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Testimony: 

Before the Committee on Natural Resources, House of Representatives: 

United States Government Accountability Office: 
GAO: 

For Release on Delivery: 
Expected at 10:00 a.m. EDT:
Wednesday, September 16, 2009: 

Federal Oil And Gas Management: 

Opportunities Exist to Improve Oversight: 

Statement of Frank Rusco, Director:
Natural Resources and Environment: 

GAO-09-1014T: 

GAO Highlights: 

Highlights of GAO-09-1014T, a testimony before the Committee on Natural 
Resources, House of Representatives. 

Why GAO Did This Study: 

In fiscal year 2008, the Department of the Interior collected over $22 
billion in royalties and other fees related to oil and gas. Within 
Interior, the Bureau of Land Management (BLM) manages onshore federal 
oil and gas leases, and the Minerals Management Serviceís (MMS) 
Offshore Energy and Minerals Management (OEMM) manages offshore leases. 
A federal lease gives the lessee rights to explore for and develop the 
leaseís oil and gas resources. MMS is responsible for collecting 
royalties for oil and gas produced from both onshore and offshore 
leases. 

GAO has reviewed federal oil and gas management and revenue collection 
and found many material weaknesses. This testimony is based primarily 
on key findings from past GAO reports and some preliminary findings 
from ongoing work. These findings focus on Interiorís: (1) policies for 
oil and gas leasing, (2) oversight of oil and gas production, (3) 
royalty regime and policies to boost oil and gas development, (4) oil 
and gas information technology (IT) systems, and (5) royalty-in-kind 
program. GAOís past reports provided recommendations that Interior 
officials report that they are working to implement. 

What GAO Found: 

GAOís numerous evaluations of federal oil and gas management have 
identified five key areas where Interior could provide greater 
oversight: 

* Interiorís policies for leasing offshore and onshore oil and gas 
differed in key ways. Specifically, MMS sets out a 5-year strategic 
plan identifying both a leasing schedule and the areas it would lease. 
In contrast, BLM relies on industry and others to nominate areas for 
leasing, then selected lands to lease from these nominations, as well 
as areas it had identified. Additionally, MMS independently assessed 
the value of the lease and reserves the right to reject low bids, 
whereas BLM relied exclusively on the results of its bid auctions to 
determine the leaseís market value. 

* Oil and gas activity has generally increased in recent years, and 
Interior has, at times, been unable to meet its legal and agency 
mandated oversight obligations for (1) completing required 
environmental inspections, (2) verifying oil and gas production, (3) 
using categorical exclusions to streamline environmental analyses 
required for certain oil and gas activities, and (4) performing 
environmental monitoring in accordance with land use plans. 

* Interior may be missing opportunities to fundamentally shift the 
terms of federal oil and gas leases and increase revenues. Compared to 
other countries, the United States receives one of the lowest shares of 
revenue for oil and gas. In addition, Interiorís royalty rate, which 
does not change to reflect changing prices and market conditions, has 
at times, led to pressure on Interior and Congress to periodically 
change royalty rates in response to market conditions. Interior also 
has done less than some states and private landowners to encourage 
lease development and may be missing opportunities to increase 
production and, subsequently, revenues. 

* Interiorís oil and gas IT systems lack key functionalities. GAOís 
past work found that MMSís ability to maintain the accuracy of oil and 
gas production and royalty data was hampered by two key limitations in 
its IT system (1) it did not limit companiesí ability to adjust self-
reported data after MMS had audited them, and (2) it did not identify 
missing royalty reports. Preliminary GAO findings have also identified 
technical problems within BLMís IT systems and their compatibility with 
MMSís IT systems. 

* Interiorís royalty-in-kind program, in which oil and gas producers 
submit royalties in oil and gas rather than cash, continues to face 
challenges. GAO found problems with MMSís analysis of program benefits 
that were reported to Congress, and that MMS failed to use third party 
data to verify companiesí self-reported data. Meanwhile, Interiorís 
Inspector General identified major ethical lapses, including 
inappropriate relationships between MMS royalty-in-kind program 
officials and industry representatives. 

View GAO-09-1014T or key components. For more information, contact 
Frank Rusco at (202) 512-3841 or ruscof@gao.gov. 

[End of section] 

Mr. Chairman and Members of the Committee: 

We appreciate the opportunity to participate in this hearing to discuss 
the Department of the Interior's management of federal oil and gas 
leases and the proposed Consolidated Land, Energy, and Aquatic 
Resources Act of 2009. Effective management and oversight of our 
nation's oil and gas resources, and the royalties paid on their 
production, is increasingly critical as our country faces both serious 
fiscal challenges and long-term projected growth in energy demand. 

