(WIS), a web-based system that allowed operators on Federal and Indian leases to 

electronically submit applications, reports, and notices. WIS screened for errors 

before the submittal was reviewed and accepted by BLM. It automatically populated 

AFMSS, reducing the data entry workload for BLM and reducing the risk of data 

entry errors. Oil and Gas Operations Reports (OGORs) submitted by operators to 

MMS were automatically loaded into AFMSS for production accountability reviews 

by BLM. Inspectors working under Tribal agreements94 were able to access the 

appropriate records in AFMSS, supporting their inspection work. The Cobell lawsuit 

resulted in several shutdowns of information technology systems across the 

Department for data security reasons. Currently, BIA is still isolated from the 

Internet, preventing access to Indian lease information by MMS and BLM. After the 

last shutdown AFMSS and WIS were split into Indian and Federal versions. Federal 

AFMSS was restarted earlier this year and MMS just recently obtained access. 

Federal WIS was restarted in August. Indian AFMSS and Indian WIS remain 

unavailable.95

Coordination and information-sharing among MMS, BLM, and BIA should be 

improved and integrated, both internally and externally. The focus of these changes 

should be on clarifying the roles and responsibilities of each bureau. Strengthening 

coordination among MMS, BLM, and the BIA is critical to royalty management. 

Expected results of addressing this issue include higher productivity and fewer 

problems from missing or incorrect data. 

One issue found by the Subcommittee is that even in cases where well defined 

roles, procedures, and data standards exist, there is no common set of information 

available to all of the entities involved. Improvements in information sharing are 

necessary to ensure that: 

 

92 Cobell v. Kempthorne (originally Cobell v. Babbitt) is, a class action lawsuit asserting that DOI has 

not met its Trust responsibility to ensure that Indian allottees receive correct revenues for mineral 

development on their allotments. The court for this case expanded the suit with the claim that DOI’s 

automated system security is inadequate to ensure protection of Indian Trust data. 93 Prior to implementation of AFMSS BLM and MMS were each spending more than $2 million each 

every year to clean up data passed back and forth. 

94 Indian Tribes can establish cooperative agreements or contracts for inspection of operations under 

Tribal jurisdiction. The Federal Oil and Gas Royalty Simplification and Fairness Act of 1996 (Pub. L. 

104-185) authorized a number of changes to the process for establishing cooperative agreements on 

non-Federal lands. Guidelines for cooperative agreements are provided in 43 CFR 3192 

(Cooperative Agreements). Title I of the Indian Self-Determination and Education Assistance Act 

(Public Law 93–638) authorized the establishment of self-governance contracts. Guidance for self 

governance contracts is found in 25 CFR 900 (Contracts under the Indian Self-Determination and 

Education Assistance Act) and 25 CFR 1001 (Self-Governance Program). 

95 The Department of the Interior is in the process of reconnecting the BIA and the DOI offices 

currently isolated from the Internet. BLM is in the process of restarting Indian AFMSS and WIS. 
Report to the Royalty Policy Committee 

84 

• All relevant data is shared; 

• Data quality is improved, by avoiding errors requiring time, effort, and funds 

to correct; 

• Business processes related to royalty management are completed in a timely 

manner, given that MMS and BLM have time limits driven by data from other 

agencies, or from industry; and 

• Common data standards are adopted. 

Recommendations 

The Subcommittee recommends a number of actions to be accomplished in FY 

2008: 

Recommendation 5-2 MMS and BLM should secure appropriate access to the 

Indian lease system. This is necessary to prevent delays in approving lease 

activity, and to ensure MMS has the correct information for managing revenue 

from Indian leases. 

Recommendation 5-3 DOI should work to reconnect the systems containing 

Indian data after appropriate security measures are in place. The Indian 

Automated Fluid Mineral Support System (IAFMSS) and the Indian Well 

Information System (IWIS) should be restarted; appropriate access to 

IAFMSS for MMS and Indian contract inspectors should be provided. In 

addition, once appropriate security measures are in place, MMS should 

provide BLM users with the ability to query these systems by any parameter 

(e.g., lease number). 

These systems are essential for BLM to efficiently meet its Trust 

responsibilities. 

Recommendation 5-4 MMS should revise the database management software 

password requirements to make passwords good for 90 days rather than 60, 

and to remind users to change passwords before the 90 days expire.96

Recommendation 5-5 Until more integrated processes can be developed, BLM 

should issue guidance to field personnel, to address known coordination 

problems. One example is the errors introduced when BLM manually sends 

MRM “first production” notices. 

Recommendation 5-6 BLM should report to MMS on a quarterly basis for each 

mine, Indian and Federal, whether production has or has not been verified for 

that quarter. 

Recommendation 5-7 DOI should establish standards for geospatial data 

regarding Indian leases that facilitate management of Indian resources while 

still meeting DOI’s Trust responsibilities. 

 

96 The database software is “BRIO.” This software is used for analytical processing and reporting for 

all the major database management systems both for ad hoc and canned reports. 
 Chapter 5

85 

Recommendation 5-8 DOI should seek a review of the decision classifying 

boundary information for Indian allotments, leases, and agreements as Trust 

information. Any solution should satisfy Trust responsibilities and allow the 

DOI bureaus to carry out their management responsibilities efficiently. 

Recommendation 5-9 By June 2008, the Department should establish a 

Coordinating Committee with representatives from the senior management 

level in MMS, BLM, and BIA. Bureau representatives should have the 

authority to ensure decisions and recommendations are implemented in their 

respective bureaus. 

The committee should be chaired by a Deputy Assistant Secretary for Land 

and Minerals. Subgroups, composed primarily of field representatives, would 

be charged with addressing the following issues: 

• Clarification of roles and responsibilities; 

• Defining and coordinating common processes; 

• Defining common data standards; 

• Developing solutions for technical issues of coordination and information 

sharing; 

• Developing consistent guidance and training as necessary; and 

• Propose changes in regulations or statute as necessary. 

The Coordinating Committee should establish a baseline for future work by 

conducting an integrated architecture analysis of the business of managing 

the Federal and Indian minerals resources and the revenue derived from 

those resources. 

The integrated architecture project should follow DOI’s established Enterprise 

Architecture (EA) blueprint process. Proposed information technology (IT) 

investments should follow the DOI’s capital planning and investment control 

(CPIC) process. This effort should build on past efforts and address the full 

life cycle starting with the assessment and creation of potential lease parcels. 

This will ensure that the correct land status information is captured up front, 

including leasing, exploration, development, operations, production, 

reclamation, and lease termination information. Special focus should be 

placed on royalty management and compliance and any other areas requiring 

coordination and information sharing among MMS, BLM, and BIA. All three 

bureaus (including MMS’s MRM and OMM divisions) should participate in all 

phases to ensure full sharing of knowledge, lessons learned, and best 

practices. 

Specific tasks to be undertaken should include the following: 

• Identify applicable business processes and best practices. 

• Update guidance and training. 
Report to the Royalty Policy Committee 

86 

• Develop common data standards across the bureaus. This should include 

standards for data that are used outside of minerals management.97 In 

addition, efforts should be made to establish authoritative data sources 

and to concentrate on data sharing. Many of these changes may require 

software application changes. 

• Review currently used software applications based on business process 

and data management improvements. Seek to use shared systems, as 

appropriate, and implement improvements during application maintenance 

where possible. 

Recommendation 5-10 To support the Departmental Coordinating Committee 

described in Recommendation 5-9, each Bureau should establish procedures 

for strengthening intra-Bureau coordination. 

 

97 Data used outside of minerals management is information that is not directly related to minerals 

development, production, or revenue, such as archeological survey information required on permit 

applications. 
87 

Chapter 6 

The Royalty in Kind Program
Report to the Royalty Policy Committee 

88 

Chapter 6 The Royalty in Kind Program 

Summary of Major Recommendations in Chapter 6 

(A complete list of all recommendations is provided in Appendix 1) 

Governance (Short-Term) 

• MMS should establish an RIK Subcommittee to the Royalty Policy Committee 

(RPC). Issues that should be addressed include performance benchmarks, 

volume verification and market positioning. (see Recommendation 6-1 on page 

108) 

• MMS should issue new or revised regulations and/or guidelines that would offer 

MMS, the public, and potential RIK purchasers or providers of 

transportation/processing services additional certainty concerning program 

administration. Additional certainty for these parties may assist in providing 

greater transparency for MMS business practices. (see Recommendation 6-3 on 

page 108) 

• By the end of FY 2008, MMS should clarify the extent to which Federal 

Acquisition Regulations (FAR) apply. If the FAR is found to apply, MMS should 

place a high priority on identifying contracting arrangements least likely to impair 

the program. (see Recommendation 6-7 on page 114)

• MMS should amend the Memorandum of Understanding with the Department of 

Energy to include reimbursement for administrative and contract costs incurred in 

transferring RIK oil to the Strategic Petroleum Reserve. Additional 

reimbursement should not result in a reduction in MMS’s base budget. (see 

Recommendation 6-14 on page 122)

Governance (Medium-Term) 

• MMS should explore the feasibility of establishing a “trust fund” within Treasury, 

the interest from which could be used to fund DOI activities, particularly those 

related to royalty management. Priority for funding should be given to activities 

required for addressing the Subcommittee’s recommendations related to 

production accountability, audit, collections and enforcement (as noted above, 

RIK administrative costs are already funded by a share of RIK revenues). 

Legislation would be required to establish this fund. If this option is pursued, it is 

essential that these funds should be available without subsequent appropriation. 

It is important to “hold harmless” the base budgets for fund-supported activities to 

ensure net increases in support for them; otherwise there will be no net increase 

in program support. (see Recommendation 6-6 on page 108) 

• MMS should conduct a cost-benefit analysis of various governance 

arrangements for the RIK program to determine the organizational structure that 

will best and most cost effectively align incentives with programmatic goals and 

provide the institutional flexibility necessary to function in a commercial 

environment. Alternatives should include but not be limited to: the status quo; 

contracting out marketing functions; an FFRDC model or some variation thereof; 

and the status quo with some legislative exemptions from the FAR and personnel 
 Chapter 6

89 

regulations. Any such arrangement should maintain institutional oversight by the 

Department of the Interior and MMS, and also provide the additional oversight 

mechanism suggested in Recommendation 6-10 (see Recommendation 6-9 on 

page 114) 

• If an alternative governance structure is established for the RIK program, an 

independent oversight board should be established. This board should include 

experts in marketing and management, and representatives of the public interest. 

The board should periodically evaluate the RIK program, to assess balance 

sheets and other “business-like” performance measures. The board should have 

the ability to recommend program expansion or contraction (onshore or offshore 

and by commodity) based on market trends and other concerns, and to address 

specific concerns such as the small refiner program. Furthermore, the Secretary 

could respond to the Board’s recommendations with on-the-record findings. (see 

Recommendation 6-10 on page 115) 

• MMS should explicitly recognize (e.g., in a charter or mission statement) that the 

RIK program is a commercial activity, and should treat the program accordingly. 

Consistent with this, MMS should seek to operate the program as close to how a 

private business would operate as possible, including establishing a sole 

objective to maximize net revenue within risk parameters established by program 

executives. A business model should apply to all aspects of the RIK program, 

including identifying potential properties where royalties might be taken in kind, 

pre-sale bidder qualification procedures, the sales themselves, and performance 

measurement. (see Recommendation 6-8 on page 114)

• MMS should undertake a concerted effort to provide outreach to States, Industry, 

and the public to assist in communicating RIK’s inner workings (e.g., seminar 

courses, workshops). This will clarify MMS’s role in administering royalties, and 

facilitate understanding and confidence for clients and partners of MMS. (see 

Recommendation 6-5 on page 108) 

• MMS should discontinue its onshore RIK crude oil program until it can be 

determined to be in the best financial interest of the government. While MMS 

has realized sizable revenue gains relative to RIK on crude oil sales in the past, 

there has been no systematic evaluation of onshore crude oil costs. Any 

decision to restart the onshore program should consider administrative cost 

implications. This will ensure that the government is collecting onshore royalties 

in the most beneficial manner. (see Recommendation 6-11 on page 121)

• The Subcommittee finds no strong justification for the small refiners’ set-aside, 

and recommends discontinuing the program as soon as possible. The program 

should not be resumed until the Secretary makes a new determination of need. 

(see Recommendation 6-13 on page 122) 
Report to the Royalty Policy Committee 

90 

Human Resource Issues 

• MMS should immediately take steps to ensure that the RIK program has 

sufficient personnel depth to maintain an expanding trading operation and to 

ensure that RIK personnel have a solid understanding of existing ethics 

guidelines. MMS should develop and implement a Personnel Plan by June 2008 

to strengthen those areas requiring additional personnel with industry expertise. 

(see Recommendation 6-16 on page 125)

• MMS should streamline the process for announcing and filling vacancies. Priority 

should be given to filling the asset manager vacancies for oil and gas. (see 

Recommendation 6-18 on page 125)

• MMS should secure dedicated legal support for the RIK program, ideally 

stationed within the program in Denver, Colorado, or otherwise in the Regional or 

Washington, DC Office of the Solicitor. Securing dedicated legal support should 

improve the ability of RIK personnel to interact with their industry counterparts 

and with industry lawyers. (see Recommendation 6-19 on page 125) 

Performance Measurement 

• MMS should recognize, and annually report on, the opportunity costs associated 

with transfers of oil to the SPR using the performance measures established for 

the RIK program. (see Recommendation 6-15 on page 122)

• MMS should carry the range-of-values methodology associated with benchmarks 

through to the reporting of performance measures based on those benchmarks. 

(see Recommendation 6-23 on page 128)

• MMS should develop a presentation of the benchmarking process that makes it 

easier for outsiders to quickly understand the basics of how the benchmarks are 

assembled and applied. (see Recommendation 6-22 on page 128) 

• MMS should evaluate whether performance measures could be enhanced 

following standard business practices (e.g., balance sheet, cash flow statement, 

financial ratios). (see Recommendation 6-27 on page 128)

• MMS should publish a program cost comparison, comparing the RIK program to 

other public- and private-sector efforts toward marketing in-kind royalties (e.g., 

the Province of Alberta, Texas General Land Office, industry). (see 

Recommendation 6-28 on page 128) 

• MMS should implement a systematic and detailed procedure for handling bid 

documents (including both bids and notices of acceptance) to ensure security 

and integrity. In particular, the procedures should address “refreshing.” In that 

regard, the procedures and associated documents used to announce sales and 

associated procedures should explicitly lay out the procedures for determining 

when and if additional bidding rounds will be held. (see Recommendation 6-30 

on page 131) 
 Chapter 6

91 

Chapter 6 The Royalty in Kind Program 

I. Subcommittee Charge 

The Secretary’s charge to the Subcommittee, as relates to the Royalty in Kind 

program, was to review: 

“the operations of the Royalty in Kind program to ensure that 

adequate policies, procedures and controls are in place to 

ensure that decisions to take Federal oil and gas royalties in 

kind result in net benefits to the American people.” 

II. Introduction 

This chapter will briefly review the history of the RIK program and identify a number 

of issues that are important to the future of the program. This chapter is not 

intended as a comprehensive review of the RIK program. 

III. Background 

This section provides background information on the history and origins of the 

Royalty in Kind (RIK) program. 

Federal statutes and oil and gas lease terms provide the Secretary of the Interior 

with two options for managing oil and gas royalties. Payments may be received 

either as cash payments, which are referred to as royalty in value (RIV) or 

as produced commodities, which are referred to as royalty in kind (RIK). The 

Minerals Revenue Management organization within MMS manages the use of both 

RIV and RIK. 

Historically, virtually all oil and gas royalties have been managed as RIV payments. 

However, in recent years MMS has developed and significantly expanded the RIK 

program in which title to the royalty commodity is taken at or near the producing 

lease. 
Report to the Royalty Policy Committee 

92 

Producing properties are “converted” from RIV to RIK only if the expected net RIK 

revenues are higher than expected RIV revenues. MMS has procedures to return 

properties to RIV status if RIK revenues appear to be less than what would be 

received under RIV.98 Prior to converting a property, MMS undertakes a systematic 

economic analysis of the expected benefits of shifting the property to RIK. Relevant 

considerations include: 

• Pipeline transportation rates; 

• Processing value of the gas; 

• Market areas available from production point; 

• Price forecasts; and 

• Potential administrative cost savings. 

An RIK program for eligible small refiners has existed since the 1970s. This 

program was authorized pursuant to provisions of the Mineral Leasing Act (MLA) 

and the Outer Continental Shelf Lands Act (OCSLA). In the mid-1990s, MMS began 

exploring the potential for a broader RIK program and subsequently conducted a 

number of feasibility studies and pilot projects.99 Upon completion of the pilot 

projects, MMS undertook additional internal planning, including the development of 

management information systems to support RIK functions and in 2004 adopted its 

Five Year Royalty in Kind Business Plan (Plan). The Plan outlined business 

principles, goals, objectives, and strategies for 2004-2009 period.100

One issue that impacts RIK sales is MMS’s role in providing crude oil for the 

Strategic Petroleum Reserve (SPR), managed by the Department of Energy (DOE). 

Crude oil exchanges with DOE are authorized under the Outer Continental Shelf 

Lands Act and the Energy Policy and Conservation Act (1975). More detail on this 

activity is provided in Section IV C, starting on page 120. 

MMS has adopted a business model for the RIK program, which assumes the 

agency will be an active participant in the market. Prior to the adoption of the 

business model, RIK program objectives and activities were handled on a much 

more informal and ad hoc basis. 

RIK volumes are sold at entry points into the wholesale market at or near the lease 

in producing areas. Sales are on a competitive basis, and spot market prices 

typically form the benchmark to judge performance. MMS’s conservative approach 

avoids riskier activities such as using speculative storage positions, fixed prices, 

hedging, or financial derivatives. Typically, sales cover periods of 6 months or less. 

 

98 To date, MMS has reverted at least one gas sales portfolio. See page 12, Minerals Management 

Service, Royalty in Kind Fiscal Year 2005 Report for a discussion of the “MOPS” portfolio. 99 Wyoming Crude Oil RIK Pilot; Texas 8(g) Natural Gas RIK Pilot; Federal Gulf of Mexico Natural 

Gas RIK Pilot. Additional information on these pilot projects can be found on the MMS web site: 

http://www.mms.gov/. The pilot projects culminated in 2001 with MMS’s RIK Road Map to the Future. 

This document identified the strategic direction and presented actions to develop the capabilities 

needed to transition from pilot projects to an operational program. 

100 For additional details see Five Year Royalty In Kind Business Plan, Minerals Management Service, 

May 2004. 
 Chapter 6

93 

In the future, MMS seeks to position itself closer to downstream markets, rather than 

solely selling RIK production at the lease. This market positioning involves the use 

of pooling arrangements and longer-term transportation contracts, which also entail 

MMS accepting a certain level of risk. MMS’s August 2005 Royalty in Kind Risk 

Management Policy identifies the principles and policies that drive risk management 

decisions of the RIK program.101 Additional details on MMS’s RIK risk policies can 

be found in Appendix 2. 

A. Advantages Associated with Royalty in Kind 

Compared to Royalty in Value 

The Subcommittee has identified a number of advantages to the Federal 

government of taking royalties in kind: 

• Best Practices. RIK allows MMS to address some of the concerns regarding 

valuation and transportation costs addressed by the Office of the Inspector 

General (2006, 2007), and avoid facing similar criticism in the future. As 

discussed below, verification that the Federal government has received 

appropriate royalties is much less difficult under RIK compared to RIV. This is an 

important advantage of the program. 

• Fewer Valuation Disputes. RIK avoids disputes over the value of the resources 

for which royalties are due. Under RIV, determining the appropriate royalty 

payment can be contentious because MMS and payors may disagree on how the 

elements of the royalty formula are valued (e.g., identifying the appropriate set of 

prices to value the resource itself and the value of any “deductions” for 

transportation or processing).102 Valuation has been a contentious issue in the 

past and resolving valuation disputes can be extremely time-consuming. 

