United States Government Accountability Office

GAO Report to Congressional Requesters

OIL AND GAS 

ROYALTIES 

The Federal System 

for Collecting Oil and 

Gas Revenues Needs 

Comprehensive 

Reassessment 

September 2008 

 

GAO-08-691 
What GAO Found

United States Government Accountability Office

Why GAO Did This Study

Highlights

Accountability Integrity Reliability

September 2008

OIL AND GAS ROYALTIES

The Federal System for Collecting Oil and Gas

Revenues Needs Comprehensive Reassessment 

Highlights of GAO-08-691, a report to 

congressional requesters 

In fiscal year 2007, domestic and

foreign companies received over $75

billion from the sale of oil and gas 

produced from federal lands and 

waters, according to the Department

of the Interior (Interior), and these 

companies paid the federal 

government about $9 billion in 

royalties for this oil and gas 

development. The government also 

collects other revenues in rents, 

taxes, and other fees, and the sum of 

all revenues received is referred to as

the “government take.” The terms and 

conditions under which the 

government collects these revenues

are referred to as the “oil and gas

fiscal system.” This report (1) 

evaluates government take and the

attractiveness for investors of the 

federal oil and gas fiscal system, (2) 

evaluates how the absence of

flexibility in this system has led to 

large foregone revenues from oil and

gas production on federal lands and 

waters, and (3) assesses what Interior

has done to monitor the performance 

and appropriateness of the federal oil 

and gas fiscal system. To address

these issues, we reviewed expert

studies and interviewed government 

and industry officials. 

In addition to having a low government take, the deep water Gulf of Mexico 

and other U.S. regions are attractive targets for investment because they have

large remaining oil and gas reserves and the U.S. is generally a good place to 

do business compared to many other countries with comparable oil and gas 

resources. Multiple studies completed as early as 1994 and as recently as June

2007 indicate that the U.S. government take in the Gulf of Mexico is lower 

than that of most other fiscal systems. For example, data GAO evaluated from 

a June 2007 industry consulting firm report indicated that the government 

take in the deep water U.S. Gulf of Mexico ranked 93rd lowest of 104 oil and 

gas fiscal systems evaluated. Generally, other measures indicate that the 

United States is an attractive target for oil and gas investment. 

 

The lack of price flexibility in royalty rates—automatic adjustment of these 

rates to changes in oil and gas prices or other market conditions—and the 

inability to change fiscal terms on existing leases have put pressure on 

Interior and the Congress to change royalty rates in the past on an ad hoc 

basis with consequences that could amount to billions of dollars of foregone 

revenue. For example, royalty relief granted on leases issued in the deep 

water areas of the Gulf of Mexico between 1996 and 2000—a period when oil 

and gas prices and industry profits were much lower than they are today—

could cost the federal government between $21 billion and $53 billion, 

depending on the outcome of ongoing litigation challenging the authority of 

Interior to place price thresholds that would remove the royalty relief offered 

on certain leases. Further, royalty rate increases in 2007 are expected to 

generate modest increases in federal revenues from future leases offered in 

the Gulf of Mexico. However, in choosing to increase royalty rates, Interior 

did not evaluate the entire oil and gas fiscal system to determine whether or 

not these increases strike the proper balance between the attractiveness of 

federal leases for investment and appropriate returns to the federal 

government for oil and gas resources. 

 

Interior does not routinely evaluate the federal oil and gas fiscal system,

monitor what other governments or resource owners are receiving for their 

energy resources, or evaluate and compare the attractiveness of federal lands 

and waters for oil and gas investment with that of other oil and gas regions. As 

a result, Interior cannot assess whether or not there is a proper balance 

between the attractiveness of federal leases for investment and appropriate 

returns to the federal government for oil and gas resources. Specifically, 

Interior does not have procedures in place for evaluating the ranking of (1) 

the federal oil and gas fiscal system or (2) industry rates of return on federal 

leases against other resource owners. Interior also does not have the authority 

to alter tax components of the oil and gas fiscal system. All these factors are 

essential to inform decisions about whether or how to alter the federal oil and 

gas fiscal system in response to changing market conditions. To view the full product, including the scope 

and methodology, click on GAO-08-691. 

For more information, contact Frank Rusco at 

(202) 512-3841 or ruscof@gao.gov. 

What GAO Recommends

Interior did not fully agree with the

recommendations in our draft report, 

stating that an ongoing Interior study 

covered many of the issues we

recommended they study. GAO 

maintains that a more comprehensive

review is necessary and suggests that 

Congress consider directing Interior to 

(1) convene an independent panel to

conduct such a review of the federal oil 

and gas fiscal system, and (2) establish 

procedures to periodically evaluate the

state of the fiscal system.
Contents 

Letter 1

Results in Brief 5

Background 8

The Gulf of Mexico Has a Relatively Low U.S. Government Take 

and the United States Is an Attractive Place to Invest in Oil and 

Gas Development 11 

The Inflexibility of Royalty Rates to Changing Oil and Gas Prices 

Has Cost the Federal Government Billions of Dollars in 

Foregone Revenues 16 

Interior Does Not Have a System in Place to Evaluate Whether the 

Federal Fiscal System Is in Need of Reassessment 20 

Conclusions 22

Matter for Congressional Consideration 23 

Agency Comments and Our Evaluation 23 

Appendix I Scope and Methodology 26 

Appendix II Companies Receiving Royalty Relief In The Gulf 

Of Mexico 28 

Appendix III Comments from Department of Interior 30 

GAO Comments 35 

Appendix IV GAO Contact and Staff Acknowledgments 40 

Tables 

Table 1: Summary of Four 2007 Studies Comparing Government 

Take Percentages 11 

Table 2: Amounts of Royalty Relief Received by Companies 28 

Page i GAO-08-691 Oil and Gas Royalties 
Abbreviations 

BLM Bureau of Land Management 

DWRRA Deep Water Royalty Relief Act of 1995 

EIA Energy Information Administration 

FLPMA Federal Land Policy and Management Act 

FRS Financial Reporting System 

Interior Department of the Interior 

MMS Minerals and Management Service 

OCSLA Outer Continental Shelf Lands Act 

S&P Standard & Poor’s 

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Page ii GAO-08-691 Oil and Gas Royalties 
United States Government Accountability Office

Washington, DC 20548 

September 3, 2008 

The Honorable Jeff Bingaman 

Chairman, Committee on Energy and Natural Resources 

United States Senate 

The Honorable Nick J. Rahall II 

Chairman, Committee on Natural Resources 

House of Representatives 

The Honorable Steve Pearce 

Ranking Member, Subcommittee on Energy and Mineral Resources 

Committee on Natural Resources 

House of Representatives 

The Honorable Mary L. Landrieu 

United States Senate 

In fiscal year 2007, domestic and foreign companies received over $75 

billion from the sale of oil and gas produced from federal lands and 

waters, according to the Department of the Interior’s (Interior) Minerals 

Management Service (MMS). The agency further reported that these 

companies paid the federal government about $9 billion in royalties for 

such oil and gas development. Clearly, such large and financially 

significant resources must be carefully developed and managed so that the 

nation’s rising energy needs are met while at the same time the American 

people are assured of receiving a fair return on publicly owned resources. 

In May 2007, we reported that, based on studies by industry experts, the 

amount of money that the U.S. government receives from production of oil 

and gas on federal lands and waters—the so-called “government take”—

was among the lowest in the world. The government take that accrues to 

any government resource owner is largely determined by the government’s 

oil and gas fiscal system—the precise mix and total amount of payments 

made to the government for the rights to explore, develop, and sell oil and

gas resources. We also noted that several factors needed to be considered

to determine whether adjustments to an oil and gas fiscal system are 

warranted, including the size and availability of the oil and gas resources 

in place; the costs of finding and developing these resources, including 

Page 1 GAO-08-691 Oil and Gas Royalties 
labor costs and the costs of complying with environmental regulations; 

and the stability of both the oil and gas fiscal system and the country in 

general.1

 Conceptually, a fair government take would strike a balance 

between encouraging private companies to invest in the development of 

oil and gas resources on federal lands and waters while maintaining the 

public’s interest in collecting the appropriate level of revenues from the 

sale of the public’s resources. 

Governments and companies negotiate the exploration and development of

oil and gas resources under terms of leases or contracts granted by 

governments. The terms and conditions of such arrangements are established 

by law and policy, or are negotiated on a case-by-case basis. An important 

aspect of these arrangements is the oil and gas fiscal system, which defines all

applicable payments from the companies to the government resource

owners.

2 Oil and gas fiscal systems vary widely across different resource 

owners, reflecting differences in the mix and weight of the various payments.

U.S. federal oil and gas leases operate under a system in which the

government transfers title to the oil and gas produced to a company for a 

period of time, generally in exchange for a lump-sum payment called a bonus

bid. The company is then typically subject to the payment of rental rates,

royalties, and taxes for any oil and gas that is eventually produced on the 

lease. In other oil and gas fiscal systems, such as “production sharing” or

“profit sharing” systems, the host country and production company enter into

a contract to apportion the production or profits between them rather than or

in addition to royalty payments. 

In recent years, and in response to increasing industry profits and other 

changing market conditions, many countries have re-evaluated or are reevaluating their oil and gas fiscal systems. A number of countries have 

significantly increased their overall government take while others—

typically those with marginal or less certain levels of oil and gas 

resources—have reduced their government take. According to Wood 

Mackenzie, an energy consulting firm that recently performed a 

 1

GAO, Oil and Gas Royalties: A Comparison of the Share of Revenue Received from Oil 

and Gas Production by the Federal Government and Other Resource Owners, 

GAO-07-676R (Washington, D.C.: May 1, 2007). 

2

In general, each country has at least one oil and gas fiscal system. Certain countries—for

example, Canada and the United States—have a number of different oil and gas fiscal 

systems: a federal system that governs resource development on federal lands and other 

systems that govern resource development on provincial lands in Canada and state lands in

the United States. 