Interior plays an important role in managing federal oil and gas 
resources. In fiscal year 2008, Interior reported that private 
companies extracted approximately 467 million barrels of oil and 4.7 
trillion cubic feet of natural gas from federal lands and waters. This 
production provided significant revenue to the federal government. 
Specifically, Interior collected more than $22 billion in royalties for 
oil and gas produced from federal lands and waters, purchase bids for 
new oil and gas leases, and annual rents on existing leases, making 
revenues from federal oil and gas one of the largest nontax sources of 
federal government funds. Within Interior, the Bureau of Land 
Management (BLM) manages onshore federal oil and gas leases and the 
Minerals Management Service's (MMS) Offshore Energy and Minerals 
Management (OEMM) manages offshore leases. MMS is responsible for 
collecting royalties for both onshore and offshore leases. 

In recent years, GAO and others, including Interior's Inspector General 
have conducted numerous evaluations of federal oil and gas management 
and revenue collection processes and practices and have found many 
material weaknesses in this management. These weaknesses place an 
unknown but significant proportion of royalties and other oil and gas 
revenues at risk and raise questions about whether the federal 
government is collecting an appropriate amount of revenue for the 
rights to explore for, develop, and produce oil and gas from federal 
lands and waters. 

In this context, my testimony today addresses (1) Interior's policies 
and practices for oil and gas leasing, (2) Interior's oversight of oil 
and gas production, (3) the existing royalty fiscal regime and 
Interior's policies to encourage oil and gas development, (4) 
inefficiencies within Interior's oil and gas information technology 
(IT) systems, and (5) the ongoing challenges with Interior's Royalty- 
in-Kind (RIK) program. Across several of these areas, our past work has 
led us to make a number of recommendations to the Secretary of the 
Interior. Officials at Interior have reported that they are working to 
implement many of these recommendations. This statement is primarily 
based on our extensive body of work on Interior's oil and gas leasing 
and royalty collection programs, including one report being issued 
today,[Footnote 1] as well as some preliminary ongoing work on 
Interior's procedures for ensuring oil and gas produced from federal 
leases is properly accounted for. This body of work was conducted 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 during these reviews provides a reasonable basis 
for our findings and conclusions based on our audit objectives. 

Interior's Policies for Offshore and Onshore Oil and Gas Leases Differ 
in Key Ways: 

In October 2008, we reported that Interior's policies for identifying 
and evaluating lease parcels and bids differ in key ways depending on 
whether the lease is located offshore--and therefore overseen by OEMM-
-or onshore--and therefore overseen by BLM.[Footnote 2] These 
differences follow. 

Identifying lease parcels. OEMM's and BLM's methods for identifying 
areas to lease vary significantly. Specifically: 

* For offshore leases, OEMM--as prescribed by the Outer Continental 
Lands Act--lays out 5-year strategic plans for the areas it plans to 
lease and establishes a schedule for offering leases. OEMM offers 
leases for competitive bidding, and all eligible companies may submit 
written sealed bids, referred to as bonus bids, for the rights to 
explore, develop, and produce oil and gas resources on these leases, 
including drilling test wells. 

* For onshore leases, BLM--which must follow the Federal Onshore Oil 
and Gas Leasing Reform Act of 1987--is not required to develop a long- 
term leasing plan and instead relies on the industry and the public to 
nominate areas for leasing. BLM selects lands to lease from these 
nominations, as well as some parcels it has identified on its own. In 
some cases, BLM, like MMS, offers leases through a competitive bidding 
process, but with bonus bids received in an oral auction rather than in 
a sealed written form. 

Evaluating bids. OEMM and BLM differ in their regulations and policies 
for evaluating whether the bids received for areas offered for lease 
are sufficient. Specifically: 

* For offshore leases, OEMM compares sealed bids with its own 
independent assessment of the value of the potential oil and gas in 
each lease. After the bids are received, OEMM--using a team of 
geologists, geophysicists, and petroleum engineers assisted by a 
software program--conducts a technical assessment of the potential oil 
and gas resources associated with the lease and other factors to 
develop an estimate of their fair market value. This estimate becomes 
the minimally acceptable bid and is used to evaluate the bids received. 
The bidder that submits the highest bonus bid that meets or exceeds 
MMS's estimate of the fair market value of a lease is awarded the 
lease. These rights last for a set period of time, referred to as the 
primary term of the lease, which may be 5, 8, or 10 years, depending on 
the water depth. If no bids equal or exceed the minimally acceptable 
bid, the lease is not awarded but is offered at a subsequent sale. 
According to OEMM, since 1995, the practice of rejecting bids that fall 
below the minimally acceptable bid and re-offering these leases at a 
later sale has resulted in an overall increase in bonus receipts of 
$373 million between 1997 and 2006. 