Accordingly, many of the issues pertinent to RIV, including those documented in 

recent assessments by the Office of the Inspector General of MMS’s audit and 

compliance review efforts, do not pertain to the RIK program. 

• Lower Program Costs. RIK allows royalty obligations to be satisfied with less 

cost and in less time (for MMS and industry) by avoiding certain problematic 

areas. In particular, royalty enforcement is simpler under RIK, as it depends 

largely upon volume verification and avoids issues associated with valuation 

(e.g., deductions, non-arm’s length transactions, etc.). RIK administrative costs 

are discussed in more detail below. 

• Additional Revenue. Once royalty obligations have been satisfied and the royalty 

oil or gas is in the government’s control, the RIK program allows the government 

 

101 For additional details see Minerals Management Service, Royalty in Kind Risk Management 

Policy, August, 2005. 102 The royalty formula is as follows: 

Royalty Revenues = (Royalty Rate) x [(Volume of Crude Oil Sold) x (Sales Price) – (deductions)]. 

An example of how contentious issues associated with valuation can be is given by the recent 

Inspector General Report of Investigation, “Minerals Management Service False Claims Allegations,” 

September 7, 2007. A significant element of this Investigation concerned the value of natural gas 

transportation deductions. 
Report to the Royalty Policy Committee 

94 

opportunities to enjoy higher revenues than had the royalty been taken in value. 

There are several explanations for these increased net revenues. 

 Large Volumes 

MMS may be able to take advantage of its market position to increase 

revenues. This is especially relevant for natural gas produced in the Gulf of 

Mexico, where MMS’s has the ability to aggregate volumes. This ability 

allows MMS to negotiate advantageous natural gas processing and 

transportation contracts. Current excess transportation and processing 

capacity in the Gulf of Mexico provide further opportunities to negotiate 

favorable gas transportation and processing contracts. 

 Time Value of Money 

RIK revenues are typically received five to ten days earlier than RIV 

payments, allowing more interest to accrue relative to what would have been 

the case with RIV. 

As this chapter notes, RIK is not always the most appropriate option. Nonetheless, 

the advantages of including an RIK approach among MMS’s asset management 

options are clear, and MMS’s process for evaluating the feasibility of RIK versus RIV 

appears to be rigorous and effective. Nevertheless, in order to ensure the program’s 

successful operation, a number of challenges must be addressed, including 

• Operating what essentially is a business within the public sector; 

• Gathering market data and having the ability to act in a timely, unencumbered 

manner on this information; 

• Obtaining and retaining expertise in oil and gas trading; and 

• Establishing, maintaining and evolving clear organizational objectives. 

B. Statistics and Program Administration 

This section presents relevant statistics for the RIK program and discusses several 

issues associated with administering the program. This material highlights the most 

important descriptive statistics and does not represent a comprehensive set of 

descriptive information on the RIK program. 

1. RIK Volumes and Revenues 

As of FY 2006, MMS took in kind approximately 72% of the crude oil royalty volumes 

and 45% of the natural gas royalty volumes produced in the Gulf of Mexico (GOM). 

During 2006, in a joint pilot project with the State of Wyoming, MMS began taking 

natural gas in kind for Federal gas production in Wyoming at the rate of 30,000 

mmBTU per day. Table 14 shows the total amounts of royalty oil and gas volumes 

(volumes sold at auction or exchanged for the SPR) from 2004 to 2006, reported as 

barrel-of-oil equivalents (BOE).103 Table 15 shows oil and gas revenues from RIK 

 

103 A barrel of oil equivalent (BOE) is equivalent to the energy from burning one barrel of crude oil. 

The US Internal Revenue Service defines it as equal to 5.8 × 106 BTU or about 1.70 MWh. 
 Chapter 6

95 

auction sales over the 2004–2006 period. Note that no revenue is received for RIK 

volumes sent to the SPR. In FY 2006, RIK revenue totaled about $4 billion. 

Table 14 RIK Volumes FY 2004-2006 

FY 2004 FY 2005 FY 2006 

Oil (million bbl) 17.2 26.1 44.2 

Gas (million mmBTU) 170.7 184.0 180.2 

Gas (million BOE) 29.4 31.7 31.1 

Total RIK Sales 

(million BOE) 46.6 57.8 75.3 

SPR (million bbl) 38.8 25.6 0.0 

Total RIK Volumes 

(million BOE) 85.4 83.4 75.3 

bbl = barrels 

BOE = barrel-of-oil equivalent 

mmBTU = millions of British Thermal Units 

Source: MMS data. 

Total RIK sales (i.e., non-SPR volumes) have increased from 2004 to 2006. When 

the SPR volumes are included, total RIK volumes are seen to have fallen slightly 

over this period. In spite of this fall, revenues have increased, reflecting the increase 

in non-SPR sales (MMS receives no revenues for SPR sales), and increasing oil and 

gas prices.104 As shown in Table 14, the total volume of oil and gas handled by the 

RIK program fell from 85 million BOE in 2004 to 75 million BOE in 2006. Over this 

same period, SPR volumes fell from 38.8 million BOE to zero, and RIK revenue 

increased from $1.5 billion to $4.1 billion. 

Table 15 presents detailed information on RIK and RIV revenues from 2004 to 2006. 

As shown in the table, RIK’s share of total revenue (RIK plus RIV) has increased, 

from 23.8% in 2004 to 42.0% in 2006. It is anticipated that RIK revenue as a 

percentage of total royalty revenue will increase further, given MMS’s expectations 

about future RIK volumes. 

 

104 Crude oil prices rose from $41.51 per barrel in 2004 to $66.05 per barrel in 2006. Natural gas 

prices rose from $5.46/mmBTU in 2004 to $6.42/mmBTU in 2006. For information on the trend in oil 

and gas prices over 1990-2006 see Appendix 2. 
Report to the Royalty Policy Committee 

96 

Table 15 RIK Oil and Gas Revenues (from RIK Auctions), FY 2004-2006 ($ 

millions) 

FY 2004 FY 2005 FY 2006

RIK (Gas) $924 $1,266 $1,423

RIK (Oil) $579 $1,263 $2,665

RIK Revenue (Total) $1,503 $2,529 $4,088

RIV (Gas) $3,846 $3,885 $4,343

RIV (Oil) $960 $1,331 $1,312

RIV Revenue (Total) $4,806 $5,217 $5,656

RIK % of RIV Revenue 31.3% 48.5% 72.3%

RIK % of Total Royalty Revenue 23.8% 32.6% 42.0%

Source: RIK data: Reports to Congress: Minerals Management Service Royalty 

in Kind Operation for Fiscal Year 2004, 2005, 2006; 

RIV data: MRM website http://www.mrm.mms.gov/MRMWebStats/Home.aspx. 

Volumes of royalty gas and oil are expected to increase significantly in coming 

years. Figure 3 shows natural gas volume projections to 2010, as well as the actual 

2004-2006 volumes. Figure 4 shows the same information for RIK crude oil. 

Annual RIK Gas Volume

0

20

40

60

80

100

2004 2005 2006 2007 2008 2009 2010

million BOE Gas .

Figure 3 Annual RIK Natural Gas Volumes, 2004-2010 

Source: MMS data. 
 Chapter 6

97 

Annual RIK Oil Volume

0

20

40

60

80

100

2004 2005 2006 2007 2008 2009 2010

million bbl Oil .

Figure 4 Annual RIK Oil Volumes, 2004-2010 

Source: MMS data. 

These figures illustrate expected future RIK volumes; separating the volumes into oil 

and gas facilitates comparing these two different aspects of the RIK program. In 

particular, oil volumes are expected to remain relatively constant at about 54.8 

million barrels, while gas volumes are expected to increase significantly by 2010, 

from about 48.0 million BOE in 2007 to 75.5 million BOE in 2010. 

To put these volumes in perspective, during 2005 the US produced about 1.89 billion 

barrels of crude oil.105 The 51.7 million barrels of FY 2005 RIK crude oil (including 

oil transferred to the Strategic Petroleum Reserve) represent about 2.7% of the total 

US crude oil production.106

2. RIK Administrative Costs 

P.L. 108-447 (the Consolidated Appropriations Act, 2005) authorized MMS to: 

“... use a portion of the revenues from Royalty in Kind sales, 

without regard to fiscal year limitation, to pay for transportation to 

wholesale market centers or upstream pooling points, to process or 

otherwise dispose of royalty production taken in kind, and to 

recover MMS transportation costs, salaries, and other 

administrative costs directly related to the Royalty in Kind program.” 

Table 16 compares RIK and RIV administrative costs for offshore oil and gas. The 

annual cost of administering the RIK program was about $l0 million in FY 2004 and 

 

105 EIA Petroleum Navigator, U.S. Crude Oil Field Production, 

http://tonto.eia.DOE.gov/dnav/pet/hist/mcrfpus1A.htm. 106 51.7 million bbl RIK crude oil/1.89 billion US total = approximately 2.7%. 
Report to the Royalty Policy Committee 

98 

FY 2005, increasing to about $14 million in FY 2006. Comparing RIK and RIV 

administrative costs on an equivalent dollar per BOE basis (adjusting for fixed costs 

and overhead costs), in FY 2006, RIK costs were $0.076 per BOE compared to RIV 

administrative costs of $0.108 per BOE.107 In general, dollar-per-BOE RIK 

administrative costs are lower than dollar-per-BOE RIV administrative costs because 

value and transportation costs do not need to be audited. 

Table 16 Administrative Costs for RIK and RIV: $ per Barrel of Oil Equivalent 

(BOE) 

FY 2004 FY 2005 FY 2006 

RIK total administrative cost 

($ millions)1 $9.7 $10.2 $14.4 

RIK cost per BOE 

($/BOE)2 $0.057 $0.059 $0.076

RIV administrative costs 

($/BOE)2

 $0.075 $0.102 $0.108

1

 RIK total administrative costs include direct RIK costs, overhead, 

and SPR related costs. 

2

 In order to compare RIK and RIV costs on an equivalent BOE 

basis, MMS excluded the following cost categories from the unit 

cost administrative cost calculations: IT costs, RIK onshore direct 

costs, and overhead costs.

Source: MMS data.

The information presented in Table 16 indicates that for FY 2006, the administrative 

costs for the RIK program were $0.032 per BOE less than the administrative costs 

associated with the RIV program.108 This small differential, when applied to the 

millions of BOE sold via RIK, translates into significant savings for the RIK program. 

For example, in FY 2006 MMS sold about 75.3 million BOE via the RIK program. 

The administrative cost savings associated with these sales is estimated to be about 

$2.41 million based on the per-BOE savings identified by MMS.109 MMS’s Budget 

Requirements and Comparative Costs report110 indicates that efficiency gains should 

lead to a further 10% reduction in RIK administrative costs by the end of FY 2009. 

3. Comparison between Crude Oil and Natural Gas Sales 

Natural gas production in the Gulf of Mexico (GOM) has been declining over the past 

decade. As shown in Figure 5 below, Federal offshore GOM natural gas production 

in 2006 fell to 2.8 billion mcf, representing only 55% of 1997 levels. Data on natural 

 

107 See pages 8-9, Royalty in Kind Operations for Fiscal Year 2006, Minerals Management Service. 108 In order to compare RIK and RIV costs on an equivalent basis, MMS excluded the following cost 

categories from the administrative cost calculation: IT costs, RIK onshore costs, and overhead costs. 

109 These unit cost savings estimates are derived from the costs associated with the offshore MMS 

RIK program, and exclude overhead costs as well as other fixed costs. 

110 RIK/RIV Administrative Cost Team, Budget Requirements and Comparative Costs. U.S. 

Department of the Interior, MMS, MRM. (Undated) 
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99 

gas pipeline flows and capacities from the Energy Information Administration (EIA) 

indicate that there may be excess pipeline capacity in the Gulf of Mexico.111

0.0

1.0

2.0

3.0

4.0

5.0

6.0

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

billion mcf .

Gulf of Mexico Gas:

Marketed Production

Figure 5 Federal Offshore Gulf of Mexico Natural Gas Marketed Production, 

1997-2006 

Source: EIA Natural Gas Monthly, September 2007. 

Excess natural gas pipeline and processing plant capacities in the Gulf of Mexico 

place MMS in a strong position to negotiate favorable transportation and processing 

tariffs. MMS is able to use accumulated market knowledge and experience to seek 

out favorable gas transportation routes and markets. Oil markets offer relatively 

fewer opportunities to negotiate favorable marketing/transport arrangements. 

Table 17 below illustrates the RIK sale process and some important differences 

between oil and natural gas sales. This material is presented because differences in 

oil and gas marketing are an important factor in determining returns to the RIK 

program. 

 

111 EIA data indicate that at the end of 2006 the capacity for pipelines identified as carrying natural 

gas out of the Gulf of Mexico was 31,847 mmcf/day, while the average daily flow was 7,983 

mmcf/day. This average daily flow represents 25.1% of the end-of-year capacity. 
Report to the Royalty Policy Committee 

100 

Table 17 Comparison of RIK Sales for Crude Oil and Natural Gas 

Process Step Crude Oil Natural Gas

Sales per Year 7 sales (combination of unrestricted, 

small refiner, SPR) 

5 sales (combination of GOM, 

Wyoming, BLM Helium 

Reserve112) 

Minimum Acceptable Bid Based on NYMEX (with Roll) less 

allowable deductions (approach 

similar to existing valuation 

regulations) 

More general series of 

benchmarks, not solely indexbased 

Infrastructure Issues Few options; fixed tariffs for 

transport/quality bank 

Relatively more options. Also 

extra pipeline/processing capacity 

allows MMS to negotiate favorable 

prices 

Sale dates Sale typically held 60 days ahead of 

1st day of production month 

Sale typically held 15-20 business 

days ahead of 1st day of 

production month 

Sale point Usually sold at the facility measuring 

point, but may be sold at market 

center 

Sold by pipeline; production 

bundled for favorable 

transport/processing rates 

Number of Offerors 

per Sale 

Approximately 10 bidders (including 

financial houses and resellers) 

20+ bidders; 100+ offers 

Award Process Sold via auction to highest bidder. 

Bids refreshed in case of a tie; 

award 3 days after accepting bid; 

transaction confirmation 2 days after 

award 

Sold via auction to highest bidder. 

Time-sensitive (NYMEX-based) 

bids refreshed; award 3 days after 

accepting bid; transaction 

confirmation 2 days after award 

Post Sale Press release/web site lists winners 

but not winning bid amounts 

Press release/web site lists 

winners but not winning bid 

amount 

Performance 

Measurement 

By property-specific level as 

awarded 

By pipeline as sold; 3rd party 

transport/processing estimates 

scored against contracts 

Source: MMS and Subcommittee staff 

4. Competition for RIK Volumes 

This section presents information on the extent to which RIK sales have been 

competitive. The extent to which RIK sales are competitive is an important 

determinant of MMS’s ability to maximize the revenue it receives and to provide 

assurance that it is receiving at least as much as would have been received had 

royalties been received in value. 

 

112 This gas is a byproduct of processing helium-bearing natural gas at the BLM’s crude helium 

enrichment unit (CHEU) at the Cliffside Gas Field, in Amarillo, Texas. The CHEU has capacity to 

produce 24,000 mcf of gas per day, equivalent to 0.01% of MMS’s onshore gas operations. The RIK 

program oversees the marketing and sale of this gas under a cost-recovery MOU with BLM. All 

revenues of the sale are returned to BLM to partially fund the operation of the CHEU. Enriched 

helium has a variety of uses including being used as a coolant in nuclear reactors. Helium is also 

used to pressurize liquid propellants used by the space shuttle and in the semiconductor/computer 

chip manufacturing process. Liquid helium is used to cool magnets used in MRI (Magnetic 

Resonance Imaging) equipment. 
 Chapter 6

101 

RIK natural gas and oil is sold in competitive markets and at competitive prices using 

an auction to the highest bidder approach. Table 18 provides summary information 

on the number of companies bidding, number of gas “packages” offered for sale,113

gas volumes, and the total number of bids for natural gas sales. Gulf of Mexico RIK 

gas sales have attracted from 10 to 20 companies for each sale. The average 

number of bids per package has ranged from 8 to 12. Onshore gas sales have 

attracted somewhat lower numbers of bidding companies (with the exception of the 

January 2007 sale), but the average number of bids per package is comparable to 

the offshore sales. 

Table 18 RIK Gas Sale Statistics, 2005-2007 

Sale Date Bidders Packages 

Gas Volume 

(mmBTU/day) 

Total 

Bids 

Average 

Bids per 

Package 

Gulf of Mexico 

April 2005 19 16 485,400 126 7.9 

November 2005 10 7 195,575 42 6.0 

April 2006 21 14 509,800 127 9.1 

November 2006 15 13 340,150 155 11.9 

April 2007 20 13 398,000 152 11.7 

Onshore 

April 2006 8 2 30,000 23 11.5 

January 2007 14 2 120,000 44 22.0 

April 2007 6 2 29,000 17 8.5 

Source: MMS data. 

Statistics on the number of bidders, number of “packages” of crude oil and the 

average number of bids per package are shown below in Table 19. The number of 

bids per “facility measuring point” (FMP) ranges from 3 to 6. 

 

113 A “package” of gas or oil represents a defined volume of gas or oil offered for sale from a particular 

set of Federal leases. 
Report to the Royalty Policy Committee 

102 

Table 19 RIK Oil Sale Statistics, 2005-2007 

Sale Date Bidders 

Facility 

Measuring 

Points 

Volume 

(bbl) Bids 

Average Bids 

per FMP 

SPR Contracts 

Apr 2005 4 111 86,980 239 2.2 

Jul 2007 5 37 47,100 87 2.4 

Small Refiner Program Sale 

Apr 2005 5 70 57,700 237 3.4 

Oct 2005 5 48 57,010 111 2.3 

Oct 2006 3 48 44,585 150 3.1 

Oct 2007 2 31 36,310 67 2.2 

Unrestricted Sales 

Apr 2005 5 20 15,875 65 3.3 

Aug 2005 5 2 10,500 9 4.5 

Oct 2005 7 86 98,585 259 3.0 

Dec 2005 4 2 10,850 7 3.5 

*Apr 2006 8 39 51,135 221 5.7 

**Apr 2006 6 34 46,965 87 2.6 

Jul 2005 9 31 45,660 115 3.7 

Oct 2006 9 26 47,005 82 3.2 

Jan 2007 13 35 53,615 131 3.7 

Apr 2007 11 27 41,750 106 3.9 

Jul 2007 6 23 13,800 66 2.9 

Oct 2007 5 6 8,510 36 6.0 

* 3-month contract; ** 6-month contract 

Source: MMS data.

Oil sales feature fewer bids per package than natural gas sales. However, this does 

not necessarily imply that oil sales are less competitive than natural gas sales. 

Industry structure accounts for some of differences in the number of bidders for RIK 

oil as compared to gas. For example, the oil industry is more vertically integrated 

than the natural gas industry; hence, fewer entities participate in the market for oil. 

The oil industry is also relatively more capital intensive. Given commodity prices, it 

requires a significant amount of capital to bid on RIK oil and to subsequently 

transport the oil to refineries and market centers.114 The number of bidders, the total 

number of bids received, and the average number of bids per package strongly 

suggests that sales are occurring in a competitive manner. 