Page 2 GAO-08-691 Oil and Gas Royalties 
comprehensive study of government take and other measures that 

determine the attractiveness of different countries to oil and gas investors, 

the most prominent trend in changing oil and gas fiscal systems has been 

the imposition of windfall profits taxes or other mechanisms to increase 

the resource owners’ shares of oil and gas revenues from existing projects.

Wood Mackenzie estimates that these changes will ultimately result in 

these countries’ collecting additional oil and gas revenues of between $118 

billion and $400 billion, depending on future oil and gas prices.3

 For 

example, the state of Alaska recently increased its government take and 

changed the terms of contracts to give Alaska larger shares of revenues as

oil and gas prices increase. A second trend in changing oil and gas fiscal 

systems has been an increase in governmental control of resources. For 

example, Algeria, Russia, and Venezuela have rich resource reserves and 

have increased the state control over these resources, while increasing 

their government takes. Other trends include increasing variation of fiscal 

terms across and within countries to reflect differences in the value of the 

resources and other factors that affect the attractiveness of these 

resources to investors. For example, Papua New Guinea and Vietnam are 

offering terms to encourage production that reflect these countries’ status 

as frontier areas for exploration, while Norway has provided incentives for 

exploration and continued production on fields with declining production. 

A considerable body of legislation governs Interior’s authority and 

obligations to manage resources on federal lands and within federal 

waters. For example, the Outer Continental Shelf Lands Act (OCSLA) and 

the Federal Land Policy and Management Act (FLPMA) direct Interior to 

ensure the United States receives fair market value on the development of 

its oil and gas resources. In 1976, an Interior report concluded that the 

government receives “fair market value” when lessees receive no more 

than a “normal” rate of return. In 1982—the last time Interior convened a 

task force to comprehensively review its “fair market value” procedures, 

the task force indicated that fair market value was not the value of the oil

and gas eventually discovered or produced; instead it is the value of “the

right” to explore and, if there is a discovery, to develop and produce the 

energy resource. In general, for offshore, Interior has the authority to 

change most components of the federal oil and gas fiscal system so long as 

no more than one component is set on automatically adjusting or “flexible” 

 3

The estimated additional revenues are the estimated reduction in the companies’ share of 

remaining value of existing assets, when comparing fiscal systems in place at the start of 2002 

and those in place in mid-2007, under a high-price scenario of $75 per barrel of crude oil. 

Page 3 GAO-08-691 Oil and Gas Royalties 
terms, and so long as the Congress does not disapprove the change—pass 

a resolution of disapproval—within 30 days of receiving notice of 

Interior’s bidding system. However, only the Congress may change the tax 

components of the oil and gas fiscal system. 

To provide more information to the Congress about the nature of the 

federal oil and gas fiscal system and the attractiveness of the United States

as a place in which to invest in oil and gas development, we agreed to 

build on the information in our May 1, 2007, report, which compared the 

U.S. government’s take with the government takes of other resource 

owners throughout the world, by reviewing new studies on the subject and 

adding and updating other information. Specifically, this report (1) 

evaluates the government take and the attractiveness for investors in the 

federal oil and gas fiscal system for the Gulf of Mexico and the United 

States in general, (2) evaluates how the absence of flexibility in this 

system has led to large foregone revenues from oil and gas production on

federal lands and waters as oil and gas prices have risen, and (3) assesses

what Interior has done to monitor the performance and appropriateness of 

the federal oil and gas fiscal system in light of changing market conditions. 

To evaluate the attractiveness of the United States for oil and gas 

investment, we reviewed the results of a study we procured from Wood 

Mackenzie, a leading industry consultant. In using this study, we reviewed 

the methodology and controls used by Wood Mackenzie to ensure the 

accuracy of the data used and the study results. We found the study results 

and the data that accompanied the study to be sufficiently reliable to meet 

the objectives of this report.4

 We also evaluated the results of various 

studies conducted by other industry experts and by MMS, the agency 

responsible for collecting oil and gas royalties from federal lands and 

waters. To evaluate the study results, we interviewed study authors and 

other industry experts to determine the studies’ methodologies and the 

appropriate interpretation of the results. Based on these interviews and 

our review of the results of the studies, we believe the general approaches 

taken by the authors of the studies was reasonable and that results of the 

studies are credible. However, with the exception of the Wood Mackenzie 

study, we did not fully evaluate each study’s methodology or the 

underlying data used to make the government take estimates. We also 

 4

In the Wood Mackenzie study, “Gulf of Mexico” results refer only to deep water areas of 

400 meters or greater depth; Wood Mackenzie currently does not have a comparable 

database for shallower Gulf waters. 

Page 4 GAO-08-691 Oil and Gas Royalties 
purchased and evaluated data from a leading financial firm and evaluated 

data and information published by the Department of Energy’s Energy 

Information Administration (EIA), the American Petroleum Institute, and

other sources. We assessed these data for reliability and deemed them 

reliable for the purposes of this report. We reviewed academic and 

government studies that investigated the costs and benefits of various oil 

and gas fiscal systems, and we interviewed and gathered information from 

officials from MMS, other governments, and the oil and gas industry. To 

evaluate how the absence of flexibility in the federal oil and gas fiscal 

system has led to large foregone revenues from oil and gas production on

federal lands and waters as oil and gas prices have risen, we relied on past 

work evaluating changes in federal oil and gas fiscal terms in the deep

water regions of the U.S. Gulf of Mexico. We also evaluated Interior 

analyses that accompanied recent increases in royalty rates in the U.S. 

Gulf of Mexico. In addition, we reviewed the Wood Mackenzie study and 

accompanying data. We also interviewed company officials and industry 

experts to obtain information on their preferences regarding oil and gas 

fiscal system characteristics. To assess what Interior has done to monitor 

the performance and appropriateness of the federal oil and gas fiscal 

system in light of changing market conditions, we evaluated the extent to

which Interior had collected the types of information and done the 

analysis needed to determine whether or not the oil and gas fiscal system 

should be changed in light of the recent changes in oil and gas market 

conditions. To do this, we reviewed Interior studies, policies, and guidance 

and interviewed officials from MMS; interviewed and collected views from 

oil and gas companies and industry groups; and evaluated analyses of oil 

and gas fiscal systems. We neither assessed Interior’s overall management 

of the federal system, both on and offshore, nor did we attempt to evaluate

the costs and benefits of any of Interior’s specific changes to the system 

over time. We conducted this performance audit from May 2007 to 

September 2008 in accordance with generally accepted government 

auditing standards. Those standards require that we plan and perform the 

audit to obtain sufficient, appropriate evidence to provide a reasonable 

basis for our findings and conclusions based on our audit objectives. We 

believe that the evidence obtained provides a reasonable basis for our 

findings and conclusions based on our audit objectives. 

In addition to having a low government take, the U.S. Gulf of Mexico and 

other U.S. regions are attractive targets for investment because they have

large remaining oil and gas reserves and the United States is generally a 

good place to do business compared to many other countries with 

comparable oil and gas resources. Multiple studies completed as early as 

Results in Brief 

Page 5 GAO-08-691 Oil and Gas Royalties 
1994 and as recently as June 2007 indicate that the U.S. government take in

the Gulf of Mexico is lower than that of most other oil and gas fiscal 

systems. For example, data we evaluated from a June 2007 Wood 

Mackenzie report indicate that the government take in the deep water U.S. 

Gulf of Mexico ranked as 93rd lowest of 104 oil and gas fiscal systems 

evaluated. More broadly, other measures indicate that the United States as 

a whole is an attractive target for oil and gas investment. First, the deep 

water U.S. Gulf of Mexico and other U.S. oil and gas regions rank high in

terms of remaining oil and gas reserves among countries that allow private 

oil and gas companies to operate on their lands and waters. Second, since 

2002 as oil prices have risen and gas prices have remained high by 

historical standards, the number of oil and gas drilling rigs operating in 

U.S. lands and waters has increased much faster than in the rest of the 

world. Specifically, the number of rigs in use globally outside the United 

States increased by about 18 percent from an annual average of 998 in 

2002 to 1,180 through the first 4 months of 2008, while the number of rigs 

operating in the United States increased by about 113 percent, from an 

annual average of 831 in 2002 to 1,829 rigs in April 2008. Finally, the United 

States ranks high among almost all other governments in terms of its 

general attractiveness for doing business. For example, the World Bank 

ranked the United States as the third most favorable place to conduct 

business of 178 countries analyzed in a 2007 study. 

The lack of price flexibility in royalty rates and the inability to change 

fiscal terms for existing leases have put pressure on Interior and the 

Congress to change royalty rates on future leases in an ad hoc basis with 

consequences that could amount to billions of dollars of foregone revenue. 

For example, 1995 legislation granted royalty relief on certain leases 

issued in the deep water areas of the U.S. Gulf of Mexico between 1996 

and 2000—a period when oil and gas prices and industry profits were 

much lower than they are today—could cost the federal government 

between $21 billion and $53 billion, depending on the outcome of ongoing 

litigation concerning the authority of Interior to place price thresholds that 

would remove the royalty relief offered on certain leases. A royalty relief 

provision also was included in the Energy Policy Act of 2005 on leases 

issued during the 5-year period beginning on the date of enactment of this 

act. Further, two royalty rate increases affecting future U.S. Gulf of 

Mexico leases were announced by Interior in 2007. These royalty rate 

increases are expected to generate modest increases in federal revenues 

from future leases offered in the U.S. Gulf of Mexico. However, in 

choosing to increase royalty rates Interior did not evaluate the entire oil 

and gas fiscal system to determine whether or not these increases strike 

the proper balance between the attractiveness of federal leases for 

Page 6 GAO-08-691 Oil and Gas Royalties 
investment and appropriate returns to the federal government for oil and 

gas resources. As a result, and because the new royalty rates are not 

flexible with respect to oil and gas prices, Interior and the Congress may 

again be under pressure from industry or the public to further change 

royalty rates if and when oil and gas prices either fall or continue rising. 