* For onshore leases, BLM relies exclusively on competitors, 
participating in an oral auction, to determine the lease's market 
value. Furthermore, BLM, unlike OEMM, does not currently employ a 
multidisciplinary team with the appropriate range of skills or 
appropriate software to develop estimates of the oil and gas reserves 
for each lease parcel, and thus, establish a market and resource-based 
minimum acceptable bid. Instead, BLM has established a uniform national 
minimum acceptable bid of at least $2 per acre and has taken the 
position that as long as at least one bid meets this $2 per acre 
threshold, the lease will be awarded to the highest bidder. 
Importantly, onshore leases that do not receive any bids in the initial 
offer are available noncompetitively the day after the lease sale and 
remain available for leasing for a period of 2 years after the 
competitive lease sale. Any of these available leases may be acquired 
on a first-come, first-served basis subject to payment of an 
administrative fee. Prior to 1992, BLM offered primary terms of 5 years 
for competitively sold leases and 10 years for leases issued 
noncompetitively. Since 1992, BLM has been required by law to only 
offer leases with 10-year primary terms whether leases are sold 
competitively or issued noncompetitively. 

Interior's Oversight of Federal Oil and Gas Production Has Not Kept 
Pace with Increased Activity: 

Oil and gas activity has generally increased over the past 20 years, 
and our reviews have found that Interior has--at times--been unable to 
meet its oversight obligations for (1) completing environmental 
inspections, (2) verifying oil and gas production, (3) performing 
environmental monitoring in accordance with land use plans, and (4) 
using categorical exclusions to streamline environmental analyses 
required for certain oil and gas activities. Specifically: 

* Completing environmental inspections. In June 2005, we reported that, 
with the increase in oil and gas activity, BLM had not consistently 
been able to complete its required environmental inspections--the 
primary mechanism to ensure that companies are complying with various 
environmental laws and lease stipulations. At the time of our review, 
BLM officials explained that because staff were spending increasing 
amounts of time processing drilling permits, they had less time to 
conduct environmental inspections.[Footnote 3] 

* Verifying oil and gas production. In September 2008, we reported that 
neither BLM nor OEMM was meeting its statutory obligations or agency 
targets for inspecting certain leases and metering equipment used to 
measure oil and gas production, raising uncertainty about the accuracy 
of oil and gas measurement. For onshore leases, BLM had completed only 
a portion of its production verification inspections--with some BLM 
offices completing all of their required inspections and others 
completing portions as small as one quarter of their required 
inspections--because its workload has substantially grown in response 
to increases in onshore drilling. For offshore leases, OEMM had 
completed about half of its required production inspections in 2007 
because of ongoing cleanup work related to Hurricanes Katrina and Rita. 
[Footnote 4] Additionally, in our ongoing work, we have found that 
Interior has not consistently updated its oil and gas measurement 
regulations. Specifically, OEMM has routinely reviewed and updated its 
measurement regulations, whereas BLM has not. Accordingly, OEMM has 
updated its measurement regulations six times since 1998, whereas BLM 
has not updated its measurement regulations since 1989. 

* Performing environmental monitoring. In June 2005, we reported that 
four of the eight BLM field offices we visited had not developed any 
resource monitoring plans to help track management decisions and 
determine if desired outcomes had been achieved, including those 
related to mitigating the environmental impacts of oil and gas 
development. We concluded that without these plans, land managers may 
be unable to determine the effectiveness of various mitigation measures 
attached to drilling permits and decide whether these measures need to 
be modified, strengthened, or eliminated. Officials offered several 
reasons for not having these plans, including that staff that could 
have been used to develop such plans had been busy with processing an 
increased number of drilling permits, as well as budget constraints. 
[Footnote 5] 