 

114 As an example of the capital required to participate in an RIK oil sale, consider that petroleum 

pipelines often have a “line-fill” requirement, commonly set at 25% of shipped volumes. This is 

equivalent to an in-kind deposit to secure capacity on a pipeline. A company wishing to ship 20,000 

bbl/day over a 30 day lease-period would be required to make a “deposit” of 150,000 bbl with the 

pipeline. At $70/bbl, this is equivalent to tying up $10.5 million for those 30 days. Larger companies 

tend to leave deposits in place on several pipelines, so as to always have shipping capacity available 

to them. In addition to a sizable financial imposition, there is also a price risk associated with these 

deposits: if the price of oil declines after the deposit has been made, the value of the oil returned will 

be less than the value of the deposit. 
 Chapter 6

103 

Another way to evaluate the extent to which MMS receives market value for its 

resources is to compare the prices MMS receives for RIK volumes to a market index 

benchmark price. The market index commonly used as a benchmark for gas is the 

Henry Hub price.115 Comparisons to this index would have to account for natural 

gas processing costs and allowable transportation deductions. Private sellers of 

natural gas would face similar costs and deductions. 

Because of the large number of grades of crude oils, buyers and sellers use benchmark 

crude oils as a reference in pricing crude oil. A benchmark crude oil is typically an 

abundantly produced and frequently traded crude oil. The market index for RIK crude oil 

is the NYMEX West Texas Intermediate (WTI) crude oil spot market price.116 WTI 

crude is a high quality crude; lower quality oil typically trades below this market 

index, reflecting the “grade differential” between these types of crude. For example, 

over the past three years, the heavy sour oil from Mars and Poseidon pipelines has 

traded at about $5-$6 below the WTI price. The majority of Gulf of Mexico oil 

(including volumes marketed by the RIK program117) is of lower quality than WTI 

crude, and thus MMS would expect to receive prices below the WTI index.118 In this 

respect, MMS is no different than any other seller of crude oil of a quality below WTI 

crude. 

The crude oil grade differential (i.e. differences in the specific gravity and sulfur 

content) determine a substantial portion of the differential between the average RIK 

sale prices and NYMEX prices. Much of the RIK oil sold in the Gulf of Mexico is 

classified as “heavy sour,” as shown in Table 20. Heavy oil has a relatively low 

 

115 Market participants typically use the Henry Hub spot and futures prices as surrogate measures for 

the current wellhead price. The Henry Hub is a major pipeline interconnection point located in 

Louisiana and operated by Sabine Pipe Line, LLC. It interconnects with 16 separate interstate and 

intrastate pipelines. The Henry Hub is the designated delivery point for the NYMEX Natural Gas 

futures contract. The Henry Hub is also a highly liquid trading point, with numerous buyers and sellers 

of both physical natural gas and financial derivatives. The Henry Hub spot price pertains to 

transactions for delivery at the Henry Gas Processing Plant and is measured downstream of the 

wellhead, after the natural gas liquids have been removed and after all transportation costs have 

been incurred. In contrast, the wellhead price includes the value of natural gas liquids, and pertains 

to all transactions occurring in the United States, thereby encompassing purchase commitments of all 

durations. The Henry Hub price includes a transportation cost for moving the natural gas from the 

wellhead. A 2001 EIA analysis, "U.S. Natural Gas Markets: Relationship Between Henry Hub Spot 

Prices and U.S. Wellhead Prices" found that the median difference between the Henry Hub price and 

wellhead prices over the 1996-2000 period was about 10%. 

116 WTI crude oil, because it is light-weight and has low sulfur content, is usually made into gasoline. 

Thus the WTI price is a good benchmark for the value of crude oil in the Americas. Crude oils vary in 

price because they vary in quality. Other factors—the supply and demand for different qualities of 

crude oil, chemical composition of the oil, and/or its market penetration—can also influence price. 

West Texas Intermediate and Brent Blend are two crude oils that are either traded themselves or 

whose prices affect other types of crude oil. For a general explanation of why the prices of various 

crude types differ from the market index prices, see “California Crude Oil Price Fluctuations Are 

Consistent with Broader Market Trends,” Government Accountability Office, 07-315, January 2007. 117 Mars and Poseidon oil account for approximately 30% of RIK oil; over half of the RIK portfolio 

consists of heavy sour crude. 

118 For example, “heavy-sour” crude oil from the Mars, Poseidon, and other offshore platforms 

accounted for over half of the FY2006 RIK portfolio. 
Report to the Royalty Policy Committee 

104 

specific gravity (API), and sour oil has relatively high sulfur content. These 

characteristics imply that significant discounts relative to the WTI are to be expected 

for RIK oil received from the Gulf of Mexico. Private sellers of similar quality oil 

would face a similar situation. 

Table 20 MMS Classification of Crude Types 

Sulfur Content % of GOM 

Crude Sweet 

(≤0.5%) 

Sour 

(>0.5%) 

Heavy 

(<35 API) 35.92% 51.38% 

Specific 

Gravity 

Light 

(≥35 API) 8.87% 3.82% 

Source: MMS data. 

The price MMS receives does not include transportation costs or line-loss charges, 

which is also the case for private sellers. Information on grade differential, 

transportation costs, etc. are considered when MMS prepares its “minimum 

acceptable bid” (MAB) for an auction. A volume for which no bid meets or exceeds 

the MAB is withdrawn from the sale, and reverts to the Royalty-in-Value program. 

Note that costs for transportation, line-loss, etc. are incurred whether the royalty is 

taken in kind or in value. 

MMS considers some auction information to be proprietary; this includes prices paid 

by winning bidders. Thus, the Subcommittee was only able to compare market 

prices to the yearly average of RIK prices. Table 21 shows that for 2004-2006 the 

average RIK oil and gas sale prices were approximately 90% of the market index 

prices. This does not indicate that MMS is receiving less than private sellers would 

expect to receive: MMS oil and gas prices are net of transportation deductions and 

other charges, and most RIK oil is of a lesser quality than the index crude. The 

bottom rows of Table 21 report representative costs related to transportation, line 

loss, quality adjustments (for oil) and natural gas processing for each year. Total 

costs are found to range from $1.50 to $5.00 per barrel of oil, and $0.50 to $1.25 per 

mmBTU for gas. Accounting for these costs can explain most of the difference 

between RIK price received and the market index. 

For natural gas, a significant portion of the differential between the average RIK 

sales price and the Henry Hub price is accounted for by transportation and 

processing costs. For both RIK natural gas and oil, differentials from the market 

index prices beyond those accounted for by transportation and quality are related to 

the supply and demand conditions present at any particular time in oil and gas local, 

regional, and world markets.
 Chapter 6

105 

Table 21 Comparison of Average RIK Prices Received with Market Index Prices 

2004 2005 2006 

Oil ($/bbl) Gas 

($/mmBTU) 

Oil 

($/bbl) 

Gas 

($/mmBTU) 

Oil 

($/bbl) 

Gas 

($/mmBTU) 

Average RIK sale price $33.74 $5.41 $48.41 $6.88 $60.29 $7.89 

Market index price 

(oil: NYMEX WTI; 

gas: Henry Hub) 

$37.21 $5.51 $53.80 $7.15 $66.22 $8.85 

Difference $3.47 $0.10 $5.39 $0.29 $5.93 $0.96 

Representative Price Adjustments 

Transportation 

Deductions/Line loss 

$0.50 to 

$2.00 

per bbl 

$0.10 to 

$1.00 

per mmBTU 

$0.50 

to 

$2.00

per bbl

$0.10 to 

$1.00 

per mmBTU 

$0.50 

to 

$2.00 

per bbl 

$0.10 to 

$1.00 

per mmBTU 

Grade Differential (oil)/ 

Processing Cost (gas) 

$1.00 to 

$3.00 

per bbl 

-$1.00 to 

+$1.001 per 

mmBTU 

$1.00 

to 

$3.00

per bbl

-$1.00 to 

+$1.001 per 

mmBTU 

$1.00 

to 

$3.00 

per bbl 

-$1.00 to 

+$1.001 per 

mmBTU 

Total adjustments $1.50 to 

$5.00 per 

bbl 

-$0.90 to 

+$2.00 per 

mmBTU 

$1.50 

to 

$5.00 

per bbl

-$0.90 to 

+$2.00 per 

mmBTU 

$1.50 

to 

$5.00 

per bbl 

-$0.90 to 

+$2.00 per 

mmBTU 

Source: MMS data. 

1

 The economics of gas processing (removing petroleum distillate “liquids” from the gas) depends on the 

relative prices of gas and oil. When gas is relatively more valuable, the minimum amount of processing is 

undertaken (as set by pipelines for safety). When oil is relatively more valuable, more of petroleum 

distillates will be extracted from the gas, for separate sale. 

IV. Findings and Recommendations 

At the outset, the Subcommittee recognizes that MMS has done a credible job 

managing the RIK program. However, given the program’s atypical character and its 

rapid and continuing growth, more intense oversight and distinct program 

improvements are essential. 

A. Growth of the RIK Program 

Issue 

The rapid growth of the RIK program has notable policy implications for MMS. 

Program growth will bring increased scrutiny and the need to ensure that the RIK 

program is administered in an efficient and transparent manner. 

Background 

The RIK program has grown dramatically in a short period of time, evolving from a 

pilot program to a major operational component of MMS’s activities. The RIK 

program is expected to continue growing, if the projections in MMS’s Five Year 

Royalty in Kind Business Plan prove to be accurate. Program growth has occurred 

in an environment with relatively unstructured in-house oversight. In addition, 
Report to the Royalty Policy Committee 

106 

program management is relatively informal, in terms of published guidelines or 

regulations, than what is typically encountered with the major expansion of an 

important Federal program. 

During the 2004 – 2009 period covered by the Five Year Business Plan, the 

continued growth of the RIK program is primarily based on increasing amounts of 

royalty natural gas taken in kind. The quantity of RIK oil is expected to remain 

relatively constant. A continuation of current high energy prices implies that royalty 

revenues generated by the RIK program will represent an increasing proportion of 

total royalty revenue. Increased scrutiny of the program can be expected as RIK 

volumes increase and energy prices remain high. 

Figure 3 and Figure 4 above showed the amounts of natural gas and oil taken in 

kind since 2004, with projections through 2010. The vast majority of the increase in 

onshore RIK natural gas is expected to be from production on Federal leases in the 

State of Wyoming. Successful marketing of this gas is dependent on MMS’s ability 

to access the new Rockies Express Pipeline (discussed in more detail below). 

When evaluated in comparison to the revenues that might have been received under 

RIV, the RIK program has been most successful with respect to natural gas from 

Federal leases in the Gulf of Mexico. Relative to the performance benchmarks 

established by MMS, natural gas RIK sales have resulted in larger returns on a 

dollar per BOE basis than oil RIK sales. For example, in FY 2006, on average, 

natural gas RIK sales resulted in a gain of $0.126 per BOE compared to a gain of 

$0.08 for RIK oil sales.119 The relative success of the RIK natural gas effort has 

been due in large part to the fact that the existing gas processing plant and 

transportation capacity is underutilized, and the fact that natural gas has relatively 

more transportation, processing, and marketing options than oil. This has allowed 

MMS to use its ability to bundle production as leverage to negotiate favorable 

transportation and processing terms. In addition, since royalty gas taken in kind is 

not dedicated to any particular pipeline, MMS can select favorable transportation 

routes and negotiate advantageous transportation rates and gas processing 

services. 

Table 22 compares the relative marketing flexibility of RIK oil and gas and provides 

an explanation for why RIK natural gas has proven to provide greater revenue gain 

opportunities than RIK oil. Natural gas offers significantly more opportunities to take 

advantage of transportation, processing, and marketing options. 

 

119 Performance is measured relative to a market index; increases or decreases in the index can 

impact the relative performance of the RIK results. Performance measurement is discussed in more 

detail below. 
 Chapter 6

107 

Table 22 Comparison of RIK Oil and Natural Gas Marketing Flexibility 

 Options 

Commodity 

Gas 

pipelines FMPs1 Transport 

Gas 

Processing End Markets2

Natural gas 25 358 14 16 25 

Crude Oil n/a 104 8 n/a 11

Notes: 

1 Facility measurement points (FMPs) are points where MMS can take 

possession of RIK volumes.

2 Gas marketing can also involve a choice concerning which index to base the 

price on (NYMEX, Henry Hub, or a local index price). 

Source: MMS data. 

Findings 

As the RIK program has grown, a sophisticated set of operating procedures has 

evolved to address program activities. These include the following: 

• The use of standard industry contracts for RIK sales and service contracts;120

• The use of standard “Invitations for Offer” (IFOs) to establish the terms and 

conditions of RIK sales121; and 

• The development of manuals and procedures for RIK sales, presale qualification, 

determination of credit worthiness, and performance measurement. 

To date, major policy decisions affecting the RIK program have been overseen by 

the MMS Executive Committee. The Executive Committee is composed of the 

Director, the Deputy Director, and three Associate Directors. In addition to MMS’s 

own internal oversight, RIV activities are overseen by the Royalty Policy Committee, 

a Federal Advisory Committee Act chartered body.

It is unclear that sufficient oversight mechanisms are in place given the rapid growth 

of the RIK program. While the Royalty Policy Committee has several standing 

subcommittees, there is no subcommittee assigned to observing the RIK program. 

Program documentation is often not easily accessible or available in a single 

location. In addition, the inner workings of the program – how decisions are made, 

the fact that systematic analysis undertaken to determine whether to take royalties in 

kind or in value, and the approach used to determine whether to accept any 

particular bid in an RIK sale – may not be transparent to many observers of the 

program. Further, formal guidelines or regulations have not been adopted. The 

 

120 The sales and service provider contracts used in the RIK program are the same as those used in 

the U.S. oil and gas industry – the North American Energy Standards Board (NAESB) natural gas 

contract and the crude oil General Terms and Conditions contract modeled after the Conoco General 

Terms and Conditions contract and transportation and processing agreements. Use of these 

standard contracts provides private contracting entities with the assurance that doing business with 

the Federal government is not radically different than transactions among private oil and gas 

companies. 

121 An “Invitation for Offer” serves as a contract between MMS and the purchaser. 
Report to the Royalty Policy Committee 

108 

“opaqueness” does not serve MMS well as it encourages skepticism about the 

program. 

Planned expansion of the RIK program and expected future energy trends indicate 

that the program will play an increasingly prominent role in royalty management. 

Program expansion must be accompanied by increased accountability and 

transparency. 

Recommendations 

The following recommendations are for MMS to consider over the next six to eight 

months: 

Recommendation 6-1 MMS should establish an RIK Subcommittee to the 

Royalty Policy Committee (RPC). Issues that should be addressed include 

performance benchmarks, volume verification and market positioning. 

Recommendation 6-2 Providing appropriate and visible oversight for the 

program is a preemptive measure to address concerns about MMS 

operations. The new Subcommittee recommended above should conduct 

periodic reviews of the RIK program, both comprehensive and targeted, 

according to a fixed schedule. These reviews should result in specific 

recommendations for consideration by the RPC and as appropriate their 

transmittal to the Department. 

Recommendation 6-3 MMS should issue new or revised regulations and/or 

guidelines that would offer MMS, the public, and potential RIK purchasers or 

providers of transportation/processing services additional certainty concerning 

program administration. Additional certainty for these parties may assist in 

providing greater transparency for MMS business practices. 

Recommendation 6-4 MMS should compile and publish a guidebook of RIK 

procedures and policies, which should be made available to the public. This 

will reduce uncertainty regarding MMS procedures by offering a definitive 

source of information for RIK staff, affected industry personnel and other 

stakeholders. 

Recommendation 6-5 MMS should undertake a concerted effort to provide 

outreach to States, Industry, and the public to assist in communicating RIK’s 

inner workings (e.g., seminar courses, workshops). This will clarify MMS’s 

role in administering royalties, and facilitate understanding and confidence for 

clients and partners of MMS. 

The following recommendation is for MMS to consider in the medium-term: 

Recommendation 6-6 MMS should explore the feasibility of establishing a “trust 

fund” within Treasury, the interest from which could be used to fund DOI 

activities, particularly those related to royalty management. Priority for 
 Chapter 6

109 

funding should be given to activities required for addressing the 

Subcommittee’s recommendations related to production accountability, audit, 

collections and enforcement (as noted above, RIK administrative costs are 

already funded by a share of RIK revenues). Legislation would be required to 

establish this fund. If this option is pursued, it is essential that these funds 

should be available without subsequent appropriation. It is important to “hold 

harmless” the base budgets for fund-supported activities to ensure net 

increases in support for them; otherwise there will be no net increase in 

program support. 

B. Market Position, Organizational Structure, and 

Incentives 

Issue 

It is essential to recognize that the RIK program is not a typical “government 

program.” Rather it is a commercial enterprise housed within the public sector.122 

As such, it is not subject to the same incentive structure, nor allowed the same 

flexibilities, as private-sector entities involved in similar undertakings. 

Background 

The RIK program is currently organized to mimic private-sector organizations 

involved in similar oil and gas trading activities: 

• A “front office” is responsible for selling physical commodities (marketing 

execution), and initial capturing and logging of a transaction’s terms and 

conditions. 

• A “mid-office” monitors and mitigates credit risk within the RIK program. 

• A “back office” accounts for RIK transactions by entering MMS Form-2014

information for the RIK leases, managing volume imbalances, and monitoring 

receivables and payments. 

Nevertheless, the RIK program’s organizational and incentive structures differ from 

private-sector operations in important respects. For example, the government does 

not have a profit motive, and this tends to limit the government’s ability to realize 

higher returns. RIK managers’ pay and bonuses are not linked to the “profits” that 

accrue from program activities, as might be the case in the private sector. The 

strategy guiding the RIK program is to take royalties in cases where analysis 

indicates that cost or revenue advantages can be realized over the in-value option. 

Effectively, this strategy implies that managers are selecting the better of two 

available options, rather than seeking the best of all possible options. This would 

typically not be sufficient for a commercial enterprise. 

 

122 Other examples of public sector commercial activity include map sales by USGS, USDA Forest 

Service timber sales, and BLM land sales. 
Report to the Royalty Policy Committee 

110 

As the RIK program has evolved, MMS has sought to position itself closer to the 

wholesale market in an effort to increase returns. As shown in Figure 6, the FiveYear Royalty in Kind Business Plan seeks to shift the RIK program toward being a 

more active producer and seller of wholesale energy commodities, in order to “better 

optimize revenues within a conservative, physical spot market-based presence.” 

Figure 6 MMS Marketing Strategy 

Source: MMS RIK 5-year Business Plan 

Currently, MMS’s market position is very close to the shaded circle labeled 

“Proposed MMS Position” in Figure 6 above. For example, MMS has received 

approval from its Executive Committee to enter into natural gas “pooling” 

arrangements. Under a pooling arrangement, MMS would be responsible for 

scheduling the transport and arranging for processing and could sell the gas to 

multiple buyers. MMS believes this will 

• Increase the number of interested buyers; 

• Result in price advantages from increased competition; and 

• Provide increased flexibility and control to MMS. 

MMS has also entered into a 10-year transportation contract with the owners of the 

new Rockies Express natural gas pipeline, a proposed 1,679-mile natural gas 

pipeline system from Rio Blanco County, Colorado, to Monroe County, Ohio.123 The 

contract will allow MMS to transport 50,000 mmBTU per day via the pipeline, 

representing about 2.8% of the 1.8 million mmBTU capacity of the pipeline, and 10% 

of MMS’s RIK gas for FY 2006. MMS’s contract will take effect in January 2008. In 

 

123 REX-West includes 713 miles from Weld County, Colorado, to Audrain County, Missouri, with a 

targeted in-service date of December 2007. REX-East is the easternmost 638 miles, from Audrain 

County, Missouri, to Monroe County, Ohio, with a targeted in-service date of June 2009. 
 Chapter 6

111 

November 2007, MMS plans to hold an RIK natural gas sale that will entail seeking 

bids on: 

• The right to market RIK gas produced from Federal leases in Wyoming; and 

• The right to manage MMS’s capacity on the Rockies Express Pipeline. 

MMS anticipates that this will be a two-year contract. Once the pipeline has been 

built out to the Midwest, MMS will solicit new bids and enter into a new contract. 

The primary area of growth in the RIK program in the coming years is expected to be 

natural gas. Successful marketing of this gas is largely dependent on MMS’s market 

position. 