Finally, these royalty changes only affect U.S. Gulf of Mexico leases and 

do not address onshore leases at all, which should also be considered in 

light of the increases in oil and gas prices. Wood Mackenzie reports that 

the deep water U.S. Gulf of Mexico ranked in the bottom half of oil and gas 

fiscal systems in terms of stability based on recent changes to fiscal terms 

and on the relative lack of built-in flexibility that would allow the fiscal 

terms to adjust to market conditions. Oil and gas companies we 

communicated with stated a clear preference for stable fiscal terms, other 

things being equal. In general, while companies prefer lower government 

take, it is reasonable to expect that these companies would be willing to 

pay a higher share of revenues in return for greater assurance that the 

fiscal terms will not induce balancing changes when market conditions 

change, such as the windfall profits charges that a number of countries 

have recently imposed. 

Interior does not routinely evaluate the federal oil and gas fiscal system as 

a whole, monitor what other governments or resource owners worldwide 

are receiving for their energy resources, or evaluate and compare the 

attractiveness of the United States for oil and gas investment with that of 

other oil and gas regions. As a result, Interior cannot assess whether or not 

there is a proper balance between the attractiveness of federal lands and 

waters for oil and gas investment and a reasonable assurance that the 

public is getting an appropriate share of revenues from this investment. 

Specifically, Interior does not have procedures in place for routinely 

evaluating the ranking of (1) the federal oil and gas fiscal system or (2) 

industry rates of return on federal leases against other resource owners. 

Further, Interior does not have the authority to alter the tax components 

of the oil and gas fiscal system. All these factors should inform any 

decisions about whether or how to alter the federal oil and gas fiscal 

system in response to changing market conditions. While Interior has 

made many specific changes to components of the oil and gas fiscal 

system over the years to adjust to changing market conditions, these 

changes were generally not done as part of a comprehensive review of the 

system that took into account the relative ranking of the U.S. government 

take or other comparisons with other countries or regions. In fact, the last 

time Interior conducted a comprehensive evaluation of the federal oil and 

gas fiscal system was over 25 years ago. Finally, the lack of a 

comprehensive re-evaluation of the federal oil and gas fiscal system stands 

Page 7 GAO-08-691 Oil and Gas Royalties 
in contrast to the actions of many other governments that have recently reevaluated or are currently re-evaluating their systems in light of rising oil 

and gas prices and higher industry profits and rates of return. 

Recent large increases in oil and gas prices and industry profits raise 

obvious questions about whether the public share of oil and gas revenues 

is appropriate. The fact that the recent studies show that the government 

take in the deep water U.S. Gulf of Mexico is relatively low and U.S. 

federal oil and gas regions are attractive places to invest also indicates that 

the federal oil and gas fiscal system may not strike a proper balance 

between maintaining competitive investment conditions and providing an 

appropriate share of revenues to the public from oil and gas sold on public 

lands and waters. Finally, because Interior has not comprehensively reevaluated the federal oil and gas fiscal systems for over 25 years, such a 

comprehensive evaluation of the systems, both on- and offshore, is 

overdue. Comparing oil and gas fiscal systems and attractiveness for 

investment is inherently complex and Interior has not collected 

information needed to perform such a comprehensive review. In the draft

report we sent to Interior for comment, we made recommendations to 

address these issues. In its response, Interior stated that it did not fully 

concur with our recommendations because it had already contracted for a 

study that will address many of the issues we raise. However, because 

Interior’s ongoing study is limited in scope and is limited to a specific 

region in the Gulf of Mexico, rather than a review of the entire federal oil 

and gas fiscal system as we recommended, we do not find the agency’s 

stated rationale for not agreeing fully with our recommendations to be 

convincing. Therefore, we believe that Congress may wish to consider 

directing the Secretary of the Interior to to convene an independent panel

to perform a comprehensive review of the federal oil and gas fiscal system. 

Further, in order to keep abreast of potentially changing market 

conditions going forward, the Congress may wish to consider directing the 

Secretary of the Interior to direct the Minerals Management Service and 

other relevant agencies within Interior to establish procedures for 

periodically collecting data and information and conducting analyses to 

determine how the federal government take and the attractiveness for oil 

and gas investors in each federal oil and gas region compare to those of 

other resource owners and report this information to the Congress. 

Interior, created by the Congress in 1849, oversees and manages the 

nation’s publicly owned natural resources, including parks, wildlife 

habitats, and minerals, including crude oil and natural gas resources, on 

over 260 million surface acres and 700 million subsurface acres onshore 

Background 

Page 8 GAO-08-691 Oil and Gas Royalties 
and in the waters of the Outer Continental Shelf. In this capacity, Interior

is authorized to lease federal oil and gas resources and to collect the 

royalties associated with their production, Interior’s Bureau of Land 

Management (BLM) is responsible for leasing federal oil and natural gas 

resources on land, whereas offshore—including the U.S. Gulf of Mexico—

Minerals Management Service (MMS) has the leasing authority. To lease 

U.S. Gulf of Mexico waters for oil and gas exploration, companies 

generally must first pay the federal government a sum of money that is 

determined through a competitive auction and evaluated by Interior 

against departmental economic and geologic models. This money is called

a bonus bid. Companies are required to submit one-fifth of any bid for a 

lease tract up front at time of bid, and pay the remaining four-fifths 

balance of their bonus payment and their first year rental payment after 

acquiring a lease. After the lease is awarded and production begins, the 

companies must also pay royalties to MMS based on a percentage of the 

cash value of the oil and gas produced and sold or “in kind,” as a 

percentage of the actual oil or gas produced. Royalty rates for onshore 

leases are generally 12.5 percent. Royalty rates for leases in the U.S. Gulf 

of Mexico, prior to 2007, ranged from 12.5 percent for water depths of 400

meters or deeper (referred to as deepwater) to 16-2/3 percent for water 

depths less than 400 meters (referred to as shallow). In 2007, the Secretary 

of Interior twice increased the royalty rate for future U.S. Gulf of Mexico 

leases—in January, the rate for deep water leases was raised to 16-2/3 

percent and in October, the rate for all future leases, included those issued 

in 2008, was raised to 18-3/4 percent.

A considerable body of legislation has been enacted pertaining to the 

management of resources on federal and Indian trust lands and within federal 

waters. This legislation includes the Mining Law of 1872, Mineral Lands 

Leasing Act of 1920, 1947 Mineral Leasing Act for Acquired Lands, Outer 

Continental Shelf Lands Act of 1953, Federal Land Policy and Management 

Act of 1976, the Outer Continental Shelf Lands Act Amendments of 1978, 

Federal Oil and Gas Royalty Management Act of 1982, as well as the Federal

Onshore Oil and Gas Leasing Reform Act of 1987, the Outer Continental Shelf 

Deep Water Royalty Relief Act of 1995, and the Energy Policy Act of 2005. The

Outer Continental Shelf Lands Act, as amended (OCSLA) is, among other 

things, intended to ensure the public “a fair and equitable return” on the 

resources of the shelf. The law directs the Secretary of Interior to conduct

leasing activities to assure receipt of fair market value for the lands leased

and the rights conveyed by the federal government. In addition, the Federal 

Land Policy and Management Act indicated that, unless otherwise provided 

by statute, it is the policy of the United States to receive “fair market value” 

for the use of the public lands and their resources. In 1982, Interior’s MMS 

Page 9 GAO-08-691 Oil and Gas Royalties 
convened a task force to review its fair market value procedures. Upon

completion of the task force’s work, the Secretary of Interior informed the 

Congress by letter in March 1983 that the Department had completed its 

analysis and validation of the process by which it will assure a fair return to

the American people. The Secretary indicated in that letter that the process in

place will assure the American people a full and fair return as it pertains to

bonuses, rentals, royalties, and taxes. The 1983 Interior task force report also 

provided some clarity regarding a fair return, or fair market value. The report 

indicated that the market value of a lease is not the market value of the oil 

and gas eventually discovered or produced. Instead, it is the value of the right 

to explore and, if there is a discovery, develop and produce the energy

resource. 

Currently Interior has the legal authority to change most aspects of the oil

and gas fiscal system. Specifically, Interior is allowed by statute to change

bid terms for offshore leases including the royalty rate, the bonus bid 

structure, rental terms, and even the minimum 12.5 percent royalty rate, so

long as there is only one variable or “flexible” term—such as a royalty rate

that adjusts upwards or downwards with oil and gas prices—in the 

resulting system, and so long as Congress does not pass a resolution of 

disapproval within 30 days of Interior’s changes to the system.5

 With 

regard to onshore leases, Interior is generally allowed by statute to change

bid terms including the royalty rate, the bonus bid structure, rental terms, 

and the minimum royalty rate so long as the bid structure meets certain 

bid terms,6

 but with certain additional limits on flexibility than the offshore 

leases. Over the past 25 years, Interior has implemented several programs 

that adjusted royalty rates or other system components. Such programs 

included the net profit share leases, which were for offshore leases that 

based royalties on a percentage of net profits derived from production; 

sliding scale royalty rates, which was an onshore royalty rate system based 

on changing production levels; and royalty rate reduction for stripper 

 5

43 U.S.C. § 1337. 

6

With regard to onshore leasing, there are both competitive and noncompetitive leases. For 

competitive leases, 30 U.S.C. Section 226 stipulates that a national minimum acceptable bid 

of $2 an acre be met and a royalty payment of not less than 12.5 percent be met, although 

Section 209 of the law allows the Secretary to waive or reduce rental rates or minimum 

royalty rates when he deems this is necessary to promote development or if the leases 

cannot be successfully operated under the terms provided; Section 226 of the law allows 

the Secretary to increase the $2 an acre minimum bid, so long as he notifies the House and 

Senate Committees on Natural Resources 90 days before doing so. For noncompetitive 

leases, if there are no bonus bids made at an auction, or if all bids are less than the national 

minimum, the land is offered noncompetitively, with some exceptions. 

Page 10 GAO-08-691 Oil and Gas Royalties 
wells and lower-grade, more viscous crude oil, where onshore oil wells 

producing less than 15 barrels of oil per day were eligible for royalty rate 

reductions. Interior officials told us they also “experimented” with a 

variety of flexible royalty rate and profit sharing systems in the early 

1980s, but found them difficult to administer and validate the amount of 

payments due to MMS, which in Interior’s estimation more than offset any 

enhanced flexibility associated with a variable royalty rate. 