* Using categorical exclusions. Our report issued today on BLM's use of 
categorical exclusions[Footnote 6]--authorized under section 390 of the 
Energy Policy Act of 2005 to streamline the environmental analysis 
required under the National Environmental Policy Act (NEPA) when 
approving certain oil and gas activities--identifies some benefits but 
raises numerous questions about how and when BLM should use these 
categorical exclusions. First, our analysis found that BLM used section 
390 categorical exclusions to approve over one-quarter of its 
applications for drilling permits from fiscal years 2006 to 2008. While 
these categorical exclusions generally increased the efficiency of 
operations, some BLM field offices, such as those with recent 
environmental analyses already completed, were able to benefit more 
than others. Second, we found that BLM's use of section 390 categorical 
exclusions was frequently out of compliance with both the law and 
agency guidance and that a lack of clear guidance and oversight by BLM 
were contributing factors. We found several types of violations of the 
law, such as BLM offices approving more than one oil or gas well under 
a single decision document and drilling a new well after statutory time 
frames had lapsed. We also found examples, in 85 percent of field 
offices reviewed, where officials did not comply with agency guidance, 
most often by failing to adequately justify the use of a categorical 
exclusion. While many of these violations and noncompliance were 
technical in nature, others were more significant and may have thwarted 
NEPA's twin aims of ensuring that BLM and the public are fully informed 
of environmental consequences of BLM's actions. Third, we found that a 
lack of clarity in both section 390 of the act and BLM's guidance has 
raised serious concerns. Specifically: 
(1) Fundamental questions about what section 390 categorical exclusions 
are and how they should be used have led to concerns that BLM may be 
using these categorical exclusions in too many--or too few--instances; 
for example, there is disagreement as to whether BLM must screen 
section 390 categorical exclusions for circumstances that would 
preclude their use or whether their use is mandatory; 
(2) Concerns about key concepts underlying the law's description of 
these categorical exclusions have arisen--specifically, whether section 
390 categorical exclusions allow BLM to exceed development levels, such 
as number of wells to be drilled, analyzed in supporting NEPA documents 
without conducting further analysis; and; 
(3) Vague or nonexistent definitions of key criteria in the law and BLM 
guidance have led to varied interpretations among field offices and 
concerns about misuse and a lack of transparency. In light of our 
findings from this report, we recommended that BLM take steps to 
improve the implementation of section 390 of the act by clarifying 
agency guidance, standardizing decision documentation, and ensuring 
compliance through more oversight.[Footnote 7] We also suggested that 
Congress may wish to consider amending the Energy Policy Act of 2005 to 
clarify and resolve some of the key issues identified in our report. 

Interior May be Missing Opportunities to Fundamentally Shift the Terms 
of Federal Oil and Gas Leases to Increase Revenues: 

In our past work, we have identified several areas where Interior may 
be missing opportunities to increase revenue by fundamentally shifting 
the terms of federal oil and gas leases. As we reported in September 
2008, (1) federal oil and gas leasing terms result in the U.S. 
government receiving one of the smallest shares of oil and gas revenue 
when compared to other countries and (2) Interior's royalty rate, which 
does not change to reflect changing prices and market conditions, led 
to pressure on Interior and Congress to periodically change royalty 
rates.[Footnote 8] We also reported that Interior was doing far less 
than some states to encourage development of leases.[Footnote 9] 
Specifically: 

* The U.S. government receives one of the lowest shares of revenue for 
oil and gas resources compared with other countries and resource 
owners. For example, we reported the results of a private study in 2007 
showing that the revenue share the U.S. government collects on oil and 
gas produced in the Gulf of Mexico ranked 93rd lowest of the 104 
revenue collection regimes around the world covered by the study. 
Further, the study showed that some countries had increased their 
shares of revenues as oil and gas prices rose and, as a result, could 
collect between an estimated $118 billion and $400 billion, depending 
on future oil and gas prices. However, despite significant changes in 
the oil and gas industry over the past several decades, we found that 
Interior had not systematically re-examined how the U.S. government is 
compensated for extraction of oil and gas for over 25 years. 

* Since 1980, in part due to Interior's inflexible royalty rate 
structure, Congress and Interior have been pressured--with varying 
success--to periodically adjust royalty rates to respond to current 
market conditions. For example, in 1980, a time when oil prices were 
high compared to today's prices, in inflation-adjusted terms, Congress 
passed a windfall profit tax, which it later repealed in 1988 after oil 
prices had fallen significantly from their 1980 level. Later, in 
November 1995--during a period with relatively low oil and gas prices-
-the federal government enacted the Outer Continental Shelf Deep Water 
Royalty Relief Act (DWRRA) which provided for "royalty relief," the 
suspension of royalties on certain volumes of initial production, for 
certain leases in the Gulf of Mexico in depths greater than 200 meters 
during the 5 years after passage of the act--1996 through 2000. For 
leases issued during these 5 years, litigation established that MMS 
lacked the authority under the act to impose thresholds.[Footnote 10] 
As a result, companies are now receiving royalty relief even though 
prices are much higher than at the time the DWRRA was enacted. In June 
2008, we estimated that 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. Finally, 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 16.66 percent. Later, in October, the rate for all future 
leases in the Gulf, including those issued in 2008, was raised to 18.75 
percent. Interior estimated these actions would 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. 

We concluded that these royalty rate increases appeared 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. 
Further, the royalty rate increases did not address industry profits 
from existing leases. Existing leases, with lower royalty rates, would 
likely remain highly profitable as long as they produced oil and gas or 
until oil and gas prices fell significantly. 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 increased 
royalty rates are not flexible with respect to oil and gas prices, 
Interior and Congress could 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 rise. Finally, these past royalty changes only 
affected Gulf of Mexico leases and did not address onshore leases. 