Findings 

The above arrangements are consistent with MMS’s goals of increasing 

diversification in their customer and contract bases as well as offering potentially 

increased flexibility with respect to marketing RIK products. However, pooling and 

similar arrangements are not without risk. Risk-return tradeoffs are made on a daily 

basis by private investors. The extent to which the proper incentives exist within a 

government agency to evaluate these tradeoffs is an open question. The 

Subcommittee recognizes that MMS has gained a considerable amount of 

experience in selling oil and gas. Nevertheless, capitalizing on any marketing 

advantage could be a difficult prospect given the government’s lack of pecuniary 

incentives and other factors.124

Many of the factors influencing the prospects of the RIK program are outside of 

MMS control (e.g., commodity prices, natural events that might disrupt supplies, 

pipeline tariffs, etc.). Nevertheless, MMS is able to directly influence the 

organizational structure and incentives facing the RIK program. A rigid, inflexible 

organization will be unable to respond to changing market conditions. Lack of a 

clear incentive structure (e.g., maximize net revenue) could result in suboptimal 

revenue results. 

The FY 2006 RIK Annual Report states that RIK sales were supported by 81 

transportation, processing, and miscellaneous service contracts.125 In general, 

because of the timing associated with RIK sales, entering into these service 

agreements cannot be easily accommodated in a framework that requires a lengthy 

bid, review, and award cycle. MMS recently formed a team of procurement officials 

and RIK personnel to review MMS’s current contracting process in light of the 

Federal Acquisition Regulations (FAR), to determine what, if any, changes need to 

be made to contracting processes. 

 

124 The Subcommittee recognizes that MMS has gained a considerable amount of experience in 

selling oil and gas over the last several years. 125 A single RIK sales contract may require several transportation agreements and a processing 

agreement to support that contract. It is also possible that due to changes in market dynamics, 

transportation rates, or processing options a given transportation or processing agreement may 

become idle while another transportation route or processing plant is used. 
Report to the Royalty Policy Committee 

112 

Flexibility, especially in terms of timeliness of contracting, has been integral to the 

ability of the RIK program to issue service contracts for transportation and 

processing. These contracts, negotiated following MMS procedures but not 

necessarily in accordance with the FAR, are integral to supporting RIK sales 

because absent these contracts MMS would either have to sell RIK volumes at the 

lease (potentially limiting MMS’s ability to realize higher returns) and/or rely on 

producers to transport and process RIK volumes (which would imply the need to 

subsequently audit such arrangements, possibly leading to valuation disputes). 

Currently MMS finds it advantageous to bundle gas volumes and negotiate transport 

and processing contracts, and there is at present some ambiguity as to whether the 

FAR should apply to these contracts. 

The Subcommittee wishes to emphasize that strict application of the FAR may limit 

MMS’s ability to negotiate advantageous transportation and processing agreements, 

react quickly to market conditions, as well as the private sector’s willingness to 

participate in the RIK program. 

The organizational structure most appropriate for the RIK program follows from the 

activities that the program undertakes in fulfilling its mission: 

• Contracting for sales and services; 

• Monitoring transactions over their lifecycle; 

• Obtaining and reacting to market intelligence; 

• Hiring and retaining appropriate expertise; and 

• Ensuring that procedures are in place for adequate oversight and review of 

program activities. 

While all of these activities can be (and have been) undertaken in the public sector, 

for activities that are primarily commercial in nature operating within the public sector 

is constraining and perhaps suboptimal because of the lack of the profit motive. 

Any organizational structure considered must be able to balance the flexibility 

required by the RIK program with the need for oversight and monitoring of a core 

governmental function (revenue collection), in order to ensure appropriate 

safeguards and integrity. 

Alternative organizational structures for the RIK program are feasible, and a number 

of potential other models already exist. These models all have advantages and 

weaknesses and the full complexities of these are not discussed in detail here. The 

goal behind any consideration of appropriate organizational structure is to establish 

an organization with clear goals and accountability mechanisms, embodying the 

flexibility required for achieving the established goals. 
 Chapter 6

113 

The Subcommittee notes that a number of different approaches are currently in use 

in other similar settings.126 The Subcommittee also recognizes that accountability 

issues have arisen with some existing quasi-public government entities. A common 

concern across all models is the need to ensure that appropriate accountability 

mechanisms exist and function effectively. The range of possible approaches 

includes: 

• Contracting the marketing functions out to the private sector. For example, the 

Canadian province of Alberta takes all of its oil royalties in kind. This oil is then 

either sold by a marketing agent or by the Crown. Marketing agents are selected 

by the province via competitive bid and typically have significant marketing 

experience and no down-stream (pipeline, refining) integration. Oil is tracked 

from the wellhead over pipelines to the marketer, where the Crown account is 

credited. Agents are subject to performance reviews according to a price 

performance plan. Agents may be required to post a letter of credit as a 

guarantee. Applying this model in the United States may require additional 

oversight, to the extent that marketers are integrated with downstream activities. 

• Establishing a government-owned corporation. A number of models exist. A 

government corporation is typically an agency of government, established by 

Congress to provide a market-oriented public service and intended to produce 

revenues that meet or approximate its expenditures.127 Corporations cover the 

spectrum in size and function from large, well-known entities, such as the U.S. 

Postal Service and the Federal Deposit Insurance Corporation, to small, lowvisibility corporate bodies, such as the Federal Financing Bank in the Department 

of the Treasury and Federal Prison Industries (UNICOR) in the Department of 

Justice128. A common characteristic is usually the freedom to contract and make 

personnel decisions unconstrained by Federal regulations. However, 

accountability and oversight of these corporations has proven difficult. 

• Federally Funded Research and Development Center Model (FFRDC). This 

model has been developed to address long-term research or development needs 

which cannot be met as effectively by existing in-house or contractor resources. 

The model enables agencies to use private-sector resources to accomplish tasks 

that are integral to the mission and operation of the sponsoring agency. A 

relevant point for royalty management activities is that the organization is 

managed, administered, monitored and funded by an executive “sponsor” 

agency.129 Accordingly, this model, if implemented with structured and 

systematic oversight mechanisms, enables the sponsor agency to retain far more 

control in comparison to other government-owned corporations and hence 

provides greater accountability. 

 

126 These include various types of congressionally chartered entities: non-profit corporations, 

government corporations, and government sponsored enterprises. 

127 RIK revenues far exceed the cost of administering the program. 128 Moe, Ronald C. and Kosar, Kevin R. March 23, 2006. Federal Government Corporations: An 

Overview. CRS Report for Congress. 

129 FFRDCs include National Laboratories, and a variety of other entities sponsored by various 

Federal agencies. A list of current FFRDCs is available on-line at 

http://www.nsf.gov/statistics/nsf05306/#Topic9. 
Report to the Royalty Policy Committee 

114 

• Service contracts and personnel practices. Establishing a set of best practices 

would enable the program to operate using contracting and personnel 

procedures more akin to what is typically found in the private sector. 

• Legislative authority. Legislative authority could provide the RIK program with 

necessary flexibility in contracting and personnel matters. Legislative authority 

would also be needed to adopt an alternative governance model, as well as 

express exemption from the FAR and many Federal personnel rules. However, 

success will require balancing these increased flexibilities with increased 

accountability, in the form of greater transparency and intense, independent 

oversight. 

Recommendations 

The recommendations below are intended to allow MMS the flexibility to operate a 

commercial activity and strengthen accountability mechanisms. 

Recommendation 6-7 By the end of FY 2008, MMS should clarify the extent to 

which Federal Acquisition Regulations (FAR) apply. If the FAR is found to 

apply, MMS should place a high priority on identifying contracting 

arrangements least likely to impair the program. 

The following recommendations should be implemented within the next two years: 

Recommendation 6-8 MMS should explicitly recognize (e.g., in a charter or 

mission statement) that the RIK program is a commercial activity, and should 

treat the program accordingly. Consistent with this, MMS should seek to 

operate the program as close to how a private business would operate as 

possible, including establishing a sole objective to maximize net revenue 

within risk parameters established by program executives. A business model 

should apply to all aspects of the RIK program, including identifying potential 

properties where royalties might be taken in kind, pre-sale bidder qualification 

procedures, the sales themselves, and performance measurement. 

Articulating an unambiguous objective for the program (namely maximizing 

net revenue) is important because introducing other objectives (such as being 

directed to provide oil to the SPR) compromises the ability of program 

managers to maximize revenue. 

Recommendation 6-9 MMS should conduct a cost-benefit analysis of various 

governance arrangements for the RIK program to determine the 

organizational structure that will best and most cost effectively align 

incentives with programmatic goals and provide the institutional flexibility 

necessary to function in a commercial environment. Alternatives should 

include but not be limited to: the status quo; contracting out marketing 

functions; an FFRDC model or some variation thereof; and the status quo 

with some legislative exemptions from the FAR and personnel regulations. 

Any such arrangement should maintain institutional oversight by the 
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115 

Department of the Interior and MMS, and also provide the additional oversight 

mechanism suggested in Recommendation 6-10. 

Recommendation 6-10 If an alternative governance structure is established for 

the RIK program, an independent oversight board should be established. 

This board should include experts in marketing and management, and 

representatives of the public interest. The board should periodically evaluate 

the RIK program, to assess balance sheets and other “business-like” 

performance measures. The board should have the ability to recommend 

program expansion or contraction (onshore or offshore and by commodity) 

based on market trends and other concerns, and to address specific concerns 

such as the small refiner program. Furthermore, the Secretary could respond 

to the Board’s recommendations with on-the-record findings. 

This approach would provide for oversight at three levels: MMS, the Royalty 

Policy Committee and the Board. Program administration and 

implementation would remain within the Department of the Interior and MMS. 

The Board’s recommendations should be provided to the Secretary who, in 

turn, should be required to respond to them with a published finding that 

accepts, modifies or rejects them and documents the reasons for such 

action(s). Until such time as an independent oversight board is established, 

the proposed RIK Subcommittee should provide these recommendations 

(through the proposed RPC Subcommittee). 

C. Crude Oil Program 

The crude oil RIK program faces several challenges: (a) maintaining sufficient 

volumes for a viable onshore RIK program; (b) low participation in the small refiner 

program; and (c) recognizing the requirement to fill the Strategic Petroleum Reserve 

(SPR) as a commercial transaction within the RIK program. While the natural gas 

side of the RIK program is expected to be a growth area, RIK oil issues are also 

important, considering the significant royalty revenue generated by oil sales. 

1. Onshore RIK Oil 

Background 

Figure 7 shows the actual and estimated disposition of RIK oil (both onshore and 

offshore) from FY 2004 to FY 2010. The data for 2007 onward are MMS forecasts. 

Obligations for providing oil for the Strategic Petroleum Reserve (SPR) are 

scheduled to be completed in fiscal year 2009. Barring a requirement to 

recommence filling the SPR, completion of the SPR fill requirement in FY 2009 

implies that additional RIK oil will be available for the Unrestricted Program (and 

perhaps the Small Refiner program also). 
Report to the Royalty Policy Committee 

116 

0

10

20

30

40

50

 FY 2004 FY 2005 FY 2006 FY 2007 FY 2008 FY 2009 FY 2010

million bbl/yr .

Strategic Petroleum Reserve Small Refiner Program Unrestricted Program

data for 2007-2010 from MMS forecasts

Figure 7 Disposition of RIK Crude Oil 

Source: MMS data. 

In 2006, the offshore RIK royalties comprised the following volumes: 

Table 23 RIK Royalty Volumes, FY 2006 

Location/Program Daily Volume 

(bbl/day) 

Annual Volume 

(bbl/yr) 

Gulf of Mexico: Small Refiner 37,225 13,587,125 

Gulf of Mexico: “Unrestricted” 76,343 27,865,195 

Pacific: “Unrestricted” 6,642 2,424,330 

Total 120,210 43,876,610 

Source: Minerals Management Service, Royalty in Kind Operation for Fiscal Year 

2006.

The onshore oil RIK program in FY 2006 was considerably smaller than the offshore 

program. Onshore RIK oil was taken from Federal leases in Wyoming via a pilot 

program with the State. RIK oil from Federal leases in Wyoming averaged 6,000 

barrels per day in 1998, declining to about 1,800 barrels per day when the pilot 

program was terminated in May 2006. Changing market conditions (including a shift 

in the interest of purchasers away from six-month agreements to monthly 

agreements), reduced production, and increased administrative costs led to the 

decision to end the program. 

Findings 

The onshore RIK oil program is more challenging than the offshore program, as 

volumes from individual wells are typically significantly smaller and marketing 
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117 

opportunities are more limited.130 Importantly, existing onshore oil infrastructure 

limits transportation and marketing opportunities relative to those potentially 

available for natural gas. Smaller volumes and limited infrastructure make it more 

difficult to aggregate sufficient quantities for an RIK oil sale. These same aspects of 

the oil market make it difficult to achieve large revenue gains relative to the 

performance measure benchmark. Furthermore, the onshore program requires the 

cooperation of the State in which the Federal leases are located. The Wyoming pilot 

program (which had the full cooperation of the State) was relatively successful until 

market conditions changed and volumes began to decline.131

MMS has not published information on administrative costs associated with the 

onshore oil RIK program. Available administrative cost information relates only to 

the offshore program. 

2. Small Refiner Program 

Background 

MMS established its program to sell royalty oil to small refiners in 1976 to provide 

small refiners with access to adequate supplies of crude oil at equitable prices. The 

program is authorized by the Mineral Leasing Act of 1920 (MLA) and the Outer 

Continental Shelf Lands Act of 1953 (OCSLA). Under the small refiner program, 

based on a secretarial “determination of need,” MMS takes its royalty portion of 

production from one or more Federal leases in kind and sells it to qualifying small 

refiners under RIK contracts. This is accomplished through competitive, sealed bid 

auctions. 

Small refiner eligibility requirements for onshore leases are defined in 30 CFR part 

208 and are based on the Emergency Petroleum Allocation Act. For the purchase of 

royalty oil from leases on the OCS, a refiner must qualify as a small business 

enterprise under the rules of the Small Business Administration. Small petroleum 

refiners are defined by the Small Business Administration as entities with 1,500 

employees or less and refinery capacity less than 125,000 bbl/day.132

30 CFR Section 208.4(a) states the following: 

Royalty oil sales to eligible refiners. 

(a) Determination to take royalty oil in kind. The Secretary may 

evaluate crude oil market conditions from time to time. The 

evaluation will include, among other things, the availability of 

crude oil and the crude oil requirements of the Federal 

Government, primarily those requirements concerning matters 

 

130 As an example, in FY 2006, on average Federal leases in Wyoming produced 4,082 bbl/lease; 

Gulf of Mexico leases produced on average 169,412 bbl/lease. 

131 Volumes declined because potential purchasers of RIK oil were no longer interested in bidding on 

a 12-or 6-month basis for RIK oil. Purchasers were interested in RIK volumes on a monthly basis and 

administering RIK sales on a monthly basis was not feasible for MMS. 

132 Source: Small Business Administration web site: www.sba.gov. 
Report to the Royalty Policy Committee 

118 

of national interest and defense. The Secretary will review 

these items and will determine whether eligible refiners have 

access to adequate supplies of crude oil and whether such oil is 

available to eligible refiners at equitable prices. Such 

determinations may be made on a regional basis. The 

determination by the Secretary shall be published in the Federal 

Register concurrent with or included in the ‘‘Notice of Availability 

of Royalty Oil’’ required by 30 CFR 208.5. (c) Upon a 

determination by the Secretary under paragraph (a) of this 

section that eligible refiners do have access to adequate 

supplies of crude oil at equitable prices, MMS will not take 

royalties in kind from oil and gas leases for exclusive sale to 

such refiners. 

MMS prepared a draft Determination of Need in 2004, but it is unclear whether the 

draft was finalized. The draft 2004 Determination of Need recommended continuing 

the sale of royalty oil from offshore leases to eligible small refiners. The conclusion 

to continue RIK sales to small refiners was based on: 

• Ensuring stability of crude oil supply for small refiners at market prices; 

• Assisting small businesses that disproportionately bear the costs associated 

with regulatory compliance; and 

• Assisting small businesses that contribute to meeting national security 

needs.133

 

133 Draft Small Refiner Royalty in Kind Program 2004 Determination of Need, MMS, 2004. 
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119 

Table 24 Small Refiner RIK Sales, 2001-2007 

Sale Date Location 

Volume sold 

(bbl/day) 

Total 

Volume Sold 

(million bbl) 

October 2001 GOM 56,070 20.47 

January 2002 Pacific 9,725 3.55 

* October 2002 GOM 50,155 27.44 

January 2003 Pacific 10,725 4.88 

April 2004 

GOM and 

Pacific 57,480 20.98 

April 2005 

GOM and 

Pacific 57,790 10.39 

October 2005 

GOM and 

Pacific 57,010 20.81 

October 2006 

GOM and 

Pacific 44,835 16.27 

October 2007 

GOM and 

Pacific 36,310 13.25 

* 18-month period 

Source: MMS data.

Small Refiner RIK sales figures are shown in Table 24. Since 2001, annual RIK 

sales to small refiners have ranged from about 11 million barrels to about 21 million 

barrels. 

Energy Information Administration data indicate that the number of domestic 

refineries has fallen from 205 in 1990 to 149 as of January 1, 2007.134 According to 

MMS, the number of refiners meeting the Small Business Administration criteria fell 

from 52 in 1998 to 37 as of September 2007. 

Recent RIK Small Refiner oil sales have attracted a limited numbers of bidders and 

have provided less of a “revenue uplift” compared to other RIK sales. For example, 

the Small Refiner crude oil sale conducted in August 2007 attracted only two 

bidders. The 2006 RIK annual report identified a loss of $1.4 million for the Small 

Refiner program relative to what would have been expected to be received under 

RIV.135

Findings 

The RIK Small Refiner Program is best considered as a set-aside program for a 

specific class of refineries. In a general sense, since the crude oil sold to small 

refiners is sold via auction to the highest bidder, the returns to the RIK program 

should be similar to what might be expected if the oil was sold in the “unrestricted” 

 

134 See EIA web site: http://tonto.eia.DOE.gov/dnav/pet/pet_pnp_cap1_dcu_nus_a.htm. 135 In spite of the Minimum Acceptable Bid (MAB), any of the RIK programs could report a negative 

revenue gain compared to the RIV benchmark. The MAB is constructed based on forecasts of prices 

and tariffs, while the benchmark is an average of prices recorded over the past year. 
Report to the Royalty Policy Committee 

120 

RIK crude oil program. In addition, since all RIK oil sales are required to equal or 

exceed an MMS-established minimum acceptable bid (which is proprietary 

information and not disclosed by MMS), MMS has the discretion to reject bids from 

small refiners and shift the oil to the “unrestricted” program or shift the oil to RIV 

status. The limited number of bidders suggests a lower level of competition for 

these volumes, raising the possibility of lower returns to the Federal government. 

The Subcommittee finds no strong justification for the small refiners’ set-aside, and 

recommends discontinuing the program as soon as possible. 

3. Strategic Petroleum Reserve 

Background 

The Outer Continental Shelf Lands Act and the Energy Policy and Conservation Act 

authorized the use of royalty oil to fill the Strategic Petroleum Reserve (SPR). Filling 

the SPR involves pumping crude oil into excavated subterranean “salt dome” 

caverns located near the Gulf of Mexico. This oil supply is intended to serve as a 

hedge against future supply disruptions. The Department of Energy (DOE) and 

MMS have a Memorandum of Understanding (MoU) for transfer of royalty oil 

between the two agencies, whereby DOE specifies the amount of royalty crude oil 

they require for the SPR. MMS delivers the royalty oil to an agreed-upon market 

center. DOE solicits competitive bids from companies willing to exchange the 

royalty oil for higher quality or better-placed volumes, and to deliver these volumes 

to the SPR. The current MOU does not provide for reimbursement to MMS for the 

administrative or contract costs incurred with transporting royalty oil, although in the 

past DOE has reimbursed some of these costs. Table 25 lists MMS costs related to 

fulfilling SPR obligations from 2002-2006. 