Multiple studies completed as early as 1994 and as recently as June 2007

all indicate that the U.S. government take in the Gulf of Mexico is lower 

than most other oil and gas fiscal systems. Four recent studies by private

consultants or resource owners indicate that the U.S. government take in

the Gulf of Mexico is relatively low. For example, data we evaluated from

a June 2007 report by Wood Mackenzie reported that the government take 

in the deep water U.S. Gulf of Mexico ranked as the 93rd lowest out of 104 

oil and gas fiscal systems evaluated in the study. Other U.S. oil and gas 

regions are also listed in the Wood Mackenzie study and some but not all 

other studies. However, these regions are not uniquely under federal 

jurisdiction, so a direct comparison of the government take in these other 

regions cannot be used to isolate the federal oil and gas fiscal system. The 

results of the four studies are summarized below in table 1. 

The Gulf of Mexico 

Has a Relatively Low 

U.S. Government 

Take and the United 

States Is an Attractive 

Place to Invest in Oil 

and Gas Development 

Table 1: Summary of Four 2007 Studies Comparing Government Take Percentages 

Government take 

percentages 

Study

Rank (from highest to lowest) of 

Gulf of Mexico U.S. government

take among oil and gas fiscal 

systems reviewed in each study Highest Lowest

Gulf of 

Mexico

OUR FAIR SHARE: Report of the Alberta Royalty Review

Panel, Sept. 18, 2007 (analysis done by the Alberta Department 

of Energy). 

16/19 77.00 39.00 47.50

Cambridge Energy Research Associates: 2002 vs. 2007. 17/17 95.00 49.00 49.00

Van Meurs Corporation: Comparative Analysis of Fiscal Terms 

for Alberta Oil Sands and International Heavy and Conventional 

Oils, May 17, 2007. 

25/28 92.00 25.00 47.00

Wood Mackenzie: Government Take: Comparing the 

Attractiveness and Stability of Global Fiscal Systems, Wood 

Mackenzie, June 2007. 

93/104 98.04 18.05 44.09

Source: GAO analysis of four calendar year 2007 government take studies. 

As we reported in May 2007, the results of five other studies completed 

between 1994 and 2006 had similar findings. The information reported by 

Page 11 GAO-08-691 Oil and Gas Royalties 
Wood Mackenzie and other such expert studies are used by resource 

owners and oil and gas companies alike to aid in making investment or 

policy decisions and these studies represent the best data on government 

take available. However, we recognize there are limitations with the 

government take studies and the relative ranking of government take 

alone is not sufficient to determine whether the federal government is 

receiving its fair share of oil and gas revenues. A number of other factors 

that are not part of the government take determine company decisions of 

where and how much to invest and how much to pay for access to oil and 

gas resources. These factors include the relative size of oil and gas 

resource bases in different regions and the relative costs of developing

these resources. Thus government take is a major, but not sole factor in 

determining the attractiveness of a fiscal system for oil and gas 

development. 

When other factors are taken into consideration, the U.S. Gulf of Mexico is

an attractive target for investment because it has large remaining oil and

gas reserves and the United States is generally a good place to do business 

compared to many other countries with comparable oil and gas resources. 

For example, once reserves that are entirely owned by governments are 

removed from the analysis, of the 104 remaining fiscal regimes ranked by 

Wood Mackenzie that allow some participation by international oil 

companies and that have remaining oil and gas reserves, the deep water 

U.S. Gulf of Mexico ranked 18th highest in terms of remaining oil and gas 

reserves. Three other U.S. regions were ranked in the top 18 in terms of 

reserves. These were the U.S. Rocky Mountains (8th), Alaska (14th), and 

U.S. Gulf Coast (15th), but these regions are not uniquely covered by the 

federal fiscal regimes, as state and private resource owners may also exist. 

Wood Mackenzie also ranked oil and gas fiscal regimes in terms of their 

attractiveness for investment. Wood Mackenzie’s measure of oil and gas 

fiscal attractiveness took into account both reward associated with factors 

such as resource size; and risk, including the extent to which government

take includes bonuses. With respect to reward, Wood Mackenzie 

compared the levels of government take with the size of oil and gas fields

governed by the various oil and gas fiscal systems. The risk ranking 

reflected whether or not the system included bonus payments, which 

increase the risk to investors because they must be paid whether or not 

economic volumes of oil and gas are eventually found on an oil and gas 

Page 12 GAO-08-691 Oil and Gas Royalties 
tract.7

 Risk also included a measure of the extent to which and the way in 

which the resource owner held an equity share in the resources being 

developed. The impact of the fiscal terms on the rewards and risks 

associated with a wide range of hypothetical new investments were 

assessed under the terms of each of the 103 oil and gas fiscal systems 

included in this section of the study. Based on these assessments, Wood 

Mackenzie ranked the deep water U.S. Gulf of Mexico fiscal system as 

more attractive for investment than 60 (about 58 percent) of the 103 fiscal

systems ranked. 

More broadly, other measures indicate that the United States is an 

attractive place to invest in oil and gas production. For example, since 

2002 as oil prices have risen and gas prices have remained high by 

historical standards, the number of oil and gas drilling rigs operating in the 

United States has increased much faster than in the rest of the world, 

which indicates companies in recent years have continued to find the 

United States a conducive place to invest in oil and gas production. 

Specifically, according to data on crude oil rig counts from Baker Hughes, 

the number of rigs in use globally excluding the United States increased by 

about 18 percent from an annual average in 2002 of 998 to 1,180 through 

the first 4 months of 2008, while the number of rigs operating in the United 

States increased about 113 percent, from 831 rigs in 2002 to 1,768 rigs in 

2007 and 1,829 rigs in April 2008. These increases coincided with the 

increase in oil and gas prices over the same period and indicate that the 

United States has remained an attractive place to invest in oil and gas as 

prices have risen. 

While rig counts can reasonably be associated with the attractiveness of a

region for development and production, they do not tell the whole story. 

For example, according to Baker Hughes, the Gulf of Mexico rig count 

fluctuated over the longer term and has decreased in recent years. 

Specifically, from 1973 to 1981, rig counts in the Gulf of Mexico increased, 

from 80 to 231, before generally decreasing to 45 in 1992. They then 

generally rose again until 2001. From 2001 to April 2008, the annual rig 

count in the Gulf of Mexico decreased from 148 to 58. This decline has 

occurred despite the Gulf of Mexico being generally considered an 

attractive target for investment, both from the perspective of the 

 7

Wood Mackenzie’s evaluation of risk did not compare the likely resource risk from future

drilling activities or include a risk comparison of technical and/or resource risks; it 

evaluated the risk to companies for conducting business under the specific fiscal system 

being evaluated. 

Page 13 GAO-08-691 Oil and Gas Royalties 
government take and because of the potential for significant oil and gas 

resources. 

Other analyses report the oil and gas industry appears to have performed 

favorably in recent years compared with other industries. 

• The Energy Information Administration reported in December 2007 that 

from 2000 through 2006, the return on equity, which compares a 

company’s profit with the value of the shares held by the company’s 

owners, for the major energy producers, referred to as Financial Reporting 

System (FRS) companies, averaged 7 percentage points higher than that of 

the U.S. Census Bureau’s “All Manufacturing Companies.”8 According to 

the report, this reversed a trend where the return on equity for the major 

energy producers averaged 2 percentage points lower than All 

Manufacturing Companies from 1985 to 1999. 

• The American Petroleum Institute, in a 2007 study, showed that from 2000 

to 2005, the average return on investment for oil and gas production was 

about 61 percent higher than for the Standard & Poor’s (S&P) industries.9

However, the average return on investment for the industry has matched

or exceeded the returns for the S&P industrials only in recent years; over 

the 25-year period from 1980 to 2005, the average return on investment for 

oil and gas production was about 18 percent lower than for the S&P 

industries. 

• A GAO analysis found that the “upstream,” or exploration and production

segments, of the domestic oil and gas production companies also received

higher rates of return than companies operating in other U.S. 

manufacturing industries from 2002 through 2006. We analyzed financial 

data from S&P’s Compustat and EIA’s FRS. From 2002 through 2006, the 

upstream segments of the domestic oil and gas production companies 

have averaged a 17.4 percent return on investment,10 compared with 15.2 

 8

Energy Information Administration, Performance Profiles of Major Energy Producers: 

2006, December 2007. A return of equity is another measure of company and industry

profitability. A return on equity is net income divided by shareholders’ equity. 

9

American Petroleum Institute, America’s Oil and Gas Industry: Putting Earnings into 

Perspective, 2007. 

10Return on investment is calculated by dividing net income by net investment in place. 

Page 14 GAO-08-691 Oil and Gas Royalties 
percent for all other manufacturing companies.11 When both upstream and 

“downstream” the refining and marketing segments are included in the 

analysis, the oil and gas industry return on investment averaged over 20 

percent during this period. This short term picture, however, contrasts 

with a longer-term analysis, which shows the oil and gas industry receiving 

a return on investment that is comparable, or slightly lower, than that 

received by other manufacturing industries over the past 30 years. Our 

analysis found that during this period, upstream oil and gas production has 

averaged 11.2 percent return on investment with the entire oil and gas 

industry receiving an average 13.7 percent return on investment. All other 

manufacturing companies have averaged 12.3 percent return on 

investment during this period. This recent improvement in financial 

performance from 2000 through 2006 coincided with rising oil and gas 

prices. Further, since 2006, oil and gas prices have risen even higher, while 

EIA’s most recent projections to 2030 are for oil and gas prices to remain 

much higher than they were for most of the period 1985 through 1999. 

In addition, the United States is also generally ranked favorably as a place 

to conduct business by the World Bank and by business media sources, 

including The Economist, and AM Best. For example, the World Bank 

ranked the United States as the third most favorable place to conduct 

business of 178 countries analyzed in a 2007 study.12 The Economist in 

October 2007 ranked the United States as the ninth highest of 82 countries 

analyzed for projected favorability of business environment from 2008 to 

2012. Finally, as of February 2008, the United States remained in the top 

tier—of five possible tiers—on AM Best’s countries for business risk 

index, meaning the United States generally posed the least risk for 

investors of the five possible levels assigned. 