* Interior's OEMM and BLM varied in the extent to which they encouraged 
development of federal leases, and both agencies did less than some 
states and private landowners to encourage lease development. As a 
result, we concluded that Interior may be missing opportunities to 
increase domestic oil and gas production and revenues. Specifically, in 
the Gulf of Mexico, OEMM varied the lease length in accordance with the 
depth of water over which the lease is situated. For example, leases 
issued in shallow water depths typically have lease terms of 5 years, 
whereas leases in the deepest areas of the Gulf of Mexico have 10 year 
primary terms; shallower water tends to be nearer to shore and to be 
adjacent to already developed areas with pipeline infrastructure in 
place, while deeper water tends to be further out, have less available 
infrastructure to link up with, and generally present greater 
challenges associated with the depth of the wells themselves. In 
contrast, BLM issues leases with 10 year primary terms, regardless of 
whether the lease happens to lie adjacent to a fully developed field 
with the necessary pipeline infrastructure to carry the product to 
market, or whether it is in a remote location with no surrounding 
infrastructure. Furthermore, BLM also uses 10 year primary terms in the 
National Petroleum Reserve-Alaska, where it is significantly more 
difficult to develop oil fields because of factors including the harsh 
environment. We also examined selected states and private landowners 
that lease land for oil and gas development and found that some did 
more than Interior to encourage lease development. For example, to 
provide a greater financial incentive to develop leased land, the state 
of Texas allowed lessees to pay a 20 percent royalty rate for the life 
of the lease if production occurred in the first 2 years of the lease, 
as compared to 25 percent if production occurred after the fourth year. 
In addition, we found that some states and private landowners also did 
more to structure leases to reflect the likelihood of finding oil and 
gas. For example, New Mexico issued shorter leases and could require 
lessees to pay higher royalties for properties in or near known 
producing areas and allowed longer leases and lower royalty rates in 
areas believed to be more speculative. Officials from one private 
landowners' association told us that they too were using shorter lease 
terms, ranging from as little as 6 months to 3 years, to ensure that 
lessees were diligent in developing any potential oil and gas resources 
on their land. Louisiana and Texas also issued 3-year onshore leases. 
While the existence of lease terms that appear to encourage faster 
development of some oil and gas leases suggest a potential for the 
federal government to also do more in this regard, it is important to 
note that it can take several years to complete the required 
environmental analyses needed for lessees to receive approval to begin 
drilling on federal lands. 

To address what we believed were key weaknesses in this program, while 
acknowledging potential differences between federal, state, and private 
leases, we recommended that the Secretary of the Interior develop a 
strategy to evaluate options to encourage faster development of oil and 
gas leases on federal lands, including determining whether methods to 
differentiate between leases according to the likelihood of finding 
economic quantities of oil or gas and whether some of the other methods 
states use could effectively be employed, either across all federal 
leases or in a targeted fashion. In so doing, we recommended that 
Interior identify any statutory or other obstacles to using such 
methods and report the findings to Congress.[Footnote 11] 

We also noted 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,[Footnote 12] and: 

* direct MMS 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 Congress.[Footnote 13] 

Interior's Oil and Gas IT Systems Lack Key Functionalities: 

Our past work and preliminary findings have identified shortcomings in 
Interior's IT systems for managing oil and gas royalty and production 
information. In September 2008, we reported that Interior's oil and gas 
IT systems did not include several key functionalities, including (1) 
limiting a company's ability to make adjustments to self-reported data 
after an audit had occurred and (2) identifying missing royalty 
reports.[Footnote 14] Since September 2008, MMS has made improvements 
in identifying missing royalty reports, but it is too early to assess 
their effectiveness, and we remain concerned with the following issues: 

* MMS's ability to maintain the accuracy of production and royalty data 
has been hampered because companies can make adjustments to their 
previously entered data without prior MMS approval. Companies may 
legally make changes to both royalty and production data in MMS's 
royalty IT system for up to 6 years after the initial reporting month, 
and these changes may necessitate changes in the royalty payment. 
However, MMS's royalty IT system currently allows companies to make 
adjustments to their data beyond the allowed 6-year time frame. As a 
result of the companies' ability to make these retroactive changes, 
within or outside of the 6-year time frame, the production data and 
required royalty payments can change over time--even after MMS 
completes an audit--complicating efforts by agency officials to 
reconcile production data and ensure that the proper royalties were 
paid. 

* MMS's royalty IT system is also unable to automatically detect 
instances when a royalty payor fails to submit the required royalty 
report in a timely manner. As a result, cases in which a company stops 
filing royalty reports and stops paying royalties may not be detected 
until more than 2 years after the initial reporting date, when MMS's 
royalty IT system completes a reconciliation of volumes reported on the 
production reports with the volumes on their associated royalty 
reports. Therefore, it remains possible under MMS's current strategy 
that the royalty IT system may not identify instances in which a payor 
stops reporting until several years after the report is due. This 
creates an unnecessary risk that MMS may not be collecting accurate 
royalties in a timely manner. 