Table 25 MMS costs related to SPR Obligations, ($ millions) 

Fiscal 

year 

Transportation 

& Quality 

Bank Charges

Administrative 

Costs Total Costs

FY 2002 $4.0 $1.0 $5.0

FY 2003 $8.8 $2.1 $10.9

FY 2004 $14.8 $3.2 $18.0

FY 2005 $6.7 $3.2 $9.9

FY 2006 $0.0 $0.1 $0.1

FY 2007 $0.0 $0.4 $0.4

Source: MMS data.

The Bush Administration’s National Energy Policy endorsed adding oil to the 

Strategic Petroleum Reserve using the RIK program, and in November 2001, 

President Bush announced his intent to fill the Reserve to 700 million barrels. The 

SPR currently has the capacity to hold 727 million barrels. As of October 3, 2007 

the inventory of the SPR was 692.7 million barrels.136 RIK Annual Reports for FY 

2004 and FY 2005 report that during these two years MMS transferred 64.4 million 

 

136 See http://www.fossil.energy.gov/programs/reserves/index.html for additional information on the 

SPR. 
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121 

barrels to the SPR. No oil was sent to the SPR during FY 2006. The current 

agreement with DOE is for MMS to provide volumes sufficient to add 27 million 

barrels to the SPR.137 This current effort began in July 2007 with deliveries of 

50,000 bbl/day. The process is expected to be completed in 2008, with MMS 

delivering 70,000 bbl/day until 27 million barrels have been added to the SPR. 

While the current targeted SPR capacity of 727 million barrels is expected to be 

reached (or nearly reached) in 2009, SPR capacity is planned to be expanded to 1 

billion barrels. Further, the President has stated his support for a 1.5 billion barrel 

SPR. Therefore, significant amounts of RIK oil could be required to fill the SPR for 

many years beyond 2009. 

The Energy Policy Act of 2005 directed the selection of sites and acquisition of oil 

necessary to fill the SPR to 1 billion barrels. Three sites have been selected and 

have completed the environmental screening process. Pending funding for the 

expansion, the first of these sites is projected to be available for filling in 2010, at 

which point MMS would again begin delivering oil to DOE. The goal of 1 billion 

barrels is projected to be reached by 2020. 

Transferring oil to the SPR has an opportunity cost reflected in the market price of 

the oil. Absent the requirement to transfer oil to the SPR, MMS would sell this oil on 

a competitive basis through its “unrestricted” RIK oil sales program. 

Findings 

One issue that will require attention is the timing of SPR capacity expansion and the 

impact of that expansion on the RIK program (especially, the extent to which RIK oil 

will be needed intermittently for many years into the future). 

Given the opportunity costs associated with transferring Federal royalty oil to the 

SPR, alternatives to potentially reduce the costs of the SPR fill should be 

investigated. One example would be for MMS to sell royalty oil and transfer the 

funds realized from the sale to DOE for oil purchases. 

The Subcommittee finds that the opportunity costs associated with the oil transferred 

to the SPR are costs that the RIK program should recognize in its performance 

measurement efforts. 

Recommendations 

Onshore oil RIK program 

Recommendation 6-11 MMS should discontinue its onshore RIK crude oil 

program until it can be determined to be in the best financial interest of the 

government. While MMS has realized sizable revenue gains relative to RIK 

on crude oil sales in the past, there has been no systematic evaluation of 

 

137 As the relatively low quality crude provided by the RIK program must be exchanged by DOE for 

higher quality crude for the SPR, deliveries from MMS may not equal the volumes added to the SPR. 
Report to the Royalty Policy Committee 

122 

onshore crude oil costs. Any decision to restart the onshore program should 

consider administrative cost implications. This will ensure that the 

government is collecting onshore royalties in the most beneficial manner. 

Recommendation 6-12 MMS should prepare a decision document for RIK 

program executives, evaluating the conditions under which onshore oil sales 

should be undertaken. This effort should be completed prior to the next 

scheduled RIK crude oil sale. The document should include an assessment 

of the factors that would facilitate the participation of States and potential 

purchasers in a wider onshore RIK program, allowing increased marketing 

options for the onshore RIK program. 

Small Refiner Program 

Recommendation 6-13 The Subcommittee finds no strong justification for the 

small refiners’ set-aside, and recommends discontinuing the program as soon 

as possible. The program should not be resumed until the Secretary makes a 

new determination of need. 

Strategic Petroleum Reserve 

Recommendation 6-14 MMS should amend the Memorandum of Understanding 

with the Department of Energy to include reimbursement for administrative 

and contract costs incurred in transferring RIK oil to the Strategic Petroleum 

Reserve. Additional reimbursement should not result in a reduction in MMS’s 

base budget. 

Recommendation 6-15 MMS should recognize, and annually report on, the 

opportunity costs associated with transfers of oil to the SPR using the 

performance measures established for the RIK program. 

D. RIK Personnel Breadth and Depth 

Issue 

The RIK program faces challenges in attracting and retaining sufficient personnel 

with the necessary skill sets. These skills are typically related to experience in the 

oil and gas industry. As the program increases in size, increased personnel needs, 

including the need to recruit and retain personnel with industry experience, should 

also be anticipated. 

Background 

The RIK program operates with a small and increasing workforce of capable 

personnel. As of September 2006, Minerals Revenue Management (MRM) 

employed 536 full-time employees (FTEs), of which 52 FTEs were allocated to the 

RIK program. Thus, RIK FTEs currently represent 9.7% of the MRM total. The 
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123 

number of FTEs assigned to the RIK program has increased significantly in recent 

years. Figure 8 shows RIK FTEs increasing from 20 in FY 2001 to 50 in FY 2006, 

even as MRM overall shed a total of 48 FTEs (an 8% reduction from MRM’s total 

FTEs in FY 2001). 

250 251

57

20

184

223

75

50

0

50

100

150

200

250

300

Federal CAM Financial Mgt

& Other

Indian CAM RIK

FTEs .

2001

2006

Figure 8 Minerals Revenue Management FTEs, FY 2001 Compared to FY 2006 

Source: MRM FTE and Payroll Summary FY 2001-2006

From FY 2004 to FY 2006 the RIK program reported fairly steady levels of staff 

billing to RIK accounting codes, as shown in Table 26. Over this period, RIK 

personnel handled increasing RIK sales volumes. These trends are shown Table 26 

as a comparison of millions of barrels of RIK oil equivalent (BOE) per FTE. 

Table 26 Change in BOEs per FTE 2004-2006 

FY 2004 FY 2005 FY 2006 

RIK Sales Volumes 

(Oil and Gas) 

(million BOE)

46.6 57.8 75.3 

SPR Exchanges 

(million bbl) 38.8 25.6 0 

Total RIK Volumes 

(million BOE) 85.4 83.4 75.3 

RIK FTEs1 57.4 58.2 57.6 

Million BOE Sold 

per FTE 0.8 1.0 1.3 

Million BOE Collected 

per FTE 1.5 1.4 1.3 

1

 FTE numbers were tallied from the hours charged to RIK activities by 

MMS employees. These totals differ from those shown in Figure 8, 

which reports FTEs allocated only to the RIK program.

Source: MMS data. 

By FY 2009, RIK oil and gas sales are projected to grow by 41% above FY 2006 

levels. This increase in volumes implies an increase in the activities associated with 

marketing and selling the oil and gas. As the RIK program grows over time, it will be 
Report to the Royalty Policy Committee 

124 

necessary to increase the FTEs allocated to the program commensurate with the 

increasing workload. 

Findings 

The RIK program is a business operating within the confines of the public sector. 

This business can only function in an efficient manner if it employs the correct mix of 

skills, with sufficient depth in personnel to ensure that losing key personnel would 

not unduly jeopardize its activities. Given the nature of the RIK program and the 

frequent interaction with industry, RIK personnel also need a solid understanding of 

existing ethics guidelines. 

The RIK staff has accumulated a substantial amount human capital. The necessary 

skills required to administer the RIK program are not typically those found in a 

government agency. These skills parallel those found in private-sector oil and 

natural gas trading operations.138 Thus, for the purposes of hiring and retaining the 

personnel required to operate a commercial program, MMS must compete with the 

private sector for qualified staff expertise. MMS is often at a disadvantage in this 

respect because it cannot offer compensation equivalent to what is offered in the 

private sector. Given expected fluctuations in future RIK oil volumes, (due to 

conversions from RIV to RIK, changing SPR obligations, etc.) MMS should ensure 

that core oil and gas marketing expertise is not eroded. Increased flexibility with 

respect to personnel needs, as is proposed above, would assist in this regard. 

While the RIK program has a small staff dedicated to economic analysis, it does not 

have a dedicated legal staff. Given the timeliness requirements associated with 

many transactions, legal support is not always available when the RIK program 

needs it. Additional legal support would allow the timely review of contracts and 

other relevant guidance documents, as well as allowing MMS to have a higher level 

of confidence in any negotiations regarding RIK contractual matters. 

The Subcommittee also notes that certain key positions are currently vacant, 

including the positions for oil and gas asset managers. Filling these positions is 

critical to program continuity. 

 

138 Marketing oil requires different sets of skills and knowledge than marketing natural gas. These 

requirements are driven by differences in how these commodities are marketed, as well as 

infrastructure requirements and marketing possibilities. 
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125 

Recommendations 

Recommendation 6-16 MMS should immediately take steps to ensure that the 

RIK program has sufficient personnel depth to maintain an expanding trading 

operation and to ensure that RIK personnel have a solid understanding of 

existing ethics guidelines. MMS should develop and implement a Personnel 

Plan by June 2008 to strengthen those areas requiring additional personnel 

with industry expertise. 

Maintaining adequate depth of personnel ensures that the RIK program can 

continue to perform well when faced with changes in staffing or supply (e.g., 

changes in volumes exchanged for the Strategic Petroleum Reserve). The 

Personnel Plan should address the following: 

• The extent to which MMS needs additional authority to provide flexibility 

for hiring in a timely manner and retaining necessary expertise. 

• A comparison of compensation packages in government and industry for 

critical job descriptions. This comparison should be used to evaluate 

whether the current compensation arrangements are sufficient to continue 

attracting and retaining personnel. Providing competitive compensation 

for key personnel ensures that the program can continue to attract and 

retain staff with the necessary skill set, much of which can only be 

developed through experience in the industry. 

• In addition to ethics training provided to other royalty management staff, 

develop special and appropriately targeted ethics training for the RIK staff, 

which addresses issues that may arise from their frequent interaction with 

industry. 

Recommendation 6-17 Given the documented capability of the RIK workforce, 

MMS should consider incorporating these employees into any alternative 

institutional structure created. 

Recommendation 6-18 MMS should streamline the process for announcing and 

filling vacancies. Priority should be given to filling the asset manager 

vacancies for oil and gas. 

Recommendation 6-19 MMS should secure dedicated legal support for the RIK 

program, ideally stationed within the program in Denver, Colorado, or 

otherwise in the Regional or Washington, DC Office of the Solicitor. Securing 

dedicated legal support should improve the ability of RIK personnel to interact 

with their industry counterparts and with industry lawyers. 

Recommendation 6-20 MMS should ensure that RIK personnel maintain their 

market expertise. This will allow the program to make the most of marketing 

opportunities that can be developed. Allowing the RIK program personnel to 

remain actively involved in the market should allow the program to continue 
Report to the Royalty Policy Committee 

126 

performing well, even as changes in infrastructure and demand impact the 

marketing landscape. 

E. Performance Measures 

Issue 

Evaluating the performance of the RIK program relative to an industry average does 

not necessarily provide a comprehensive description of the program’s performance. 

Furthermore, the complex nature of the benchmarking process makes it difficult for 

outsiders to understand the basis for RIK performance metrics. 

Background 

The RIK program recognized early on the importance of establishing a set of 

performance measures. In general these measures include: 

• Net revenue/unit volume; 

• Revenue collection time; 

• Bad debt expense/revenue; 

• Administrative expense/volume; and 

• Transaction cycle time. 

Net revenue is perhaps the most important metric for measuring performance. For 

royalty collections, net revenue is the realized market price for oil and gas sales plus 

or minus adjustments to account for transportation, processing, product quality, and 

MMS’s administrative costs. 139

The net revenue benchmark is intended to represent a range of market values 

against which to compare RIK sales prices. The benchmark is developed as an 

annual mean and a range or band above and below the mean. The mean is based 

on an established market index (e.g., NYMEX) adjusted to account for 

transportation, processing, and quality. In effect, the benchmark represents the 

quality- and transportation-adjusted value that a third-party would receive if they sold 

a similar product at the same point. The band reflects the volatility in prices and 

adjustments over the course of the year. The wider the band, the more volatility 

there is over the course of the year. 

Findings 

MMS currently reports performance relative to the benchmark mean, without 

reference to the band. For a crude oil RIK package, the upper and lower bounds of 

the benchmark may be separated by as much as $2 to $3 per barrel. If performance 

reporting incorporated the band as well as the mean, the results would also be a 

range, potentially covering negative numbers at the low end. Reporting the 

performance range would give a better sense of the certainty associated with the 

mean. 

 

139 Measures of quality include heat content for gas, specific gravity and sulfur content for oil. 
 Chapter 6

127 

Market fluctuations within a single month tend to be much smaller than fluctuations 

over the entire year. This means that the band associated with a monthly 

benchmark would tend to be smaller than the band for an annual benchmark. This 

in turns implies that a monthly benchmark would be more accurate, and allow the 

results to be reported with greater certainty. 

• Gas contracts start in November or April, so they do not line up with the fiscal 

calendar. 

• Refinery shut-downs can result in “stranded” oil barrels being sold at a 

considerable discount, pulling down the annual average. 

• Indices are subject to seasonal fluctuations, complicating analysis of bids 

and contract prices based on these indices.140

The RIK program also develops administrative cost figures for comparison to RIV 

program costs. However, this comparison is only developed for the offshore 

program, given the relatively smaller onshore volumes, and the large number of 

leases. On this basis, every BOE redirected from the RIV program and sold by the 

RIK program represents a $0.032 savings to MMS. 

The calculation of performance measures is not centralized in one MMS office. The 

Economic Analysis Office (EAO) is responsible for developing the benchmarks and 

making the RIK-RIV comparison. The EAO relies on other offices for cost 

accounting analysis, administrative savings analysis, and time-value of 

money/interest savings analysis. 

RIK performance relative to the RIV program is based on past data. These figures 

are based on the fluctuations of the market over the year, and are at best an 

estimate of the program’s revenue “uplift” relative to the RIV program. As such, 

performance measures cannot give a full picture of the health of the program. This 

requires a full analysis of the costs associated with running the program, both 

onshore and offshore. Performance measurement should emphasize a more 

comprehensive approach that incorporates a variety of indicators of financial health. 

Data on sale participation is important and is being collected. Compiling and 

analyzing these data will allow the RIK program to improve its marketing, by 

identifying which companies, and which types of company, bid on which packets. 

Recommendations 

Short-Term 

Recommendation 6-21 MMS should report monthly performance measures, in 

addition to the current annual measures. Monthly performance metrics will 

allow a finer and more accurate view of exceptional periods (of high or low 

 

140 Bid and contract prices may be based on one or more indices, including “maximum of,” “average 

of,” or seasonal switching arrangements. 
Report to the Royalty Policy Committee 

128 

performance), and provide insight into cyclical performance patterns (e.g., 

demand for natural gas in the Northeast during the winter). 

Recommendation 6-22 MMS should develop a presentation of the benchmarking 

process that makes it easier for outsiders to quickly understand the basics of 

how the benchmarks are assembled and applied. 

A clearer presentation of the benchmarking process will make it easier for an 

outsider to understand how the RIK program is a good deal for the American 

public. This should make it easier for the program to continue developing 

along the lines laid out in the 5-year plan. As the program’s contributions and 

importance invite increased scrutiny, a concise and easily-grasped 

presentation of (at least) the basics of the benchmarking process will ease the 

process of responding to inquiries. 

Medium-Term 

Recommendation 6-23 MMS should carry the range-of-values methodology 

associated with benchmarks through to the reporting of performance 

measures based on those benchmarks. 

Reporting performance measures as a range of probable values reflects the 

notion that these measures are based on estimates, which incorporate a 

certain degree of uncertainty. This will give decision-makers a more accurate 

sense of the program’s performance than reporting measures based solely on 

the mean value. 

Recommendation 6-24 The RIK program should produce a document explaining 

how performance data can be used to improve marketing strategies based on 

predictable fluctuations in the market (e.g., determining which indices produce 

the best contracts at different times of the year). 

Recommendation 6-25 Performance measure calculations should be centralized 

in the Economic Analysis Office (including cost accounting, administrative 

savings, and time-value of money/interest savings). 

Recommendation 6-26 MMS should develop a strategy for using data compiled 

from oil and gas sales over the past three years to direct marketing efforts, 

including identifying which type of companies tend to bid on which products. 

Using past sales data to target future marketing efforts can potentially reduce 

the effort and cost involved in finding interested customers for in-kind 

royalties. 

Recommendation 6-27 MMS should evaluate whether performance measures 

could be enhanced following standard business practices (e.g., balance 

sheet, cash flow statement, financial ratios). 

Recommendation 6-28 MMS should publish a program cost comparison, 

comparing the RIK program to other public- and private-sector efforts toward 
 Chapter 6

129 

marketing in-kind royalties (e.g., the Province of Alberta, Texas General Land 

Office, industry). 

Enhancing existing performance measurement with some indication of the 

program’s overall (financial) well-being should provide a more accurate 

assessment of RIK’s strengths and weaknesses. Comparing the program’s 

costs against other entities pursuing similar goals could complement 

information gained by the current revenue comparisons. 

F. RIK Auction Procedures 

Issue 

An auction’s return to the seller depends on the parameters of the auction. 

Background 

The RIK program uses a relatively straightforward format for the auctions conducted 

to sell royalty oil and gas. Single sealed-bid auctions are held five times a year for 

gas, and seven times a year for oil. Each sale is focused on a different segment of 

the market, with gas sales held for Gulf of Mexico gas, Wyoming gas, and gas from 

BLM’s helium reserve.141 Oil sales are held for small refiner oil, unrestricted oil, and 

SPR service contracts. 

Bidders are pre-qualified based on creditworthiness and market experience142, and 

issued a line of credit against which they may bid. Bids take the form of a differential 

from an index price per barrel of oil or mmBTU of gas. This differential represents 

the costs of transportation and/or processing that the buyer expects to incur in 

ultimately bringing the product to market. “Sealed” bids are submitted by facsimile 

 

141 This gas is a byproduct of processing helium-bearing natural gas at the BLM’s crude helium 

enrichment unit (CHEU) at the Cliffside Gas Field, in Amarillo, Texas. The CHEU has capacity to 

produce 24,000 mcf of gas per day, less than 1⁄2 of a percent of MMS’s onshore gas operations. The 

RIK program oversees the marketing and sale of this gas under a cost-recovery MOU with BLM. All 

revenues of the sale are returned to BLM to partially fund the operation of the CHEU. 142 See Appendix 5 for a more complete description of the credit scoring model used by MMS. 

Criteria considered for pre-qualification include the company’s reputation, operational capability and 

financial viability, based on S&P credit rating, working capital, free cash flow, debt structure, maturing 

obligations, off-balance sheet debt, etc. MMS employs an off-the-shelf credit scoring model to assist 

in their analysis of creditworthiness. The primary credit scoring model used by the Mid Office is the 

RMG Financial Credit Scoring Model, an Excel-based spreadsheet that incorporates key financial 

information from a company’s audited financial statements into an objective numeric scoring process. 