 11Our analysis differs from the other studies cited in this report because we examined 

return on investment for exploration and production only, instead of oil and gas industrywide return on investment or return on equity. Additionally, our analysis of the 

manufacturing industry includes the universe of companies identified as manufacturers by

Standard Industrial Classification code (excluding oil and gas companies) instead of an

industry index as was used by the American Petroleum Institute and EIA studies. As a 

result, our return on investment differs from the other studies. 

12World Bank, Doing Business 2008: Comparing Regulation in 178 Economies, 

Washington, D.C., 2007. 

Page 15 GAO-08-691 Oil and Gas Royalties 
The lack of price flexibility in royalty rates and the inability to change 

fiscal terms for existing leases have put pressure on Interior and the 

Congress to change royalty rates in the past on future leases on an ad hoc 

basis. For example, in 1980, a time when oil prices were comparable in 

inflation-adjusted terms to today’s prices, Congress passed a windfall 

profit tax, which amounted to an excise tax per barrel of oil produced in 

the United States. Congress repealed that tax in 1988 at time when oil 

prices had fallen significantly from their 1980 level. The tax attempted to 

recoup for the federal government much of the revenue that would have 

otherwise gone to the oil industry as a result of the decontrol of oil prices. 

Further, in 1995—a period with relatively low oil and gas prices—the federal 

government enacted the Outer Continental Shelf Deep Water Royalty Relief 

Act (DWRRA). In implementing the DWRRA for leases sold in 1996, 1997, and 

2000, MMS specified that royalty relief would be applicable only if oil and gas

prices were below certain levels, known as “price thresholds,” with the 

intention of protecting the government’s royalty interests if oil and gas prices

increased significantly. MMS did not include these same price thresholds for

leases it issued in 1998 and 1999. In addition, the Kerr-McGee Corporation—

which was active in the Gulf of Mexico and is now owned by Anadarko

Petroleum Corporation—filed suit challenging Interior’s authority to include 

price thresholds in DWRRA leases issued from 1996 through 2000. Recently, 

the U.S. District Court for the Western District of Louisiana granted summary

judgment in favor of Kerr-McGee concerning the application of price 

thresholds to those leases and this ruling is currently under appeal.

13 In our

June 2008 report on the potential foregone revenues at stake in the KerrMcGee litigation, we found that the value of future forgone royalties is highly

dependent upon oil and gas prices, and on production levels.

14 Assuming that 

the District Court’s ruling is upheld, future foregone royalties from all the 

DWRRA leases issued from 1996 through 2000 could range widely—from a 

low of about $21 billion to a high of $53 billion,

15 depending on the outcome of

ongoing litigation concerning the authority of Interior to place price 

The Inflexibility of 

Royalty Rates to 

Changing Oil and Gas 

Prices Has Cost the 

Federal Government 

Billions of Dollars in 

Foregone Revenues 

 13Six of the 25 companies that have received royalty relief to date have signed agreements 

with Interior to allow the inclusion of price thresholds for leases signed in 1998 and 1999. A 

list of U.S. and international companies that currently receive royalty relief, and who may

be affected by the outcome of the legal challenge, is presented in app. II. 

14GAO, Oil and Gas Royalties: Litigation over Royalty Relief Could Cost the Federal

Government Billions of Dollars, GAO-08-792R (Washington, D.C., June 5, 2008). 

15By foregone revenue, we mean the royalty revenue that would have accrued to the federal

government had there been no royalty relief under the DWRRA. 

Page 16 GAO-08-691 Oil and Gas Royalties 
thresholds that would remove the royalty relief offered on certain leases. The

$21 billion figure assumes relatively low production levels and oil and gas 

prices that average $70 per barrel and $6.50 per thousand cubic feet over the 

lives of the leases. The $53 billion figure assumes relatively high production

levels and oil and gas prices that average $100 per barrel and $8 per thousand 

cubic feet over the lives of the leases. A royalty relief provision was also

included in the Energy Policy Act of 2005 on leases issued during the 5-year

period beginning on August 8, 2005. 

In 2007, the Secretary of the Interior twice increased the royalty rate for 

future Gulf of Mexico leases—in January, the rate for deep water leases 

was raised to 16-2/3 percent and in October, the rate for all future leases in

the Gulf, including those issued in 2008, was raised to 18-3/4 percent. 

Interior estimated these actions will increase federal oil and gas revenues 

by $8.8 billion over the next 30 years. The January 2007 increase applied

only to deep water Gulf of Mexico leases; the October 2007 increase 

applied to all water depths in the Gulf of Mexico. These royalty rate 

increases appear to be a response by Interior to the high prices of oil and 

gas that have led to record industry profits and raised questions about 

whether the existing federal oil and gas fiscal system gives the public an

appropriate share of revenues from oil and gas produced on federal lands 

and waters. However, the royalty rate increases do not address these 

record industry profits from existing leases at all and high profits will 

likely remain as long as the existing leases produce oil and gas or until oil 

and gas prices fall. In addition, in choosing to increase royalty rates, 

Interior did not evaluate the entire oil and gas fiscal system to determine 

whether or not these increases were sufficient to balance investment 

attractiveness and appropriate returns to the federal government for oil 

and gas resources. On the other hand, according to Interior, it did consider

factors such as industry costs for outer continental shelf exploration and 

development, tax rates, rental rates, and expected bonus bids. Further, 

because the new royalty rates are not flexible with respect to oil and gas 

prices, Interior and the Congress may again be under pressure from 

industry or the public to further change the royalty rates if and when oil 

and gas prices either fall or continue rising. Finally, these royalty changes 

only affect Gulf of Mexico leases and do not address onshore leases at all, 

which should also be considered in light of the increases in oil and gas 

prices. 

In addition, Wood Mackenzie reports that the deep water U.S. Gulf of 

Mexico ranked in the bottom half of countries in terms of oil and gas fiscal

system stability based on repeated changes to fiscal terms for future leases

and on the relative lack of built-in flexibility that would allow the fiscal 

Page 17 GAO-08-691 Oil and Gas Royalties 
terms to adjust to market conditions. Specifically, the Wood Mackenzie 

study ranked the deep water U.S. Gulf of Mexico fiscal terms as lower than 

71 (about 72 percent) of the 103 oil and gas fiscal systems. In contrast, 

among the key trends among governments in recent years has been to 

make fiscal terms more responsive to market conditions. By adding such 

progressive features to oil and gas fiscal systems including royalty rates 

that increase with oil and gas prices, these other entities are making their 

systems more stable over time by reducing incentives for industry or the 

public to push for ad hoc changes in fiscal terms as future prices change. 

Wood Mackenzie’s measure of fiscal stability combines two criteria: recent 

history of changes to fiscal terms and built-in flexibility. As discussed 

previously in this report, changes to royalty rates occurred in the Gulf of 

Mexico three times since 1995, with the royalty relief in the mid 1990s and 

the two increases in royalty rates in 2007. However, as noted above, the 

study was conducted before the second 2007 increase in royalty rates, so

the government take would likely have increased but the U.S. stability 

rating could have fallen in the intervening period. Built-in flexibility 

reflects the relative degree to which a fiscal system is regressive or 

progressive, with more progressive systems being more flexible. A flexible

system does not mean changing the fiscal terms of existing contracts but 

having a system in place that automatically adjusts to changing economic

and market conditions. 

Oil and gas companies we communicated with stated a clear preference 

for stable fiscal terms, other things being equal. Overall, oil and gas 

companies may be more willing to invest in flexible systems, given that 

they tend to be inherently more stable and therefore are less likely to be

arbitrarily changed on a recurring basis. Oil and gas companies and 

industry trade associations we contacted provided us a range of views on

the advantages and disadvantages of various oil and gas fiscal systems, 

and generally indicated that one of the most important features of any 

system is its stability and predictability. Stability of fiscal terms is 

important because oil and gas companies are making very long-term 

investments and uncertainty about whether or not the resource owner will 

change the fiscal terms during the lifetime of the investment adds to the 

investment risk. The respondents also said that the terms of the oil and gas 

fiscal system should consider industry exploration and development costs, 

the likelihood of discovery, and political and economic risks. While 

companies surely prefer lower government take, all else constant, to the 

extent that stability is also preferred, a more stable system may be able to 

remain competitive for investment while resulting in a higher government

take than a less stable system. In particular, companies may be willing to 

pay a larger average share of oil and gas revenues if they believe that oil 

Page 18 GAO-08-691 Oil and Gas Royalties 
and gas fiscal systems will not change when market conditions change, 

such as the windfall profits charges that a number of countries have 

recently imposed. Such willingness to accept lower expected profits in 

exchange for lower risk is a common feature of investment markets. 

In addition to the potential trade-off between oil and gas fiscal system 

stability and government take, companies may be willing to pay higher 

average shares of revenues if governments bear some of the risk that 

companies take on when they purchase the rights to explore for oil and 

gas. For example, in the United States as well as for a number of other 

governments, leases are awarded through a bidding process that requires 

companies to pay bonus bids for the rights to explore and develop leases. 

With regard to bonus bids, there are advantages to requiring such bids. 

First, when companies have to compete with one another to win a lease, 

the lease is more likely to be awarded to a company with the expertise and 

resources to properly explore and develop the resources on the lease than

if leases are awarded using some other rationing mechanism that does not

take into account how much companies are willing to pay for the lease. In 

addition, it guarantees the public some revenue early on in the exploration 

and development process, which can take a number of years to complete.