Additionally, in July 2009, we reported that MMS's IT system lacked 
sufficient controls to ensure that royalty payment data were accurate. 
[Footnote 15] While many of the royalty data we examined from fiscal 
years 2006 and 2007 were reasonable, we found significant instances 
where data were missing or appeared erroneous. For example, we examined 
gas leases in the Gulf of Mexico and found that, about 5.5 percent of 
the time, lease operators reported production, but royalty payors did 
not submit the corresponding royalty reports, potentially resulting in 
$117 million in uncollected royalties. We also found that a small 
percentage of royalty payors reported negative royalty values, which 
cannot happen, potentially costing $41 million in uncollected 
royalties. In addition, royalty payors claimed gas processing 
allowances 2.3 percent of the time for unprocessed gas, potentially 
resulting in $2 million in uncollected royalties. Furthermore, we found 
significant instances where royalty payor-provided data on royalties 
paid and the volume and or the value of the oil and gas produced 
appeared erroneous because they were outside the expected ranges. 

Moreover, in preliminary findings on Interior's procedures for ensuring 
oil and gas produced from federal leases is properly accounted, we 
found that: 

* The IT systems employed by both BLM and MMS fail to communicate 
effectively with one another resulting in cumbersome data transfers and 
data errors. For example, in order to complete the weekly transfer of 
oil and gas production data between MMS and BLM, MMS staff must copy 
all production data onto a disk, which then must be sent to BLM's 
building where it is subsequently uploaded into BLM's IT system. 
Furthermore, according to BLM staff, the production uploads are 
currently not working as intended. Frequently, an operator may make 
adjustments to production records, which results in the creation of a 
new record. When these new records are uploaded into BLM's IT system, 
they should replace--or overlay--the prior record. However, due to 
technical problems, new reports are not correctly overlaying the 
previously uploaded production reports; instead they are creating 
duplicate or triplicate production reports for the same operator and 
month. According to BLM's IT system coordinator, this will likely 
complicate BLM's production accountability work. 

* BLM's efforts to use gas production data acquired remotely from gas 
wells through its Remote Data Acquisition for Well Production program 
to facilitate production inspections have shown few results after 5 
years of funding and at least $1.5 million spent. Currently, BLM is 
only receiving production data from approximately 50 wells via this 
program, and it has yet to use the data to complete a production 
inspection, making it difficult to assess its utility. 

To address weaknesses we identified in our September 2008 report, 
[Footnote 16] we recommended that the Secretary of the Interior, among 
other things: 

* finalize the adjustment line monitoring specifications for modifying 
its royalty IT system and fully implement the IT system so that MMS can 
monitor adjustments made outside the 6-year time frame, and ensure that 
any adjustments made to production and royalty data after compliance 
work has been completed are reviewed by appropriate staff, and: 

* develop processes and procedures by which MMS can automatically 
identify when an expected royalty report has not been filed in a timely 
manner and contact the company to ensure it is complying with both 
applicable laws and agency policies. 

In addition, to address weaknesses identified in our July 2009 report, 
[Footnote 17] we made a number of recommendations to MMS intended to 
improve the quality of royalty data by improving its IT systems' edit 
checks, among other things. 

Interior's RIK Program Continues to Face Challenges: 

Interior's management and oversight of its RIK program has raised 
concerns as to whether Interior is receiving the correct royalty 
volumes of oil and gas. Both we and Interior's Inspector General have 
issued reports detailing deficiencies in both program management and 
management ethics, including (1) problems with reporting the benefits 
of the RIK program to Congress, (2) Interior's failure to use available 
third-party data to confirm gas production volumes, (3) inappropriate 
relationships between RIK staff and industry representatives, and (4) 
insufficient controls for monitoring natural gas imbalances, among 
others. Specifically: 

* In September, 2008, we reported that MMS's annual reports to Congress 
did not fully describe the performance of the RIK program and, in some 
instances, may have overstated the benefits of the program. For 
example, MMS's calculation that from fiscal years 2004 to 2006, MMS 
sold royalty oil and gas for $74 million more than it would have 
received in cash was based on assumptions, not actual sales data, about 
the prices at which royalty payors would have sold their oil or gas had 
they sold it on the open market. MMS did not report to Congress that 
even small changes in these assumptions could result in very different 
estimates. Also, MMS's calculation that the RIK program cost about $8 
million less to administer than the royalty-in-value program over the 
same period did not include certain costs, such as IT costs shared with 
the royalty-in-value program that would likely have changed the results 
of MMS's administrative cost analysis. In addition, MMS's annual 
reports to Congress lacked important information on the financial 
results of individual oil sales that Congress could use to more broadly 
assess the performance of the RIK program.[Footnote 18] 