The Subcommittee has not evaluated this model, but simply notes that it is an “off-the-shelf” 

application that appears to be widely used in the private sector (e.g., Exelon Corp, New York Power 

Authority). The Mid Office assigns an unsecured credit limit based first on 10% of a company’s 

tangible net worth, which is reduced by weights based on key financial ratios, earnings, cash flows, 

and profitability. This lower limit is referred to as the “credit security threshold” and it forms the basis 

for establishing and approving a specific line of unsecured credit. A secondary scoring model 

obtained from AEP employs objective financial ratio and performance data, but provides a more 

subjective evaluation outcome. The model uses weighting factors in the areas of short-term liquidity, 

debt management, asset management, and profitability and provides an overall weighted score using 

four ratings: Poor, Below Average, Above Average, and Good. See Process Level Internal Control 

Assessment; Royalty in Kind Business Process, Minerals Management Service, June 30, 2007. 
Report to the Royalty Policy Committee 

130 

or email in a single round of bidding; the winner is the bidder with the highest-value 

bid (i.e., the smallest differential below the index price). 

Since the winner simply pays the price that they bid, this is an example of a firstprice auction, where the price is set as the highest bid received. However, the RIK 

program has adopted a certain degree of flexibility regarding which bids it will 

consider. For example, the auction sometimes receives unsolicited bids, or bids by 

companies that have not completed the pre-qualification process. MMS has the 

discretion to consider these bids, for example, if the company is a new entrant to the 

market. In the event of a tie for the best bid or a change in the indices underlying 

bids, an additional round of bidding is held, in which bidders are asked to “refresh” 

their bids. 

In practice, all bidders are not necessarily included in a subsequent round (i.e., 

asked for a refreshed bid). Procedures for refreshing bids have varied in past 

auctions, with additional rounds of bidding restricted to: 

• The top five bidders 

• Those bidders originally using MMS’s preferred index. 

Findings 

Auction procedures are used in other contexts and include variations such as 

multiple rounds of bidding and alternative price setting rules. For example, Treasury 

securities, are auctioned using a “uniform price” format; broadcasting bandwidth 

auctions typically involve multiple rounds of bidding.143

Prequalification of bidders essentially shields MMS from risk, but also constitutes a 

barrier to entry because only companies with a certain level of assets or experience 

are able to participate in the auctions.144 MMS has set these requirements to limit 

risks to the RIK program and, to date, has been successful in this aim. There have 

been only four instances where gas sold at auction had to be remarketed after the 

sale: 

• PS Energy (2000): MMS terminated the contract citing nonpayment; 

• Enron (2001): MMS terminated the contract citing bankruptcy; 

• Total (2003): the company requested that MMS remarket the gas, given high 

scheduling needs on the pipeline; and 

• Trammo (2006): the company requested that MMS remarket the gas following 

Trammo’s corporate decision to exit the gas trading business. 

In cases where MMS has had to re-market gas after the sale, the “Liquidated 

Damages Provision” of the contract’s Invitation for Offer (IFO) stipulates that the 

company will be charged for any shortfall between the originally contracted price and 

the re-sale price. 

 

143 In the Treasury auctions all bidders are allowed to purchase at the market clearing price. This is a 

variation on what is known as a Vickery auction in which the winner is the bidder submitting the 

highest-value bid, but the price paid is the second-highest-value bid received. 144 The requirements of pre-qualification essentially constitute a “barrier to entry.” 
 Chapter 6

131 

Recommendations 

Short-Term 

Recommendation 6-29 MMS should codify the currently ad hoc approach of 

considering un-solicited bids in auctions. This will provide certainty for 

bidders and the RIK program about the auction procedures to be followed. 

Medium-Term 

Recommendation 6-30 MMS should implement a systematic and detailed 

procedure for handling bid documents (including both bids and notices of 

acceptance) to ensure security and integrity. In particular, the procedures 

should address “refreshing.” In that regard, the procedures and associated 

documents used to announce sales and associated procedures should 

explicitly lay out the procedures for determining when and if additional bidding 

rounds will be held. 

If additional bidding rounds are held, any “refreshment” process should be 

formally structured and documented in detail. 

Recommendation 6-31 MMS should evaluate the benefits and costs of 

alternative auction types, including changes in expected revenues, costs, and 

complexity of administration. MMS should develop a pilot program to test 

alternatives that may improve net returns. 
Report to the Royalty Policy Committee 

132 
133 

Chapter 7 

OCS Royalty Relief: Lack of Price 

Thresholds in Offshore Oil and Gas 

Leases – 1998 and 1999 Lease Sales in 

the Gulf of Mexico
Report to the Royalty Policy Committee 

134 

Chapter 7 OCS Royalty Relief: Lack of Price Thresholds in 

Offshore Oil and Gas Leases – 1998 and 1999 

Lease Sales in the Gulf of Mexico 

Summary of Major Recommendations in Chapter 7 

(A complete list of all recommendations is provided in Appendix 1) 

• The Department of the Interior should continue its efforts to pursue voluntary 

royalty payment agreements with holders of the 1998 and 1999 leases without 

price thresholds. (see Recommendation 7-1 on page 138) 

• Congress and the Secretary of the Interior should continue to explore legislative 

options, which could address the loss of royalties without violating legitimately 

signed contracts. (see Recommendation 7-2 on page 138) 

• MMS and the Office of the Solicitor should coordinate to develop new procedures 

and guidelines, or revise any existing procedures and guidelines to ensure that 

the Secretary’s February 15, 2007 memorandum is effectively implemented. The 

revised procedures and guidelines should clearly delineate what constitutes a 

thorough review; how MMS will coordinate its clearance procedures internally, 

how the Office of the Solicitor will coordinate with MMS. The new procedures 

and guidelines should be reviewed by the Inspector General, and they should be 

put in place within 60 days of the submittal of the Subcommittee’s report to the 

Department. (see Recommendation 7-3 on page 138) 

• MMS and the Department should establish periodic, comprehensive and formally 

structured reviews of the procedures and guidelines to ensure they are being 

implemented correctly and successfully. Any necessary remedial actions should 

be defined and implemented promptly. (see Recommendation 7-4 on page 138) 

• Effective implementation of the procedures and guidelines should be 

incorporated in the performance standards for key staff, supervisors, and 

managers in MMS and the Office of the Solicitor. (see Recommendation 7-5 on 

page 138) 

• In addition to the standard training provided to all Departmental employees, the 

Department and MMS should require additional annual ethics training for staff 

involved in royalty management (this includes staff in the Office of the Solicitor). 

This training should include guidance on public-private-sector interactions, use of 

official and/or proprietary data, and prohibitions on the use of public office for 

private gain. (see Recommendation 7-6 on page 138) 
 Chapter 7

135 

Chapter 7 OCS Royalty Relief: Lack of Price Thresholds in 

Offshore Oil and Gas Leases – 1998 and 1999 

Lease Sales in the Gulf of Mexico 

I. Introduction 

There has been considerable controversy over the issue of oil and gas leases from 

1998 and 1999 sales in the Gulf of Mexico, which were granted royalty relief without 

price thresholds. This issue was not included as a review topic in the 

Subcommittee’s charter because the Department of the Interior considers it a 

leasing management issue, rather than a royalty management issue. 

Recently, the Assistant Secretary-Land and Minerals Management (hereinafter 

“Assistant Secretary”) asked the Subcommittee to comment on the offshore lease 

issuance procedures outlined in a February 15, 2007 memorandum from the 

Secretary of the Interior to the Assistant Secretary. Those procedures include eight 

enumerated items that the Office of the Solicitor must review for future lease sales 

(see Exhibit A on page 139). 

II. Background 

In 1995, the Outer Continental Shelf Deep Water Royalty Relief Act (“the Act”), 

Public Law 104-58, granted royalty relief for existing offshore oil and gas leases in 

deep water, and MMS subsequently provided royalty relief for certain existing 

deepwater leases in the Gulf of Mexico. That relief includes: 

• Production volumes that may not be subject to the payment of royalties 

(known as “suspension volumes”); and 

• Price thresholds that determine how high the market price can rise before 

royalty relief is suspended. When the market price exceeds the threshold, 

companies are required to resume paying royalties to the government. When 

the market price drops below the price threshold, royalty relief is reinstated 

until the suspension volume in the lease is reached. 

The Act does not specifically mandate price thresholds for new leases. However, no 

party questioned MMS’s authority to impose price thresholds for post-2000 leases in 

the Outer Continental Shelf. Moreover, MMS has routinely included them in all post2000 leases, and the Energy Policy Act of 2005 plainly authorizes price thresholds 

for post-2005 leases. 

In March 2006, the Department of the Interior’s Office of Inspector General (IG) 

began an investigation into the omission of price thresholds in certain deepwater oil 

and gas leases issued in 1998 and 1999.145 Because these leases do not contain 

price thresholds, payment of royalties for production under the leases is not required 

until the suspension volumes are achieved (regardless of the market price for oil and 

 

145 U.S. Department of the Interior, Office of Inspector General, Investigative Report on the Lack of 

Price Thresholds in Gulf of Mexico Oil and Gas Leases (2007). 
Report to the Royalty Policy Committee 

136 

gas). Estimates of the potential loss in royalty payments from these 1998 and 1999 

leases vary. Early in 2007, MMS estimated that the loss of royalties will be in the 

$6.4 billion to $9.8 billion range. The Government Accountability Office (GAO) found 

this to be a reasonable estimate, but noted that actual losses will depend on factors 

such as the growth of reserves and price trends.146 The total loss will not be known 

until each of these leases have either been relinquished or have exceeded their 

suspension volumes (which could be a number of years from now). Market forces 

and the extent to which producible oil and gas are discovered on these leases will 

largely determine actual production volumes from those leases. 

The IG investigative report contains a detailed examination of the factors that 

contributed to the release of the 1998 and 1999 leases without price thresholds, but 

does not include specific recommendations for addressing the problem. 

Nonetheless, the report speaks for itself and the Subcommittee finds it compelling. 

The report was referred by the IG to the Assistant Secretary for “whatever action he 

deems appropriate.” 

Some of the producers holding the 1998 and 1999 leases without price thresholds 

have been willing to renegotiate royalty payments (on a voluntary basis) with the 

Assistant Secretary. The GAO reported that as of April 2007, six of the 45 

companies involved have agreed to terms; others have agreed to negotiate but have 

not yet come to terms; and some companies have, to date, not agree to negotiate. 

III. Findings and Recommendations 

A. Findings 

The issuance of the 1998 and 1999 leases without price thresholds has undermined 

taxpayer confidence in the MMS offshore leasing program. 

The 1998 and 1999 leases without price thresholds cannot be “fixed” by retroactively 

mandating the payment of royalties. These leases are contracts that were signed by 

both parties – the government and the lease holders – and efforts to change the 

terms of legitimately signed contracts without mutual agreement would be a violation 

of contract law. 147

 

146 Government Accountability Office, Oil and Gas Royalties: Royalty Relief Will Cost the 

Government Billions of Dollars but Uncertainty Over Future Energy Prices and Production Levels 

Make Precise Estimate Impossible at this Time (April 12, 2007). 147 In Santa Fe Snyder, 383 F.3d 884 (5th Cir.2004), the Fifth Circuit held that the “plain meaning” of 

the Deep Water Royalty Relief Act left MMS with no authority to limit royalty relief to OCS leases 

issued in the period 1996-2000 through imposition of a “new production” requirement and applying 

royalty relief on a field basis. Using a similar plain meaning rationale, in Kerr-McGee Oil and Gas 

Corp. v. Allred, No. 2:06-CV-0439LC (W.D. La.)(Mem. Ruling Oct. 30, 2007), the district court held 

that the Secretary had no authority to impose price thresholds on OCS leases for the same 1996-

2000 period. Inasmuch as neither the Santa Fe Snyder decision nor the pending Kerr McGee

litigation has any impact on post-2000 OCS leasing, the Subcommittee’s recommendations for 

stringent review of OCS leasing documents are both pertinent and critical to ensure effective future 

program management and stewardship of taxpayer resources. 
 Chapter 7

137 

It is unlikely that the specific problems associated with the 1998 and 1999 leases will 

be repeated, given the attention focused on this issue and the strong public and 

political concern it has generated. Nevertheless, reforms must be put in place to 

ensure that other significant problems, particularly those with revenue implications, 

do not occur in the future. It has taken far too long to address the needed reforms. 

The IG investigative report identifies a number of management problems in the 

Office of the Solicitor and in MMS with respect to the issuance of the 1998 and 1999 

leases without price thresholds. It provides a strong basis for identifying corrective 

actions that should be put in place to preclude future mistakes. In particular, it 

identifies issues related to document handling, records retention, the substantive 

review of lease-related materials, and documentation of reviews by the Office of the 

Solicitor. 

As noted above, the February 15, 2007 memorandum from the Secretary to the 

Assistant Secretary addresses the issue of what should be reviewed by the Office of 

the Solicitor. As requested, Subcommittee has reviewed this document. 

Without considerable additional information gathering and analysis, the 

Subcommittee cannot state that the items enumerated in the February memorandum 

constitute a definitive list of items for the Solicitor‘s review. Nonetheless, the 

enumerated items do appear to be sensible policy guidance. This policy is likely to 

succeed only if it is supported by documented, detailed, and rigorous procedures 

and guidelines. 
Report to the Royalty Policy Committee 

138 

B. Recommendations 

Recommendation 7-1 The Department of the Interior should continue its efforts 

to pursue voluntary royalty payment agreements with holders of the 1998 and 

1999 leases without price thresholds. 

Recommendation 7-2 Congress and the Secretary of the Interior should 

continue to explore legislative options, which could address the loss of 

royalties without violating legitimately signed contracts. 

Recommendation 7-3 MMS and the Office of the Solicitor should coordinate to 

develop new procedures and guidelines, or revise any existing procedures 

and guidelines to ensure that the Secretary’s February 15, 2007 

memorandum is effectively implemented. The revised procedures and 

guidelines should clearly delineate what constitutes a thorough review; how 

MMS will coordinate its clearance procedures internally, how the Office of the 

Solicitor will coordinate with MMS. The new procedures and guidelines 

should be reviewed by the Inspector General, and they should be put in place 

within 60 days of the submittal of the Subcommittee’s report to the 

Department. MMS and the Office of the Solicitor should consider establishing 

a single point of contact to assist in coordinating the reviews. 

Recommendation 7-4 MMS and the Department should establish periodic, 

comprehensive and formally structured reviews of the procedures and 

guidelines to ensure they are being implemented correctly and successfully. 

Any necessary remedial actions should be defined and implemented 

promptly. 

Recommendation 7-5 Effective implementation of the procedures and 

guidelines should be incorporated in the performance standards for key staff, 

supervisors, and managers in MMS and the Office of the Solicitor. 

Recommendation 7-6 In addition to the standard training provided to all 

Departmental employees, the Department and MMS should require additional 

annual ethics training for staff involved in royalty management (this includes 

staff in the Office of the Solicitor). This training should include guidance on 

public-private-sector interactions, use of official and/or proprietary data, and 

prohibitions on the use of public office for private gain. 
 Chapter 7

139 

Exhibit A: Memorandum from the Secretary to the Assistant Secretary 
Report to the Royalty Policy Committee 

140 
141 

Appendices
Report to the Royalty Policy Committee 

142 

Appendix 1 Complete List of Recommendations 

Recommendation 3-1 MMS and BLM should develop a procedure to 

determine the potential BTU variability of produced 

natural gas on a by-reservoir or by-lease basis, and 

estimate the implications for royalty payments. ...............22

Recommendation 3-2 MMS and BLM should adjust BTU frequency 

requirements for sampling and reporting on a caseby-case basis, or consider other regulatory 

requirements....................................................................22

Recommendation 3-3 MMS and BLM should establish consistent 

guidelines for requesting BTU information from gas 

producers, and should systematically examine the 

validity of that information................................................22

Recommendation 3-4 MMS and BLM should establish procedures to 

systematically compare the BTU values reported on 

the Oil and Gas Operations Reports (OGORs) with 

gas analysis reports (GARs) to determine whether 

BTU reporting is accurate................................................22

Recommendation 3-5 MMS should revise 30 CFR 250.1203(b)(5) (“Oil 

and Gas and Sulfur Operations in the Outer 

Continental Shelf—Gas Measurement.” Similarly, 

BLM should revise BLM Onshore Order Number 5. 

Both revisions should reflect BTU sampling 

requirements deemed necessary by the agency to 

ensure accurate BTU sampling frequency, 

methodology, and reporting. Revisions on 

methodology should include requirements for 

sampling location (e.g., immediately upstream or 

downstream of natural gas sales meters). MMS’s 

Offshore Minerals Management (OMM) office and 

BLM should consider adopting the gas sampling 

standard of the American Petroleum Institute, 

Chapter 14, Section 1, Collecting and Handling of 

Natural Gas Samples for Custody Transfer, 

February 2006, or a similar standard. Both 

agencies should consider requiring certified (ISO) 

lab testing of natural gas samples. ..................................22

Recommendation 3-6 MMS should amend Form MMS-2014 to record 

natural gas BTU values, which form the basis for 

required royalty payments. This will require adding 

a second column to the form: the new column will 

report BTU value, and the original column will still 

report volume times BTU value (total mmBTU). ..............22
 Appendix 1

143 

Recommendation 3-7 MMS should modify the Gas and Liquid Verification 

Systems (GVS and LVS), or develop an equivalent, 

automated system to compare BTU values and oil 

quality data in submitted product quality statements 

to information in Oil and Gas Operations Reports 

(OGORs) (see also recommendations under 

Electronic Data Submittals, Data Exchange, and 

Accounting Tools, beginning on page 27). ...................... 23

Recommendation 3-8 The Department of the Interior should support 

amending the Royalty Simplification and Fairness 

Act (RSFA). The Energy Policy Reform and 

Revitalization Act of 2007 (HR 2337) introduced in 

the 110th Congress contains language in Section 

215 (“Liability for Royalty Payments”) simplifying the 

RSFA collection requirements by restoring MMS’s 

ability to pursue the “payor” for debts, as was done 

prior to the enactment of RSFA. The Subcommittee 

recommends separating Section 215 from HR 2337, 

if necessary, for passage as a stand-alone piece of 

legislation. This RSFA amendment would allow for 

more timely and less costly collection of MMS’s 

unsettled royalty debts. ................................................... 23

Recommendation 3-9 BLM should work with MMS’s Minerals Revenue 

Management (MRM) division to develop and 

implement a system that electronically transmits 

information on lease establishment and any followup leasing actions affecting lease status......................... 27

Recommendation 3-10 MMS and BLM should require gas analysis reports 

from all operators, at a frequency to be determined 

by the agencies. .............................................................. 27

Recommendation 3-11 MMS’s Offshore Minerals Management division 

(OMM) should phase in a requirement for offshore 

lease operators to submit all oil and gas volume and 

quality statements electronically, in an automated 

file format. Once electronic reporting of quality 

information is established, MMS should modify the 

Gas and Liquid Verification Systems (GVS and 

LVS) to compare information submitted via 

GVS/LVS to information submitted via Oil and Gas 

Operations Reports (OGORs)......................................... 27

Recommendation 3-12 BLM should complete the pilot effort on Remote 

Data Acquisition for Well Production, and determine 

whether the system can be implemented for all 

Federal and Indian onshore oil and gas production. ....... 27
Report to the Royalty Policy Committee 

144 

Recommendation 3-13 MMS’s Minerals Revenue Management division 

(MRM) should phase in a requirement that all 

payors submit their payments electronically, with a 

goal of full implementation in five years...........................27

Recommendation 3-14 As outlined in the Minerals Revenue Management 

(MRM) Strategic Business Plan 2007–2012, MMS’s 

MRM division should complete the process of 

adding up-front error correction to the electronic 

interface for Form MMS-2014. This will reduce 

errors received by MRM, by up-front checks to a 

payor’s entry to the electronic royalty payment 

system. ............................................................................27

Recommendation 3-15 MMS’s Minerals Revenue Management division 

(MRM) should develop and implement software to 

perform the function of the Accounting and 

Financial System/Production Auditing and 

Reporting System in automatically generating 

exception reports. This system should work in 

conjunction with MMS’s Compliance Program Tools 

to automatically generate exception reports 

requiring follow-up gas plant compliance reviews or 

audits. MRM would need to establish a system to 

prioritize cases for follow-up, to ensure proper 

royalties are being paid. ..................................................28

Recommendation 3-16 MMS should reinstate periodic reporting of gas 

plant efficiency data by plant operators, similar to 

Gas Plant Operations Reports (GPORs). The 

reporting period should be consistent with 

established audit schedules. ...........................................30

Recommendation 3-17 MMS should establish a prioritized gas-plant 

compliance review or audit schedule to examine 

gas-plant efficiency. This schedule could be based 

on factors such as plant processing capacity, age of 

the plant and age of the efficiency data. ..........................30

Recommendation 3-18 BLM should update all policy and guidance on 

production accountability, including any expired and 

current instruction memoranda, the “Redbook,” and 

any relevant pre-1983 USGS guidance. The 

updated material should be incorporated into the 

BLM Manual System. ......................................................32

Recommendation 3-19 BLM and MMS should develop timelines and 

standards for communicating and providing 

feedback to each other on production accountability 

issues. .............................................................................32
 Appendix 1

145 

Recommendation 3-20 MMS should provide BLM an updated MMS 

personnel contact list for production accountability 

issues, by operator.......................................................... 32

Recommendation 3-21 MMS should update production accountability 

guidance and handbooks. This guidance should be 

used instead of on-the-job training. ................................. 32

Recommendation 3-22 BLM should establish a workgroup to evaluate 

Onshore Orders 2, 3, 4, and 5 to ensure that they 

include sufficient guidance for checking that 

sufficient royalties are paid on oil and gas. This 

workgroup should be established as soon as 

possible and complete its work by June 2008. In 

particular, Onshore Order #5 (involving gas 

measurement) should be evaluated for its treatment 

of electric flow computers, gas sampling and 

analysis, point of measurements, alternate 

measurement devices and BTU determination. 