However, the use of bonus bids pushes a great deal of risk onto oil and gas 

companies and requires them to estimate many uncertain factors, 

including the amounts of oil and gas that will ultimately be produced on 

the lease, the costs of that production, and the prices of gas and oil over 

the entire working life of the lease. In general, by increasing the risk that 

companies bear, these companies will have to expect to receive a higher 

rate of return to be willing to take on the project. In fiscal systems 

requiring bonus bids or other up-front payments, the companies bear the 

risk that leases will not generate economically significant oil and gas 

production. In fact, in the United States, a large proportion of leases that 

companies have paid for do not generate economic levels of production 

and the companies, after purchasing the lease, and paying rent for the 

duration of the initial term of the lease and whatever resources they spent 

on exploring for oil and gas, simply let the lease revert back to the 

government when the initial term expires. 

Some oil and gas fiscal systems mitigate the risk associated with up-front 

company expenditures by allowing the companies to recover exploration 

and development costs prior to starting higher royalty payments. For 

example, Alberta, Canada, has used such fiscal terms. Other fiscal systems 

share risk with companies by more strongly linking government take to

company profits. In such oil and gas fiscal systems, government take is 

low in early years of a lease, when exploration and early development are 

Page 19 GAO-08-691 Oil and Gas Royalties 
being undertaken, but increases if production increases or if oil and gas 

prices increase once production begins. The state of Alaska has recently 

changed its fiscal terms to increase its government take and to increase 

the linkage between government take and company profits. Both Alberta 

and the state of Alaska have higher government takes than the U.S. Gulf of 

Mexico according to the Wood Mackenzie study.

Interior does not routinely evaluate the federal oil and gas fiscal system as 

a whole, monitor what other resource owners worldwide are receiving for 

their energy resources, or evaluate and compare the attractiveness of the 

United States for oil and gas investment with that of other oil and gas 

regions. As a result, Interior cannot assess whether or not there is a proper 

balance between the attractiveness of federal lands and waters for oil and 

gas investment and a reasonable assurance that the public is getting an 

appropriate share of revenues from this investment. This is true of the U.S. 

Gulf of Mexico as well as other federal oil and gas producing regions. 

Interior does not have procedures in place for routinely evaluating the

ranking of (1) the federal oil and gas fiscal system against other resource 

owners or (2) industry rates of return on federal leases compared to other 

U.S. industries which could factor into any decisions about whether or 

how to alter the fiscal systems in response to changing market conditions.

Interior officials told us that they have a “bid adequacy review process” for 

offshore leases that determines whether the bonus bid meets criteria 

designed to ensure fair market value of the leased tract but that onshore 

leases do not have a similar bid adequacy provision. Moreover, Interior 

maintains it has been responsive to changes in market conditions through 

revisions to lease terms, including changes in minimum bonus bid levels, 

fluctuating royalty rates, and price thresholds. However, as we have

discussed previously in this report, bonus bids have both positive and 

negative sides with respect to their likely impact on overall government 

take. Further, frequent adjustments to fiscal terms are not looked on 

favorably by industry, especially when they involve increases in royalty 

rates or other charges. Interior indicated, in commenting on the report 

draft, that it is in the process of evaluating other fiscal approaches such as

sliding scale royalties for some oil and gas leases.

We did not evaluate the effectiveness of the bid adequacy review process 

in terms of its intended goal of ensuring bonus bids on offshore federal 

leases are competitive. However, even assuming that these bids are 

competitive, we do not think that this is sufficient to ensure that the other 

elements of the system are appropriately balancing the interests of 

taxpayers and oil and gas companies. In light of the complexity of oil and

Interior Does Not 

Have a System in 

Place to Evaluate 

Whether the Federal 

Fiscal System Is in 

Need of 

Reassessment 

Page 20 GAO-08-691 Oil and Gas Royalties 
gas fiscal systems, the great deal of uncertainty surrounding the volumes 

and future prices of oil and gas, and the costs of producing it, oil and gas 

companies cannot be expected to accurately forecast all the factors that 

will ultimately determine the value of a lease at the time that lease is sold. 

As a result, oil and gas company profits have tended to rise and fall over 

time with oil and gas prices, putting pressure on Interior to alter fiscal 

terms in a reactive rather than a strategic way. Further, the fact that 

Interior does not apply the same or a similar bid adequacy process for 

onshore leases raises questions about how Interior, overall, is providing 

reasonable assurance that even the bonus bids it receives are 

competitively determined in all publicly owned oil and gas producing 

regions. 

While Interior has made many specific changes to components of the 

federal oil and gas fiscal system over the years to adjust to changing 

market conditions, these changes were generally not done as part of a 

comprehensive review of the fiscal system that took into account the 

relative ranking of the U.S. government take or other comparisons with 

other countries or regions. The last time Interior conducted a 

comprehensive evaluation of the oil and gas fiscal system was over 25 

years ago. The lack of a recent comprehensive re-evaluation of the U.S. 

federal fiscal system stands in contrast to the actions of many other 

governments that have recently reevaluated or are currently re-evaluating 

their fiscal systems in light of rising oil and gas prices and higher industry 

profits and rates of return. For example, as previously discussed in this 

report, a number of countries have recently imposed windfall profits taxes 

or other mechanisms to increase the resource owners’ shares of oil and 

gas revenues from existing projects. Wood Mackenzie estimates that these 

changes will ultimately result in these countries’ collecting additional oil 

and gas revenues of between $118 billion and $400 billion, depending on 

future oil and gas prices.

In evaluating an oil and gas fiscal system, all components of the system, 

including bonus bids, land rental rates, royalties, and oil and gas company 

taxes, must be considered. However, while Interior has a great deal of

expertise and data from years of administering and collecting revenues 

from oil and gas leases on federal lands and waters that would be essential 

for any review of the federal oil and gas fiscal system, they do not have the 

authority to change taxes and, therefore, cannot fully revise the system 

without legislative action by the Congress. Further, it is essential to keep

federal leases competitive with other potential investments governed by

different fiscal systems. Therefore, in addition to input from Interior, oil 

and gas industry experts must also be consulted in any comprehensive 

Page 21 GAO-08-691 Oil and Gas Royalties 
review of the federal oil and gas fiscal system. For example, when Alberta 

recently reviewed its oil and gas fiscal system, it convened a panel that

included experts from academia, energy research and consulting firms, 

and the energy industry and also hired a consultant to evaluate the system 

and make specific recommendations. Following this review, Alberta 

increased some elements of the oil and gas fiscal system. However, prior 

to this review, Canadian government corporate taxes were reduced, which 

made Alberta more attractive for investors. In any comprehensive review

of the U.S. oil and gas fiscal system, taxes may need to be part of the 

discussion. Therefore, congressional action may be needed to change the

federal oil and gas fiscal system, if changes are ultimately determined to 

be appropriate. 

Oil prices have increased in recent years to levels not seen since the late 

1970s and early 1980s when adjusted for inflation. Natural gas prices have 

also been high by historical standards in recent years. These high prices 

have coincided with rising oil company profits. Moreover, the EIA’s longterm outlook projects these prices to remain much higher than what they 

had been for much of the past 25 years. Our work indicates that federal oil

and gas leases in the deep water U.S. Gulf of Mexico and other U.S. 

regions are attractive investments and that the government take in the U.S. 

Gulf of Mexico ranks among the lowest across a large number of other oil 

and gas fiscal systems. Our work further indicates that other measures, 

including fiscal attractiveness and rates of return, indicate the U.S. Gulf of

Mexico and other U.S. oil and gas producing regions are attractive places 

to invest. However, the regressive nature of the U.S. federal fiscal systems 

and other factors have caused these fiscal systems to be unstable over 

time and this adds risk to oil and gas investments and may reduce the

amount oil and gas companies are willing to pay in total for the rights to 

explore and develop federal leases. Because of these facts and because

Interior has not re-evaluated its oil and gas fiscal system in over 25 years, a 

comprehensive re-evaluation is called for. While Interior could collect data

and commission studies to re-evaluate the federal fiscal system, the 

agency does not currently have the information to fully compare the 

federal fiscal system with those of other governments, including states or 

foreign countries. In addition, Interior does not have the authority to make 

changes to all elements of federal fiscal system if such changes were found 

to be desirable. Finally, because of the complexity of evaluating oil and

gas fiscal systems and the importance of striking a balance between 

remaining an attractive place for investment and providing revenue to the

federal government, it is important that independent experts also be 

consulted as well as representatives from the oil and gas industry. 

Conclusions 

Page 22 GAO-08-691 Oil and Gas Royalties 
In the draft report we sent to Interior for comment, we made 

recommendations to address these issues. In its response, Interior stated 

that it did not fully concur with our recommendations because it had 

already contracted for a study that will address many of the issues we 

raise. However, because Interior’s ongoing study is limited in scope and is 

limited to a specific region in the Gulf of Mexico, rather than a review of 

the entire federal oil and gas fiscal system as we recommended, we do not

find the agency’s stated rationale for not agreeing fully with our 

recommendations to be convincing. Therefore, we believe that Congress 

may wish to consider directing the Secretary of the Interior to convene an

independent panel to perform a comprehensive review of the federal oil 

and gas fiscal system. 

Further, in order to keep abreast of potentially changing market 

conditions going forward, the Congress may wish to consider directing the 

Secretary of the Interior to direct the Minerals Management Service and 

other relevant agencies within Interior to establish procedures for 

periodically collecting data and information and conducting analyses to 

determine how the federal government take and the attractiveness for oil 

and gas investors in each federal oil and gas region compare to those of 

other resource owners and report this information to the Congress. 

The Department of the Interior provided us comments on a draft of the 

report. Overall, the department agreed that it is important to reassess the 

federal oil and gas fiscal system but did not fully concur with either of our

two recommendations to (1) perform a comprehensive review of the 

system using an independent panel and (2) adopt policies and procedures 

to keep abreast of important changes in the oil and gas market and in 

other countries’ efforts to adjust their oil and gas management practices in

light of these changes. We disagree with Interior’s rationale for its lack of

full concurrence with our recommendations and have, therefore, elected 

to reframe the recommendations into Matters for Congressional 

Consideration in the final report. 