* In 2008, we also reported that MMS's oversight of its natural gas 
production volumes was less robust than its oversight of oil production 
volumes. As a result, MMS did not have the same level of assurance that 
it is collecting the gas royalties it is owed. For instance, for oil, 
MMS compared companies' self-reported oil production data with third- 
party pipeline meter data from OEMM's liquid verification system, which 
records oil volumes flowing through pipeline metering points. Using 
these third-party pipeline statements to verify production volumes 
reported by companies would have provided a check against companies' 
self-reported statement of royalty payments owed to the federal 
government. While analogous data were available from OEMM's gas 
verification system, MMS did not use these third-party data to verify 
the company-reported production numbers.[Footnote 19] As of February 
2009, MMS had begun to use the gas verification system. 

* Interior's Inspector General also issued a report in September 2008 
which found that the program had suffered from ethical shortcomings. In 
particular, the Inspector General found that a program manager had been 
paid for consulting by an oil and gas company in violation of agency 
rules and that up to one-third of all RIK staff had inappropriately 
socialized and received gifts from oil and gas companies.[Footnote 20] 

Most recently, in August 2009, we found that MMS risks losing millions 
of dollars in revenue from the RIK natural gas program due to 
inadequate oversight.[Footnote 21] Specifically: 

* MMS lacks the necessary information to quantify revenues resulting 
from imbalances--instances when MMS receives a percentage of total 
production other than its entitled royalty percentage. MMS does not 
know the exact amount it is owed as a result of natural gas imbalances 
because it lacks at least three types of information. First, it does 
not verify all gas production data to ensure it receives its entitled 
percentage of RIK gas. Second, MMS lacks information on how to price 
gas imbalances and when interest will begin accruing on imbalances for 
leases that have terminated from the program or those leases where 
production has ceased. Finally, MMS could be forgoing revenue because 
it lacks information on daily gas imbalances. 

* MMS also may be forgoing revenue because it does not audit operator 
data to ensure it has received its entitled royalty percentage. 
Although MMS has procedures for reconciling imbalances and uses OEMM's 
gas verification system data where available, we found that it has not 
assessed the risk of forgoing audits at those measurement points where 
it does not have complete data with which to verify that it has been 
allocated its entitled percentage of gas. Although the RIK guidance 
letter to operators states MMS's right to audit operator information 
related to RIK gas produced and delivered, MMS has not done so because 
it has considered its verification of operator-generated data to be 
sufficient. MMS has also claimed that it has saved money as a result of 
not auditing and that this is a benefit of the RIK program. However, 
other royalty owners and members of the oil and gas industry regularly 
audit operator-reported data to ensure that they have received the gas 
they are entitled to. 

To address weaknesses we identified in our September 2008 and August 
2009 reports,[Footnote 22] we recommended that the Director of MMS, 
among other things: 

* improve calculations of the benefits and costs of the RIK program and 
the information presented to Congress by (1) calculating and presenting 
a range of the possible performances of the RIK sales in accordance 
with Office of Management and Budget guidelines; (2) reevaluating the 
process by which it calculates the early payment savings; (3) 
disclosing the costs to acquire, develop, operate, and maintain RIK- 
specific IT systems; and (4) disaggregating the oil sales data to show 
the variation in the performances of individual sales. 

* improve MMS's oversight of the RIK gas program and help ensure that 
the nation receives its fair share of RIK gas by (1) establishing 
policies and procedures to ensure outstanding imbalances are valued 
appropriately and that the correct amount of interest is charged; (2) 
monitoring daily gas imbalances and determining whether legislative 
changes are needed to require operators to deliver the royalty 
percentage on a daily basis; (3) auditing the operators and imbalance 
data; (4) promulgating RIK program regulations; and (5) establishing 
procedures, with reasonable deadlines, for resolving and collecting all 
RIK gas imbalances in a timely manner. 

In conclusion, over the past several years, we and others have examined 
oil and gas leasing at the Department of the Interior many times and 
determined such leasing to be in need of fundamental reform across a 
wide range of Interior's functions. As Congress considers what 
fundamental changes are needed in how Interior structures its oversight 
of oil and gas leasing, we believe that our and others' past work 
provides a road map for successful reform of the agency's oversight 
functions. If steps are not taken to effectively manage these 
challenges, we remain concerned about the agency's ability to manage 
the nation's oil and gas and provide reasonable assurance that the U.S. 
government is collecting an appropriate amount of revenue for the 
extraction and use of these scarce resources. 

Mr. Chairman, this completes my prepared statement. I would be happy to 
respond to any questions that you or other Members of the Committee may 
have at this time. 