Furthermore BLM should clarify standards when it 

comes to meters that record less than 100 mcf per 

day, address overall uncertainty and bias, and 

finally address minimum distances that 

compression must be placed from a meter. .................... 32

Recommendation 3-23 BLM should establish and maintain a gas 

measurement team of specialists to assess new 

gas measurement technologies. This team should 

provide recommendations to BLM by June 2008. 

Following the development of an initial set of 

recommendations, the team should meet on an 

annual basis to evaluate the extent to which new 

technologies should be considered in BLM’s 

guidance.......................................................................... 33

Recommendation 3-24 BLM should add an action code in its LR2000 

records tracking system to allow each production 

accountability review to be tracked for management 

and performance monitoring purpose. ............................ 36

Recommendation 3-25 BLM should develop estimates of the number of 

hours required to complete simple and complex 

reviews. These estimates should be used to help 

determine appropriate staffing levels, closely 

corresponding to oil or gas activity in a given field 

office. In the interim, BLM should reallocate its FY 

2008 funding for oil and gas activities to place 

greater emphasis on the timely hiring of additional 
Report to the Royalty Policy Committee 

146 

Production Accountability Technicians (PATs) 

sufficient to meet current and expected workloads..........36

Recommendation 3-26 BLM should ensure that current Production 

Accountability Technicians (PATs) are fully utilized 

for production accountability needs, whether for the 

home office or adjacent offices. PATs should 

typically not be used for non-productionaccountability-related duties. ...........................................36

Recommendation 3-27 MMS should prioritize resolving Oil and Gas 

Operations Report errors and enforcing compliance 

via written orders and civil penalties................................38

Recommendation 3-28 MMS should replace retirees with qualified 

contractors or trained non-permanent or seasonal 

employees. Potential sources of employees include 

other Federal agencies (such as the Defense 

Financial Accounting Service) the Financial 

Management Internship Program, and other 

professional internship programs.....................................38

Recommendation 3-29 MMS should ensure that Offshore Minerals 

Management (OMM) division staffing levels are 

adequate for sufficient review of discrepancies in 

the Gas Verification System (GVS). ................................38

Recommendation 3-30 MMS and BLM should establish standardized 

position descriptions for Production Accountability 

Technicians in order to consistently define the roles 

and responsibilities of these individuals...........................40

Recommendation 3-31 The BLM National Training Center should work with 

the BLM Washington Office and states to project 

the training demands for Petroleum Engineering 

Technicians (PETs) and certification requirements, 

and should offer such courses on a schedule that 

would meet these demands. In doing so, BLM 

should weigh the costs of waiting to offer a 

certification class until it is fully enrolled, against 

potential lost royalty revenues due to delays in PET 

certifications.....................................................................40

Recommendation 3-32 BLM should assess the training needs for 

Petroleum Engineering Technicians and Production 

Accountability Technicians This needs assessment 

should include the development of a national 

training program for Production Accountability 

Technicians, that would provide training related to 

fundamental production accountability tasks, as well 
 Appendix 1

147 

as more detailed instruction on topics such as oil 

and gas agreements (unit agreements, 

communitization agreements, commingling, 

allocation, and off-lease measurement, and gas 

storage agreements). In addition, BLM should 

ensure that PETs are adequately trained in use of 

the Automated Fluid Minerals Support System 

(AFMSS) and other information systems necessary 

for performing production accountability tasks. 

Updating formal guidance on the items identified 

above is essential to developing the necessary 

training materials............................................................. 40

Recommendation 3-33 MMS and BLM should convene an annual 

workshop for BLM Petroleum Engineering 

Technicians and Petroleum Accountability 

Technicians and equivalent MMS Offshore Minerals 

Management (OMM) personnel to share applicable 

best practices and identify and propose resolutions 

to common production accountability concerns............... 40

Recommendation 3-34 BLM should establish a formal procedure to certify 

mine inspectors, including appropriate education 

and experience criteria.................................................... 40

Recommendation 3-35 BLM should ensure that offices involved with 

surface mines are equipped with appropriate 

technology to accurately measure removed 

minerals materials. .......................................................... 41

Recommendation 3-36 BLM should conduct periodic National and 

Statewide Production Accountability 

Technician/Petroleum Engineering Technician 

meetings to discuss production accountability 

procedures. Such meetings could provide 

supplemental training regarding new policies and 

procedures, as well as serve as a forum for 

identifying on-the-ground production accountability 

issues.............................................................................. 41

Recommendation 4-1 MMS should establish a “Compliance Strategy 

Council” to identify an MMS-wide compliance 

strategy. The Council should be established by 

June 2008. Membership of the Council should 

include senior MMS compliance managers. 

Outside membership, such as senior IRS staff 

experienced in risk-based compliance processes, 

should also be considered............................................... 61
Report to the Royalty Policy Committee 

148 

Recommendation 4-2 MMS should systematically review staffing and 

budgetary needs required to implement the August 

2007 consultant’s report on compliance strategies. 

MMS should prepare a plan for tracking costs and 

benefits by audit/review type and by compliance 

office................................................................................62

Recommendation 4-3 MMS should systematically review the allocation of 

compliance resources across States and Tribes. 

This review should include an examination of the 

staffing and budgets for other Federal agencies 

engaged in similar activities.............................................62

Recommendation 4-4 MMS should commit to an ongoing effort to 

evaluate the relative benefits and costs associated 

with different compliance tools. This effort should 

include appropriate investments in data gathering 

and analysis. As a starting point, MMS should 

evaluate the results from the audit and compliance 

program cost-benefit study and implement its 

recommendations as appropriate. During the next 

fiscal year, MMS should develop a plan to ensure 

that the appropriate compliance data will be 

collected and analyzed on an ongoing basis to 

assist in ensuring that the best mix of compliance 

tools is being applied. MMS should consider 

consulting with the IG and GAO regarding the 

sufficiency of these Plans. ...............................................62

Recommendation 4-5 MMS should assess the use of more targeted 

audits/reviews that focus on high-risk issues, and 

determine the extent to which a more flexible 

approach to audits is feasible (along the lines of the 

IRS model). In particular, the IRS employs a suite 

of enforcement approaches ranging from 

compliance checks to limited- or full-scope field 

audits...............................................................................62

Recommendation 4-6 MMS should initial a pilot test of a royalty noncompliance “whistleblower” program, similar to the 

program administered by the IRS, as authorized 

under Section 7623 of the Internal Revenue Code. 

A short-term step could be setting up a “hot line,” 

and posting signs at Federal and Indian facilities 

listing a telephone number for reporting theft of 

Federal minerals to MMS. A longer-term effort 

would require authorization by Congress and could 

permit MMS to pay a reward from additional noninterest royalties collected. The reward would be a 
 Appendix 1

149 

portion of the additional revenues collected as a 

result of receiving information leading to the 

identification of Federal or Indian mineral royalty 

non-compliance............................................................... 62

Recommendation 4-7 MMS should evaluate the extent to which additional 

flexibility with accounting standards and 

requirements might reduce costs without 

compromising the integrity of the compliance 

process. MMS should consult with the IRS in this 

evaluation........................................................................ 63

Recommendation 4-8 MMS should require electronic submission of all 

relevant information......................................................... 63

Recommendation 4-9 MMS should complete its risk-based compliance 

pilot project and develop a plan for implementing a 

risk-based compliance strategy on an MMS-wide 

basis, using an incremental approach to ensure that 

essential data and related management information 

systems are validated and ready for wider 

application. The first phase of this effort should be 

completed by the end of FY 2008 and should 

address the offshore program. ........................................ 65

Recommendation 4-10 MMS should enhance its tracking system to include 

the following information for every audit and 

compliance review: identification of the 

company/property/location; who performed work 

(staff, office, etc.); the type of work that was done 

(type of audit/review, information collected, 

reviewed, analyzed, etc.); why the work was 

initiated (mandate, risk factors, random sample, 

etc.); results (royalties recovered, penalties, etc.); 

and time and resources spent......................................... 66

Recommendation 4-11 MMS should keep GAO and the IG informed on the 

progress of the pilot project and resultant proposals....... 66

Recommendation 4-12 The Royalty Policy Committee should continue to 

monitor the pilot, resultant proposals, 

implementation of improvements, and impacts on 

the compliance program.................................................. 66

Recommendation 4-13 MMS should develop a new set of Government 

Performance and Results Act goals and measures 

based on the recently completed analysis of the 

benefits and costs of different compliance tools and 

the risk-based compliance process pilot (a riskbased pilot is scheduled for completion in February 
Report to the Royalty Policy Committee 

150 

2008). MMS should establish final goals and 

measures by the end of February 2008...........................67

Recommendation 4-14 MMS should automate the data entry process for all 

compliance management information systems and 

establish a schedule for completing this effort, with 

a completion date of not later than June 2009. This 

will keep data current, improve data quality and 

consistency, and improve the reliability of the 

information used in decision-making and 

performance tracking and evaluation...............................67

Recommendation 4-15 MMS should evaluate the performance measures 

used by other entities. In particular, MMS should 

review the IRS “Balanced Measures” performance 

system. ............................................................................67

Recommendation 4-16 MMS should place a high priority on improving the 

processes and procedures associated with 

calculating interest on royalty payments. These 

issues should be addressed as soon as possible............69

Recommendation 4-17 MMS should eliminate duplicate data by 

consolidating several databases, including 

databases for the Compliance Information 

Management system (CIM), the Performance 

Tracking Tool (PTT), and the Government 

Performance and Results Act (GPRA). ...........................69

Recommendation 4-18 MMS should implement automatic updates by 

integrating the Compliance Information 

Management System (CIM) and the Performance 

Tracking Tool information system (PTT) rather than 

depending on manual data entry. ....................................70

Recommendation 4-19 MMS should define and use consistent procedures 

for all compliance reviews. ..............................................70

Recommendation 4-20 MMS should seek consult with the Inspector 

General on the draft procedures in the updated 

manuals...........................................................................70

Recommendation 4-21 MMS should require electronic submission of all 

offshore run tickets for input to Liquid Verification 

System and Gas Verification System. .............................70

Recommendation 4-22 BLM should evaluate implementing equivalent 

systems onshore for electronic submission of run 

tickets. BLM can accept electronic run tickets now, 

but the many small operators onshore may render a 

requirement for electronic submission impractical. 
 Appendix 1

151 

Adapting LVS and GVS to onshore production may 

supplement existing systems. ......................................... 70

Recommendation 4-23 BLM should integrate business process 

improvements and information management 

planning via improved coordination with MMS. ............... 70

Recommendation 4-24 MMS should finalize the “technical changes” Indian 

oil valuation rule immediately, and forward it to the 

Office of Management and Budget. The rulemaking 

process to change to Indian oil valuation 

methodology to provide greater certainty for all 

parties and address a long standing concern of 

Indian tribes should commence as soon as possible 

once the proposed rule has been forwarded to 

OMB................................................................................ 72

Recommendation 4-25 By June FY 2008 MMS should propose an Indian oil 

rule to change the methodology for valuing Indian 

oil from a posted price method to a market index 

methodology, as was done for production from 

Federal oil and Indian gas leases.................................... 73

Recommendation 4-26 By the end of FY 2008, MMS should publish 

proposed revisions to the gas valuation regulations 

and guidelines to address the cost-bundling issue, 

and to facilitate the calculation of gas transportation 

and gas processing deductions. MMS should 

consider incorporating into the proposed revisions 

the use of market indices for gas valuation in the 

context of non-arm’s length transactions in lieu of 

the benchmarks that have been employed since 

1988. ............................................................................... 73

Recommendation 4-27 By the end of FY 2008 MMS should review, and (as 

appropriate) revise and implement the regulations 

and guidance for calculating prices used in 

checking royalty compliance for solid minerals, with 

particular attention to non-arms-length transactions. ...... 73

Recommendation 5-1 BLM should collaborate with BIA, MMS, and the 

Office of Indian Energy and Economic Development 

to ensure there is an understanding on the issuance 

of “permits” and the role the respective agencies 

play, in order that Trust responsibilities are met. 

Additionally, a renewed agreement on joint 

inspections should be initiated. ....................................... 81

Recommendation 5-2 MMS and BLM should secure appropriate access to 

the Indian lease system. This is necessary to 
Report to the Royalty Policy Committee 

152 

prevent delays in approving lease activity and to 

ensure MMS has the correct information for 

managing revenue from Indian leases.............................84

Recommendation 5-3 DOI should work to reconnect the systems 

containing Indian data after appropriate security 

measures are in place. The Indian Automated Fluid 

Mineral Support System (IAFMSS) and the Indian 

Well Information System (IWIS) should be restarted 

appropriate access to IAFMSS for MMS and Indian 

contract inspectors should be provided. In addition, 

once appropriate security measures are in place, 

MMS should provide BLM users with the ability to 

query these systems by any parameter (e.g., lease 

number). ..........................................................................84

Recommendation 5-4 MMS should revise the database management 

software password requirements to make 

passwords good for 90 days rather than 60, and to 

remind users to change passwords before the 90 

days expire. .....................................................................84

Recommendation 5-5 Until more integrated processes can be developed, 

BLM should issue guidance to field personnel, to 

address known coordination problems. One 

example is the errors introduced when BLM 

manually sends MRM “first production” notices...............84

Recommendation 5-6 BLM should report to MMS on a quarterly basis for 

each mine, Indian and Federal, whether production 

has or has not been verified for that quarter....................84

Recommendation 5-7 DOI should establish standards for geospatial data 

regarding Indian leases that facilitate management 

of Indian resources while still meeting DOI’s Trust 

responsibilities.................................................................84

Recommendation 5-8 DOI should seek a review of the decision classifying 

boundary information for Indian allotments, leases, 

and agreements as Trust information. Any solution 

should satisfy Trust responsibilities and allow the 

DOI bureaus to carry out their management 

responsibilities efficiently. ................................................85

Recommendation 5-9 By June 2008, the Department should establish a 

Coordinating Committee with representatives from 

the senior management level in MMS, BLM, and 

BIA. Bureau representatives should have the 

authority to ensure decisions and recommendations 

are implemented in their respective bureaus...................85
 Appendix 1

153 

Recommendation 5-10 To support the Departmental Coordinating 

Committee described in Recommendation 5-9, each 

Bureau should establish procedures for 

strengthening intra-Bureau coordination. ........................ 86

Recommendation 6-1 MMS should establish an RIK Subcommittee to the 

Royalty Policy Committee (RPC). Issues that 

should be addressed include performance 

benchmarks, volume verification and market 

positioning..................................................................... 108

Recommendation 6-2 Providing appropriate and visible oversight for the 

program is a preemptive measure to address 

concerns about MMS operations. The new 

Subcommittee recommended above should conduct 

periodic reviews of the RIK program, both 

comprehensive and targeted, according to a fixed 

schedule. These reviews should result in specific 

recommendations for consideration by the RPC and 

as appropriate their transmittal to the Department. ....... 108

Recommendation 6-3 MMS should issue new or revised regulations 

and/or guidelines that would offer MMS, the public, 

and potential RIK purchasers or providers of 

transportation/processing services additional 

certainty concerning program administration. 

Additional certainty for these parties may assist in 

providing greater transparency for MMS business 

practices........................................................................ 108

Recommendation 6-4 MMS should compile and publish a guidebook of 

RIK procedures and policies, which should be made 

available to the public. This will reduce uncertainty 

regarding MMS procedures by offering a definitive 

source of information for RIK staff, affected industry 

personnel and other stakeholders................................. 108

Recommendation 6-5 MMS should undertake a concerted effort to provide 

outreach to States, Industry, and the public to assist 

in communicating RIK’s inner workings (e.g., 

seminar courses, workshops). This will clarify 

MMS’s role in administering royalties, and facilitate 

understanding and confidence for clients and 

partners of MMS............................................................ 108

Recommendation 6-6 MMS should explore the feasibility of establishing a 

“trust fund” within Treasury, the interest from which 

could be used to fund DOI activities, particularly 

those related to royalty management. Priority for 

funding should be given to activities required for 
Report to the Royalty Policy Committee 

154 

addressing the Subcommittee’s recommendations 

related to production accountability, audit, 

collections and enforcement (as noted above, RIK 

administrative costs are already funded by a share 

of RIK revenues). Legislation would be required to 

establish this fund. If this option is pursued, it is 

essential that these funds should be available 

without subsequent appropriation. It is important to 

“hold harmless” the base budgets for fundsupported activities to ensure net increases in 

support for them; otherwise there will be no net 

increase in program support..........................................108

Recommendation 6-7 By the end of FY 2008, MMS should clarify the 

extent to which Federal Acquisition Regulations 

(FAR) apply. If the FAR is found to apply, MMS 

should place a high priority on identifying 

contracting arrangements least likely to impair the 

program. ........................................................................114

Recommendation 6-8 MMS should explicitly recognize (e.g., in a charter 

or mission statement) that the RIK program is a 

commercial activity, and should treat the program 

accordingly. Consistent with this, MMS should seek 

to operate the program as close to how a private 

business would operate as possible, including 

establishing a sole objective to maximize net 

revenue within risk parameters established by 

program executives. A business model should 

apply to all aspects of the RIK program, including 

identifying potential properties where royalties might 

be taken in kind, pre-sale bidder qualification 

procedures, the sales themselves, and performance 

measurement.................................................................114

Recommendation 6-9 MMS should conduct a cost-benefit analysis of 

various governance arrangements for the RIK 

program to determine the organizational structure 

that will best and most cost effectively align 

incentives with programmatic goals and provide the 

institutional flexibility necessary to function in a 

commercial environment. Alternatives should 

include but not be limited to: the status quo; 

contracting out marketing functions; an FFRDC 

model or some variation thereof; and the status quo 

with some legislative exemptions from the FAR and 

personnel regulations. Any such arrangement 

should maintain institutional oversight by the 
 Appendix 1

155 

Department of the Interior and MMS, and also 

provide the additional oversight mechanism 

suggested in Recommendation 6-10............................. 114

Recommendation 6-10 If an alternative governance structure is established 

for the RIK program, an independent oversight 

board should be established. This board should 

include experts in marketing and management, and 

representatives of the public interest. The board 

should periodically evaluate the RIK program, to 

assess balance sheets and other “business-like” 

performance measures. The board should have the 

ability to recommend program expansion or 

contraction (onshore or offshore and by commodity) 

based on market trends and other concerns, and to 

address specific concerns such as the small refiner 

program. Furthermore, the Secretary could 

respond to the Board’s recommendations with onthe-record findings. ....................................................... 115

Recommendation 6-11 MMS should discontinue its onshore RIK crude oil 

program until it can be determined to be in the best 

financial interest of the government. While MMS 

has realized sizable revenue gains relative to RIK 

on crude oil sales in the past, there has been no 

systematic evaluation of onshore crude oil costs. 