In response to our first recommendation, Interior indicated that it would 

be premature and duplicative for the department to undertake such a 

review because it had recently contracted with an outside party to conduct 

a 2-year study of the policies affecting the pace of area-wide leasing and

revenues in the Central and Western Gulf of Mexico. We disagree that our 

recommended review is either premature or duplicative with this Interior 

study effort. First, a comprehensive review is overdue, given that Interior 

has not performed a comprehensive evaluation of the oil and gas fiscal 

system in over 25 years and in light of the dramatic increases in oil and gas 

Matter for 

Congressional 

Consideration 

Agency Comments 

and Our Evaluation 

Page 23 GAO-08-691 Oil and Gas Royalties 
prices and industry profits in recent years. Further, as documented in this 

report, many other oil and gas owners have been re-evaluating and 

changing their oil and gas fiscal systems in response to these recent 

market conditions. The Congress and the public are justifiably concerned 

about whether the federal government is getting a fair return for its energy 

resources as oil and gas company profits have reached record levels. In 

addition, our recommended review would not be duplicative with 

Interior’s ongoing study, which is geographically limited to only two 

sections of the Gulf of Mexico. In contrast, we recommended that Interior 

review all its oil and gas fiscal systems, both onshore and offshore. Nor 

does Interior’s ongoing study cover the full scope of review that we 

recommended, including looking at how other resource owners are 

managing their oil and gas fiscal systems. Further, Interior’s ongoing study 

does not explicitly look at the stability of the system as we recommended 

and this appears to be a critical factor influencing changes to oil and gas 

fiscal systems globally. Finally, Interior’s ongoing effort does not utilize an 

independent panel. We believe it is essential to empanel an independent

body, representative of major stakeholders, including those representing 

the interests of industry and the public, in order to develop

recommendations that strike an appropriate balance between remaining 

and attractive place for investment and providing revenue to the federal

government.

In response to our second recommendation, Interior implied that such an 

effort was unnecessary because Interior agencies that lease federal 

minerals already keep abreast of current literature on fiscal systems of 

other resource owners. During our work, we identified only one Interior

study done over the past 25 years that provided information on the U.S. 

government take compared to other fiscal systems. While that one Interior

study issued in 2006 showed, similar to our work, that the U.S. government 

take was low compared to other fiscal systems, it is also worth noting that

the study itself relied on dated 1994 government-take information. 

Therefore, we do not believe that Interior has adequately kept abreast of

important trends in oil and gas management, especially as it relates to how 

other resource owners are managing these resources. In addition, our 

recommendation went further than simply keeping abreast of current 

literature. In particular, our recommendation sought to have Interior 

monitor and report on how the federal government’s fiscal terms for oil 

and gas development compare with the terms of other resource owners 

worldwide. 

Page 24 GAO-08-691 Oil and Gas Royalties 
Interior’s full letter commenting on the draft report is printed as appendix 

III, and our detailed response follows. In addition, Interior made technical 

comments that we have addressed as appropriate. 

As agreed with your offices, unless you publicly announce the contents of

this report earlier, we plan no further distribution until 30 days from the 

date of this report. At that time, we will send copies to appropriate 

congressional committees, the Secretary of the Interior, the Director of 

MMS, the Director of the Office of Management and Budget, and other 

interested parties. We will also make copies available to others upon 

request. In addition, the report will be available at no charge on GAO’s 

Web site at http://www.gao.gov. 

If you or your staff have any questions about this report, please contact me 

at (202) 512-3841 on ruscof@gao.gov. Contact points for our Offices of 

Congressional Relations and Public Affairs may be found on the last page 

of this report. GAO staff who made major contributions to this report are 

listed in appendix IV. 

Frank W. Rusco 

Acting Director, Natural Resources 

 and Environment 

Page 25 GAO-08-691 Oil and Gas Royalties 
Appendix I: Scope and Methodology 

Page 26 GAO-08-691 Oil and Gas Royalties 

Appendix I: Scope and Methodology 

We performed our work at the Department of Interior’s (Interior), Bureau of 

Land Management’s (BLM), and Minerals Management Service’s (MMS) 

offices and in Washington, D.C. from May 2007 to September 2008 in 

accordance with generally accepted government auditing standards. We 

focused our analysis of government take and industry rates of return on the 

U.S. Gulf of Mexico because it represents approximately 79 percent of oil 

and 50 percent of gas production on federal leases, and because there are 

complicating factors for onshore oil and gas leases, such as state and local 

taxes or fees that may differ by locality, which the available studies do not 

fully address. We did evaluate information that applied more broadly to the

United States, specifically with respect to overall measures of the 

attractiveness of the United States for oil and gas investment. However, we 

cannot infer from our review of the Gulf of Mexico federal oil and gas leases 

how the data on federal government take or industry returns to investment

are applicable to federal onshore leases. In general, the results of this review

can compare the federal system associated with the U.S. Gulf of Mexico to 

that of other oil and gas fiscal systems but cannot provide specific 

prescriptive recommendations for how to change the federal fiscal system

to achieve a fair return for the public from sale of oil and gas on public lands 

and waters. We also compared the federal oil and gas fiscal system to all 

types of fiscal systems around the world to encompass the range of choices 

that oil and gas companies are faced with when deciding where to invest. 

To determine the degree to which the federal government is receiving a 

fair return, our work included reviewing various pieces of energy resource

management legislation enacted over the last several decades. This 

included, among others, the Outer Continental Shelf Lands Act of 1953 

(OCSLA) and its amendments and the Federal Land Policy and 

Management Act of 1976 (FLPMA) and its amendments. We also collected

and analyzed various pieces of Interior energy resource policy and 

management information. To evaluate how the U.S. government take 

compares to those in other countries, we reviewed the results of a study 

procured from Wood Mackenzie, a leading industry consultant, and recent

studies conducted by other private consultants or resource owners. We 

also collected and analyzed various studies generated by MMS, the agency

responsible for collecting oil and gas royalties from federal lands and 

waters and interviewed private consulting firm officials. In evaluating the 

study results, we conducted interviews with study authors and an industry 

expert to discuss the study methodologies and the appropriate

interpretation of the results. Based on these interviews and our review of 

study results, we believe the general approach that these study authors 

took was reasonable and that the results of the studies are credible. 

However, we did not fully evaluate each study’s methodology or the 
Appendix I: Scope and Methodology 

underlying data used to make the government take estimates. Overall, 

because all the studies came to similar conclusions with regard to the 

relative ranking of the U.S. federal government, and because such studies 

are used by oil and gas industry companies and governments alike for the 

purposes of evaluating the relative competitiveness of specific oil and gas 

fiscal systems, we are confident that the broad conclusions of the studies 

are valid. To assess the extent to which the United States’ oil and gas fiscal 

system is able to remain stable as market conditions change, we relied 

heavily on the study and data we obtained from Wood Mackenzie. We 

interviewed industry experts and gathered information regarding the types 

of fiscal systems and the relative stability offered with each. We 

interviewed company officials and industry experts to obtain information 

on their preferences regarding fiscal system characteristics. 

We also purchased data from Compustat and analyzed that data and data 

published by the Energy Information Administration. The financial data

we procured are widely used by private companies and governments for 

purposes of comparing company and industry rate of return over time, 

because Interior in the past used rate of return as a credible measure to 

evaluate the profitability of the Gulf of Mexico for firms conducting oil and

gas exploration there versus the relative profitability of other 

manufacturing firms operating in the United States. We also evaluated data

reported by the American Petroleum Institute and other sources. Further,

we reviewed various reports prepared over the last 2 years by private 

sources on the profitability of oil and gas companies operating in the U.S.

versus operating elsewhere in the world. We also spoke to industry 

officials regarding aspects of the various fiscal systems in which they 

operate. Finally, we discussed the issue of a “fair return” with various 

Interior, BLM, and MMS officials, as well as members of the oil and gas 

industry. To determine what steps Interior takes to get reasonable 

assurance that the federal government take provides a fair return to the 

public, we reviewed Interior studies and procedures, and interviewed 

officials from MMS. 

We conducted this performance audit from May 2007 to September 2008, 

in accordance with generally accepted government auditing standards. 

Those standards require that we plan and perform the audit to obtain 

sufficient, appropriate evidence to provide a reasonable basis for our 

findings and conclusions based on our audit objectives. We believe that 

the evidence obtained provides a reasonable basis for our findings and 

conclusions based on our audit objectives. 

Page 27 GAO-08-691 Oil and Gas Royalties 
Appendix II: Companies Receiving Royalty 

Relief in the U.S. Gulf of Mexico 

Page 28 GAO-08-691 Oil and Gas Royalties 

According to Interior, companies operating in the U.S. Gulf of Mexico had 

received more than $1.3 billion in royalty relief through September 30, 

2007. Table 2 lists the companies that have received royalty relief under 

DWWRA and the amounts of that relief. Six companies had signed 

agreements with Interior, allowing thresholds to be placed for royalties to 

be paid in the future. Those companies are BP Exploration and 

Production; ConocoPhillips & Burlington Resources Offshore, Inc.; 

Marathon; Shell; Walter Hydrocarbons; and Walter Oil and Gas. According 

to Interior information dated February 4, 2008, ConocoPhillips & 

Burlington Resources Offshore, Inc., had not received royalty relief. 