GAO Contact and Staff Acknowledgments: 

For further information on this statement, please contact Frank Rusco 
at (202) 512-3841 or ruscof@gao.gov. Contact points for our 
Congressional Relations and Public Affairs offices may be found on the 
last page of this statement. Other staff that made key contributions to 
this testimony include Ron Belak, Ben Bolitzer, Melinda Cordero, Nancy 
Crothers, Heather Dowey, Glenn C. Fischer, Cindy Gilbert, Richard 
Johnson, Mike Krafve, Jon Ludwigson, Jeff Malcolm, Alison O'Neill, 
Justin Reed, Holly Sasso, Dawn Shorey, Karla Springer, Barbara 
Timmerman, Maria Vargas, Tama Weinberg, and Mary Welch. 

[End of section] 

Footnotes: 

[1] GAO, Energy Policy Act of 2005: Greater Clarity Needed to Address 
Concerns with Categorical Exclusions for Oil and Gas Development under 
Section 390 of the Act, [hyperlink, [hyperlink, 
http://www.gao.gov/products/GAO-09-872] (Washington, D.C.: Sept. 16, 
2009). 

[2] GAO, Oil and Gas Leasing: Interior Could Do More to Encourage 
Diligent Development, [hyperlink, 
http://www.gao.gov/products/GAO-09-74] (Washington, D.C.: Oct. 3, 
2008). 

[3] GAO, Oil and Gas Development: Increased Permitting Activity Has 
Lessened BLM's Ability to Meet Its Environmental Protection 
Responsibilities, [hyperlink, 
http://www.gao.gov/products/GAO-05-418] (Washington, D.C.: June 17, 
2005). 

[4] GAO, Mineral Revenues: Data Management Problems and Reliance on 
Self-Reported Data for Compliance Efforts Put MMS Royalty Collections 
at Risk, [hyperlink, http://www.gao.gov/products/GAO-08-893R] 
(Washington, D.C.: Sept. 12, 2008). 

[5] [hyperlink, http://www.gao.gov/vGAO-05-418]. 

[6] [hyperlink, http://www.gao.gov/products/GAO-09-872]. 

[7] [hyperlink, http://www.gao.gov/products/GAO-09-872]. 

[8] GAO, Oil and Gas Royalties: The Federal System for Collecting Oil 
and Gas Revenues Needs Comprehensive Reassessment, [hyperlink, 
http://www.gao.gov/products/GAO-08-691 (Washington, D.C.: Sept. 3, 
2008). 

[9] [hyperlink, http://www.gao.gov/products/GAO-09-74. 

[10] The Department of Justice filed a Petition for Writ of Certiorari 
with the Supreme Court on July 13, 2009 challenging the Fifth Circuit 
ruling in Kerr-McGee Oil & Gas Corp. v. U.S. Department of the 
Interior, 554 F.3d 1082 (5th Cir. 2009). 

[11] [hyperlink, http://www.gao.gov/products/GAO-08-691]. 

[12] [hyperlink, http://www.gao.gov/products/GAO-08-691]. 

[13] [hyperlink, http://www.gao.gov/products/GAO-09-74]. 

[14] [hyperlink, http://www.gao.gov/products/GAO-08-893R]. 

[15] GAO, Mineral Revenues: MMS Could Do More to Improve the Accuracy 
of Key Data Used to Collect and Verify Oil and Gas Royalties, 
[hyperlink, http://www.gao.gov/products/GAO-09-549] (Washington, D.C.: 
July 15, 2009). 

[16] [hyperlink, http://www.gao.gov/products/GAO-08-893R]. 

[17] [hyperlink, http://www.gao.gov/products/GAO-09-549]. 

[18] GAO, Oil and Gas Royalties: MMS's Oversight of Its Royalty-in-Kind 
Program Can Be Improved through Additional Use of Production 
Verification Data and Enhanced Reporting of Financial Benefits and 
Costs, [hyperlink, http://www.gao.gov/products/GAO-08-942R] 
(Washington, D.C.: Sept. 26, 2008). 

[19] [hyperlink, http://www.gao.gov/products/GAO-08-942R]. 

[20] Department of the Interior, Inspector General Investigative 
Report, August 7, 2008. 

[21] Royalty-in-Kind Program: MMS Does Not Provide Reasonable Assurance 
It Receives Its Share of Gas, Resulting in Millions in Forgone Revenue, 
[hyperlink, http://www.gao.gov/products/GAO-09-744] (Washington, D.C.: 
Aug. 14, 2009). 

[23] [hyperlink, http://www.gao.gov/products/GAO-08-942R] and 
[hyperlink, http://www.gao.gov/products/GAO-09-744]. 

[End of section] 

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