Any decision to restart the onshore program should 

consider administrative cost implications. This will 

ensure that the government is collecting onshore 

royalties in the most beneficial manner. ........................ 121

Recommendation 6-12 MMS should prepare a decision document for RIK 

program executives, evaluating the conditions 

under which onshore oil sales should be 

undertaken. This effort should be completed prior 

to the next scheduled RIK crude oil sale. The 

document should include an assessment of the 

factors that would facilitate the participation of 

states and potential purchasers in a wider onshore 

RIK program, allowing increased marketing options 

for the onshore RIK program......................................... 122

Recommendation 6-13 The Subcommittee finds no strong justification for 

the small refiners’ set-aside, and recommends 

discontinuing the program as soon as possible. 

The program should not be resumed until the 

Secretary makes a new determination of need. ............ 122
Report to the Royalty Policy Committee 

156 

Recommendation 6-14 MMS should amend the Memorandum of 

Understanding with the Department of Energy to 

include reimbursement for administrative and 

contract costs incurred in transferring RIK oil to the 

Strategic Petroleum Reserve. Additional 

reimbursement should not result in a reduction in 

MMS’s base budget.......................................................122

Recommendation 6-15 MMS should recognize, and annually report on, the 

opportunity costs associated with transfers of oil to 

the SPR using the performance measures 

established for the RIK program....................................122

Recommendation 6-16 MMS should immediately take steps to ensure that 

the RIK program has sufficient personnel depth to 

maintain an expanding trading operation and to 

ensure that RIK personnel have a solid 

understanding of existing ethics guidelines. MMS 

should develop and implement a Personnel Plan by 

June 2008 to strengthen those areas requiring 

additional personnel with industry expertise. .................125

Recommendation 6-17 Given the documented capability of the RIK 

workforce, MMS should consider incorporating 

these employees into any alternative institutional 

structure created............................................................125

Recommendation 6-18 MMS should streamline the process for announcing 

and filling vacancies. Priority should be given to 

filling the asset manager vacancies for oil and gas. ......125

Recommendation 6-19 MMS should secure dedicated legal support for the 

RIK program, ideally stationed within the program in 

Denver, Colorado, or otherwise in the Regional or 

Washington, DC Office of the Solicitor. Securing 

dedicated legal support should improve the ability of 

RIK personnel to interact with their industry 

counterparts and with industry lawyers..........................125

Recommendation 6-20 MMS should ensure that RIK personnel maintain 

their market expertise. This will allow the program 

to make the most of marketing opportunities that 

can be developed. Allowing the RIK program 

personnel to remain actively involved in the market 

should allow the program to continue performing 

well, even as changes in infrastructure and demand 

impact the marketing landscape....................................125

Recommendation 6-21 MMS should report monthly performance measures, 

in addition to the current annual measures. Monthly 
 Appendix 1

157 

performance metrics will allow a finer and more 

accurate view of exceptional periods (of high or low 

performance), and provide insight into cyclical 

performance patterns (e.g., demand for natural gas 

in the Northeast during the winter). ............................... 127

Recommendation 6-22 MMS should develop a presentation of the 

benchmarking process that makes it easier for 

outsiders to quickly understand the basics of how 

the benchmarks are assembled and applied................. 128

Recommendation 6-23 MMS should carry the range-of-values methodology 

associated with benchmarks through to the 

reporting of performance measures based on those 

benchmarks................................................................... 128

Recommendation 6-24 The RIK program should produce a document 

explaining how performance data can be used to 

improve marketing strategies based on predictable 

fluctuations in the market (e.g., determining which 

indices produce the best contracts at different times 

of the year).................................................................... 128

Recommendation 6-25 Performance measure calculations should be 

centralized in the Economic Analysis Office 

(including cost accounting, administrative savings, 

and time-value of money/interest savings).................... 128

Recommendation 6-26 MMS should develop a strategy for using data 

compiled from oil and gas sales over the past three 

years to direct marketing efforts, including 

identifying which type of companies tend to bid on 

which products. Using past sales data to target 

future marketing efforts can potentially reduce the 

effort and cost involved in finding interested 

customers for in-kind royalties....................................... 128

Recommendation 6-27 MMS should evaluate whether performance 

measures could be enhanced following standard 

business practices (e.g., balance sheet, cash flow 

statement, financial ratios). ........................................... 128

Recommendation 6-28 MMS should publish a program cost comparison, 

comparing the RIK program to other public- and 

private-sector efforts toward marketing in-kind 

royalties (e.g., the Province of Alberta, Texas 

General Land Office, industry). ..................................... 128

Recommendation 6-29 MMS should codify the currently ad hoc approach of 

considering un-solicited bids in auctions. This will 
Report to the Royalty Policy Committee 

158 

provide certainty for bidders and the RIK program 

about the auction procedures to be followed. ................131

Recommendation 6-30 MMS should implement a systematic and detailed 

procedure for handling bid documents (including 

both bids and notices of acceptance) to ensure 

security and integrity. In particular, the procedures 

should address “refreshing.” In that regard, the 

procedures and associated documents used to 

announce sales and associated procedures should 

explicitly lay out the procedures for determining 

when and if additional bidding rounds will be held.........131

Recommendation 6-31 MMS should evaluate the benefits and costs of 

alternative auction types, including changes in 

expected revenues, costs, and complexity of 

administration. MMS should develop a pilot 

program to test alternatives that may improve net 

returns. ..........................................................................131

Recommendation 7-1 The Department of the Interior should continue its 

efforts to pursue voluntary royalty payment 

agreements with holders of the 1998 and 1999 

leases without price thresholds......................................138

Recommendation 7-2 Congress and the Secretary of the Interior should 

continue to explore legislative options, which could 

address the loss of royalties without violating 

legitimately signed contracts..........................................138

Recommendation 7-3 MMS and the Office of the Solicitor should 

coordinate to develop new procedures and 

guidelines, or revise any existing procedures and 

guidelines to ensure that the Secretary’s February 

15, 2007 memorandum is effectively implemented. 

The revised procedures and guidelines should 

clearly delineate what constitutes a thorough 

review; how MMS will coordinate its clearance 

procedures internally, how the Office of the Solicitor 

will coordinate with MMS. The new procedures and 

guidelines should be reviewed by the Inspector 

General, and they should be put in place within 60 

days of the submittal of the Subcommittee’s report 

to the Department. MMS and the Office of the 

Solicitor should consider establishing a single point 

of contact to assist in coordinating the reviews..............138

Recommendation 7-4 MMS and the Department should establish periodic, 

comprehensive and formally structured reviews of 

the procedures and guidelines to ensure they are 
 Appendix 1

159 

being implemented correctly and successfully. Any 

necessary remedial actions should be defined and 

implemented promptly................................................... 138

Recommendation 7-5 Effective implementation of the procedures and 

guidelines should be incorporated in the 

performance standards for key staff, supervisors, 

and managers in MMS and the Office of the 

Solicitor. ........................................................................ 138

Recommendation 7-6 In addition to the standard training provided to all 

Departmental employees, the Department and 

MMS should require additional annual ethics 

training for staff involved in royalty management 

(this includes staff in the Office of the Solicitor). 

This training should include guidance on publicprivate-sector interactions, use of official and/or 

proprietary data, and prohibitions on the use of 

public office for private gain........................................... 138
Report to the Royalty Policy Committee 

160 

Appendix 2 Risks Facing the RIK Program 

Table 27 Risks facing the RIK Program 

Risk Description 

Fair market value risk Market price and basis volatility create risk exposure that RIK 

performance could be below the FMV benchmark due to the difference 

between the pricing mix used by RIK for selling the commodity and the 

pricing mix used in the FMV benchmark. 

Credit Risk 1) Default in payment, and (2) late payment. 

Operative Risk The risk of direct or indirect loss resulting from inadequate or failed 

planning, internal processes, people, or systems. 

Production (volume) 

risk 

The risk of not meeting contractual obligations due to variances in 

production volume 

Transportation cost 

risk 

The risk of not having access to transportation capacity. Another 

aspect of transportation risk is that producers may be able to obtain 

cheaper transportation costs than RIK 

Transportation 

imbalance risk 

The risk of losing contractual volume if imbalances are not resolved in 

a timely manner. Additionally, there can be a significant price risk 

depending on the pipeline’s provisions for imbalance resolution and for 

penalties on excessive imbalances. 

Processing risk Processing risk represents the exposure that RIK pays higher than 

market costs for the natural gas processing contracts that are 

generally available to other producers and commercial entities 

Oversight risk The risk that the RIK program’s decisions, processes, marketing 

strategies, performance, and procedures would not meet the 

expectations of its external stakeholders, including the statutory 

authorities to take royalties in kind. 

Source: Minerals Management Service, Royalty in Kind Risk Management Policy, August, 

2005. 
 Appendix 3

161 

Appendix 3 Price Trends for Oil and Natural Gas, 1990-2006. 

$0.00

$2.00

$4.00

$6.00

$8.00

$10.00

$12.00

$14.00

$16.00

1990

1991

1992

1993

1994

19951996

1997

1998

1999

20002001

2002

2003

2004

2005

2006

Natural Gas Price ($/mmBTU) 

-$80

-$60

-$40

-$20

$0

$20

$40

$60

$80

 Oil Price ($/bbl)

Natural Gas Price Crude Oil Price

Figure 9 U.S. Natural Gas Wellhead Price; Federal Offshore U.S. Gulf Coast 

Crude Oil Wellhead Acquisition Price by First Purchasers 

(Source: EIA's Petroleum and Natural Gas Navigators). 
Report to the Royalty Policy Committee 

162 

Appendix 4 RIK Volume Data, FY 2004-FY2010 (historical and estimated) Crude Oil Volumes (bbl/day) 

Historic Sales Volumes Estimated Sales Volumes

Year 2004 2005 2006 2007 2008 2009 2010 Small Refiner Program (GOM) 35,361 34,400 37,225 50,000 50,000 50,000 50,000 Small Refiner Program (Pacific) 8,388 7,586 Unrestricted Program (Pacific) 6,642 Unrestricted Program (GOM) 2,296 27,615 76,343 50,000 30,000 100,000 100,000 Wyoming 1,103 1,876 1,824 0 0 0 0 Strategic Petroleum Reserve (exchanged to DOE) 106,352 70,161 0 50,000 70,000 Total 153,410 141,638 122,034 150,000 150,000 150,000 150,000 Small Refiner Program (Total) 43,749 41,986 37,225 50,000 50,000 50,000 50,000 Source: MMS data. 

Natural Gas Volumes (mmBTU/day) 

Historic Sales Volumes Estimated Sales Volumes

Year 2004 2005 2006 2007 2008 2009 2010 Offshore Gas 700,000 750,000 800,000 900,000 Onshore Gas 170,000 200,000 250,000 300,000 Total 509,746 527,907 548,248 870,000 950,000 1,050,000 1,200,000Source: MMS data. 
 Appendix 5

163 

Appendix 5 Credit Scoring Models 

The primary credit scoring model used by the MMS RIK Mid Office (MMO) is the 

RMG Financial Credit Scoring Model, an Excel-based spreadsheet that incorporates 

key financial information148 from a company’s audited financial statements into an 

objective numeric scoring process. The Subcommittee has not evaluated this 

model, but simply notes that it is an “off-the-shelf” application that appears to be 

widely used in the private sector (e.g., Exelon Corp, New York Power Authority). 

The RIK Mid Office assigns an unsecured credit limit based first on 10% of a 

company’s tangible net worth, which is reduced by weights based on key financial 

ratios, earnings, cash flows, and profitability. This lower limit is referred to as the 

“credit security threshold” and it forms the basis for establishing and approving a 

specific line of unsecured credit. 

A secondary scoring model obtained from AEP employs objective financial ratio and 

performance data, but provides a more subjective evaluation outcome. The model 

uses weighting factors in the areas of short-term liquidity, debt management, asset 

management, and profitability and provides an overall weighted score using four 

ratings: poor, below average, above average, and good. 

Credit Exposure Calculation Procedures 

Exposure Period 

The RIK Mid Office currently calculates credit exposure for four RIK programs – 

Wyoming Gas, Small Refiner Gulf of Mexico, Gulf of Mexico and Pacific OCS 

Unrestricted Crude Oil, and Gulf Natural Gas. The RIK Mid Office Mineral Revenue 

Specialist computes 60-day sales values and outstanding credit exposures at least 

monthly for each RIK purchaser under the four programs. The 60-day period is 

significant because it represents the maximum credit exposure MMS would face if a 

counterparty defaulted on payment. Because payment is due towards the end of 

month following delivery, up to 60 days of production may be delivered before a 

default occurs and mitigating actions can be taken. For exchange programs such as 

filling the Strategic Petroleum Reserve, the exposure is calculated on a 30-day 

basis, because the product is re-delivered to MMS within the 30-day delivery period. 

The credit exposure for the 60-day period is displayed in a report using the 

estimated sales value for the previous “delivered” production month, plus the 

estimated sales value for the undelivered forward month, less the available credit 

(unsecured plus secured). In other words, the 60-day period represents a “first 

month” and “second month.” As one would expect, estimates for the delivered 

month are more accurate than for the second month, because second month data 

are projected, and therefore less reliable, and subject to change. 

 

148 The credit scoring model uses information from a company’s balance sheet, income statement, 

and statement of cash flows, including current assets and liabilities, long-term assets and liabilities, 

stock ownership, revenue, cash flow, earnings, and interest payments. 
Report to the Royalty Policy Committee 

164 

In actuality, credit exposure follows a sinusoidal cycle which varies between 25 days 

exposure and around 55 days exposure.149 For the first month of a contract, the 

exposure starts at zero and increases daily along with daily deliveries until payment 

is received approximately 55 days later. When that payment is received, the 

exposure drops to 25 days because that amount has been delivered and billing and 

payment has not yet occurred for that time period. 

When payment is received for the first month, that exposure expires and a new cycle 

begins. Therefore, the cutoff date for determining the first month and second month 

for exposure computation purposes is the 25th of the month. For example, consider 

a contract beginning in January; for the period January 1 through February 24, 

January would be the first exposure month and February the second exposure 

month. On February 25, February would become the first month and March the 

second month, and so on. 

Pricing and Volumes 

The RIK Mid Office uses “best available” prices and volumes when computing credit 

exposure. The Mid Office uses actual prices, if available, or estimated prices 

otherwise. In the above example, if the exposure calculation was performed at the 

end of the first month, actual prices would be available for most of January, the first 

month. Those actual prices would be used for the entire month’s calculation. Prices 

for February would be estimated using one of several methods: (1) first month 

prices, (2) projected futures prices, (3) most current daily market prices, or (4) a 

combination of the above. 

For gas calculations, the RIK Mid Office computes exposure shortly into the second 

month when the first-of-month index price for the second month is obtainable for the 

base load portion of the exposure. For the swing volumes, the second month 

exposure is estimated using the first month’s actual daily prices. For oil calculations, 

the Mid Office uses first month actual prices for both months’ calculations. 

In special situations where an excess exposure exists or a significant amount of 

surety would be required to eliminate the excess exposure, the Mid Office makes an 

independent determination regarding the pricing method that would be the most 

accurate and/or applicable to the particular situation. For example, if on February 

10, an excess exposure of $1 million arises, the RIK Mid Office may use the latest 

prices obtainable for February production, or an average of the latest cash prices 

and the future prompt month price to compute the second month exposure. During 

periods of severe price spikes, it may be appropriate to use an average of prices 

over a certain time period to arrive at a fair and justifiable price. 

Again, the Mid Office strives to use the best volumes available. Volumes used by 

the Mid Office for exposure calculations are either contract awarded volumes, 

nominated volumes, or actual delivered volumes from a previous month (when 

available). Typically for oil, nominated volumes represent the best, most recent 

 

149 A sinusoidal cycle is a wavelike function of time (t). 
 Appendix 5

165 

delivery volume estimates. For gas, nominations are not performed by the RIK 

program, so most recent invoiced volumes are used in the calculation. 

The specialist obtains both prices and volumes (except contract volumes) using 

Excel spreadsheets under either the RIK oil or RIK gas directories, as the case may 

be. The pricing and volume spreadsheets are maintained by the MMS Back Office 

personnel, with the exception of oil pricing, which is maintained by the MMS 

Economic Analysis office on a “Pricing Master.” If forward prices are deemed 

appropriate for exposure calculations, those prices are normally the NYMEX front 

month or strip available from public sources. 

Contract volumes are obtained from the transaction confirmations. Pricing formulae 

and bid amounts are also obtained from the transaction confirmations to calculate 

exposure. To anticipate imminent credit exposures, the specialist and the RIK Mid 

Office monitor price movements for oil and gas, both in the cash markets and the 

futures markets, by surveying Oil Daily and Gas Daily publications and monitoring 

commodities pricing websites such as INO.com and Bloomberg’s. 

Expiring/Commencing Contracts 

At several times during the year, the RIK program solicits bids for new sales 

contracts. As delivery commences under the new contracts, it creates a “split 

period” credit exposure calculation. At the end of the month that the existing 

contracts expire, credit exposure schedules must be prepared for the final thirty days 

of delivery and a separate schedule prepared for the first thirty days of new contract 

delivery. For purchasers continuing with a new contract, the results of these two 

schedules are added to determine the total sixty day exposure for that purchaser. 

Excess Exposure and Mitigating Processes 

Upon completion, the specialist submits the credit exposure calculation and 

available credit summaries for each purchaser under each RIK program to the RIK 

Mid Office for review. This monthly review primarily focuses on ensuring 

reasonableness of exposure amounts, accuracy of pricing and volumes, and 

recognition of any outstanding credit exposures. (RIK-MO-3) 

If the total amount of credit is exceeded by the 60-day value calculation, an 

outstanding credit exposure results. In situations where an unacceptable credit 

exposure arises, the RIK Mid Office will: (1) re-evaluate the prices and volumes used 

for the exposure computation to ensure accuracy and relevance (for example, revise 

the estimates for the forward month using more current information, or look for 

calculation errors), (2) re-examine the amount of credit issued, and (3) review when 

a surety increase was last received, before deciding whether additional surety is 

required. The Mid Office may also direct the specialist to perform the above tasks. 

If there is reason to believe that a deficiency in available credit is a result of 

temporary market price spikes, the Mid Office staff will monitor the situation in the 

near-term (less than 2 months). If the situation remains, additional financial 

assurance will be sought. 
Report to the Royalty Policy Committee 

166 

The number of current RIK qualified bidders, categorized by investment rating, is 

shown in Table 28. This information indicates some level of diversity in the qualified 

bidders. 

Table 28 Qualified Bidders for RIK Auctions Companies 

Gas 

Companies 

Oil 

Companies 

A rating 17 9 

BBB rating 15 7 

Sub-investment grade 1 2 

Non-rated 8 13 

Total 41 31 

source: MMS