Table 2: Amounts of Royalty Relief Received by Companies

Company Ownership

Royalty Relief

Received to Date 

Signed agreement 

with Interior to

include price

thresholds

ATP Oil & Gas Corporation Public – United States 7,080,958 No 

BHPBilliton Public – Australia 6,480,679 No

BP Exploration & Production Public – United Kingdom 172,508,633 Yes 

Chevron USA/Texaco/Union Oil Public – United States 4,003,495 No 

Devon Energy Corporation/Ocean/Santa Fe Public – United States 143,808,801 No 

Dominion Exploration Public – Italy 126,504,055 No 

EnCana Gulf of Mexico Public – Canada 43,908 No 

ENI Deepwater Public – Italy 27,176,887 No 

Howell Group Public – United States 46,867 No 

Anadarko Petroleum Corporation/Kerr 

McGee/Offshore Shelf/Westport 

Public – United States 142,406,788 No 

Marathon Oil Corporation Public – United States 1,393,586 Yes 

Mariner Energy, Inc. Public – United States 44,050,427 No 

Marubeni Public – Japan 26,477,247 No

Newfield Exploration Corp. Public – United States 10,338,890 No 

Nexen Inc. Public – Canada 129,518,866 No 

NI Energy Venture Public – Japan 406,747 No 

Nippon Oil Exploration Public – Japan 22,897,836 No 

Noble Corp. Public – Cayman Islands 1,137,105 No 

Occidental Petroleum Corp. Public – United States 109,653,662 No 

Petrobras America Semipublic – Brazil 13,354,061 No 

Pioneer Natural Resources Co. Public – United States 128,068,000 No 

Pogo Producing Co. Public – United States 7,414,106 No 

Royal Dutch Shell Public – Netherlands 27,399,688 Yes 

Appendix II: Companies Receiving Royalty 

Relief in the U.S. Gulf of Mexico 
Appendix II: Companies Receiving Royalty 

Relief in the U.S. Gulf of Mexico 

Company Ownership

Royalty Relief

Received to Date 

Signed agreement 

with Interior to

include price

thresholds

Total E&P Public – France 171,648,800 No 

Walter Oil & Gas Corp./Walter Hydrocarbons Private – United States 1,286,768 Yes 

Total 1,325,106,861

Source: GAO analysis of Interior data dated February 4, 2008. 

Note: Numbers do not add exactly due to rounding.

Page 29 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from Department of 

the Interior 

Page 30 GAO-08-691 Oil and Gas Royalties 

Appendix III: Comments from Department of 

the Interior 

Note: GAO comments 

supplementing those in 

the report text appear at 

the end of this appendix. 

See comment 1. 
Appendix III: Comments from Department of 

the Interior 

See comment 2. 

See comment 3. 

See comment 4. 

See comment 5. 

See comment 6. 

Page 31 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from Department of 

the Interior 

See comment 7. 

See comment 8. 

See comment 9. 

See comment 10. 

Page 32 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from Department of 

the Interior 

See comment 11. 

See comment 12. 

See comment 13. 

Page 33 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from Department of 

the Interior 

Page 34 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from 

Department of the Interior 

The following are GAO’s comments on the Department of the Interior’s 

letter dated August 8, 2008. 

1. Regarding Interior’s statements that (1) the draft report relies heavily

on measures of government take but does not clarify the link between 

government take and investment attractiveness, and (2) the draft 

report does not relate the significance of the OCSLA and FLPMA laws, 

we disagree. The report on page 1 states that several factors need to be

considered, including the size of availability of the oil and gas

resources in place; the cost of finding and developing these resources, 

and the stability of other the oil and gas fiscal systems and the country 

in general. Also on page 2, we note that a fair government take would 

strike a balance between encouraging private companies to invest in 

the development of oil and as resources on federal lands and waters 

while maintaining the public’s interest in collecting the appropriate 

level of revenues from the sale of the public’s resources. Further, we 

devote a significant portion of our discussion of objective one to how 

the attractiveness of the U.S. oil and gas fiscal system compares with 

those of other resource owners, and concludes that U.S Gulf of Mexico 

and other U.S. places are attractive places to invest. With regard to the 

significance of the OCSLA and FLPMA laws, on page 3 of the report we 

discuss the provisions of the OCSLA and FLPMA laws and how they 

relate to the management of the federal oil and gas fiscal system. 

GAO Comments 

2. Interior commented that the report’s conclusion that inflexibility in the 

federal oil and gas fiscal system is responsible for significant 

reductions in the federal fiscal take is not supported. We maintain that 

the inherent inflexibility of the federal fiscal system means that 

government receipts from the production of oil and gas on federal 

lands and waters have not tracked with the prices of oil and gas. This 

lack of flexibility explains, in part, why the Congress enacted the Deep 

Water Royalty Relief Act in 1995, a time when oil and gas prices were 

much lower than they are today. The lack of flexibility of the royalty 

rates for some of the leases issued under this Act, as implemented by 

Interior, will end up costing the public billions of dollars in foregone 

revenues. Further, the recent increases to royalty rates that Interior 

references in its comments do nothing to address the bulk of leases 

already held and for which industry profits have increased as high as 

they have precisely because neither the royalty rates, nor other 

components of the oil and gas fiscal system were sufficiently flexible 

to allow federal revenues to increase automatically when oil and gas 

prices and industry profits increased. Overall, Interior should strive to 

Page 35 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from 

Department of the Interior 

achieve fair market value over time, not simply evaluate market 

conditions at the time leases are issued. 

3. With regard to Interior’s comments that although it has not conducted 

a comprehensive evaluation of the federal oil and gas fiscal system, it 

has evaluated expected resources and conditions on the Outer 

Continental Shelf (offshore) tracts, we agree that Interior takes some 

steps to evaluate offshore leases but the objective addresses a broader 

evaluation of how Interior monitors the performance and 

appropriateness of the entire federal oil and gas fiscal system, 

including offshore and onshore, and also including assessing 

performance over time rather than at the time a lease is sold. Interior 

officials told us they evaluate offshore tracts before the issuance of a

lease for prospectivity of the lease and use such measures to 

determine an adequate minimum bid for the lease. However, as 

Interior makes note in its own comments, Interior officials have not 

systematically reviewed the bid outcomes of offshore tracts. 

4. We agree that onshore and offshore leases can be very different and 

for the reasons stated in Interior’s comments. That is why we 

recommended a comprehensive review of the entire federal oil and gas 

fiscal system, including onshore and offshore. We also recommended 

that the results of this comprehensive review be presented to the 

Congress so that it can act appropriately in the event any existing laws 

or regulations that govern the leasing and collection of revenues from 

federal oil and gas leases could be improved in light of the 

recommendations of the independent panel. 

5. Interior states that the report implies that Interior maximizes 

government receipts from oil and gas leases. We disagree that the 

report implies this and can find no place in the report where we 

believe a reader would make such an inference. 

6. We disagree with Interior’s statement that it “analyzes fiscal terms 

before each lease sale and reviews the results of each sale.” Interior’s 

analysis of prospective leases is for offshore leases only and, according 

to Interior officials, is an analysis of the prospectivity of the offshore 

tract, designed to set minimum adequate bids. It is not a review of 

“fiscal terms,” as Interior states in its comments. With regard to the 

two recent royalty rate increases for future oil and gas leases in the 

Gulf of Mexico, these increases do not resolve fair market value for 

past leases issued with inflexible fiscal terms and are themselves 

inflexible. Therefore, if future oil and gas prices turn out to be different 

than what Interior expected when they made the changes, the resulting 

Page 36 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from 

Department of the Interior 

outcome will again not reflect a fair return and could be too high or 

too low, depending on what happens in the oil and gas markets. 

7. With regard to Interior’s comment that it recently contracted with a 

panel of academic oil and gas industry experts to conduct a study of 

fiscal arrangements including fixed and sliding royalty terms, please 

see our general response to Interior’s comments on page 24. 

8. We agree with the statements Interior makes in this paragraph, and 

note that these concepts are also well represented in our report. For 

example, we note that investment choices are affected by many 

variables, including the fiscal system of rents, royalties, and bonus 

bids, as well as the cost of capital, risk, and the attractiveness of 

investments; indeed, we designed the job to discuss the first range of 

issues in our first objective, and the second range of issues in the 

second objective. We conclude, and Interior agrees, that any increases 

in federal revenues through higher fiscal terms must be carefully 

weighed; however, Interior has not done this “careful weighing” in 

making its royalty rate increases. That is why we recommended a 

comprehensive review of the federal oil and gas fiscal system. 

9. With regard to Interior’s comment that it operates under a 

management and leasing policy defined by the Congress in the OCSLA 

and FLPMA, we agree and this is reflected on page 3 of the draft 

report. However, Interior cannot effectively conduct the mineral 

leasing programs without evaluating federal mineral leasing systems 

and assessing industry rates of return and other factors discussed in 

this report. Interior must keep abreast of these issues and 

developments in fiscal regimes elsewhere, and advise Congress on 

developments in the competitiveness of the federal oil and gas fiscal 

system versus those employed by other resource owners. Further, our 

audit work shows that Interior has responded to oil and gas market 

changes in a reactive, rather than strategic and forward-looking 

manner, and we believe the Congress needs to be kept abreast of 

changes affecting federal oil and gas leasing and revenue generation. 

10. Interior comments that the draft report does not mention the royalty 

relief mandated by the Congress in the Energy Policy Act of 2005, and 

its decision to seek repeal of this provision, and that the impact of the 

law should have been taken into consideration. We agree that the draft 

report did not discuss the 2005 law explicitly but note that the results 

we report do implicitly take this law into consideration. Our results on 

the government take and attractiveness of investment in the deep 

water Gulf of Mexico derive largely from a 2007 study done by Wood 

Mackenzie that took into account the impact of the existing laws at the 

Page 37 GAO-08-691 Oil and Gas Royalties 
Appendix III: Comments from 

Department of the Interior 

time of the study. We have added language to make explicit 

acknowledgement of the Energy Policy Act of 2005 

11. See our general response to Interior’s comments on page 24-25 of this 

report. 

12. See our general response to Interior’s comments on page 24-25 of this 

report. 

13. See our general response to Interior’s comments on page 24-25 of this 

report. 

Page 38 GAO-08-691 Oil and Gas Royalties 
Appendix IV: 

St

GAO Contact and 

aff Acknowledgments

Page 39 GAO-08-691 Oil and Gas Royalties 

Appendix IV: GAO Contact and Staff 

Acknowledgments 

Frank Rusco, (202) 512-3841 or Ruscof@gao.gov

In additional to the individual named above, Jon Ludwigson (Assistant 

Director), Robert Baney, Ron Belak, Nancy Crothers, Glenn Fischer, 

Michael Kendix, Carol Kolarik, Michelle Munn, Daniel Novillo, Ellery 

Scott, Rebecca Shea, Dawn Shorey, Barbara Timmerman, and Maria 

Vargas made key contributions to this report. 

GAO Contact 

Staff 

Acknowledgments 

(360835) 
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