Monday, April 07, 2008

I Read Dunn and Valentine and I Still Don't Know If Albertans Are Getting Their Fair Share of Royalties

I have read “Building Confidence” the Peter Valentine document on “Improving Accountability and Transparency in Alberta’s Royalty System” that was released today. Apparently the former Auditor General was asked by the Premier to consider “oversight of the royalty system, a review and assessment of the government’s business processes and controls; and a performance measurement and reporting.” Mr. Valentine has made 13 recommendations that the Minister of Energy was quick to note today the all Valentine’s recommendations will be accepted by the government.

The genesis for this “Building Confidence” undertaking was in response to a report last fall by Fred Dunn, the current Auditor General, who criticized the government on how it reviewed and decided to adjust royalties. Dunn made 5 recommendations and it looks like Valentine has caught all of them in his report. Valentine has also made recommendations that make the Minister of Energy more accountable to Cabinet and therefore Albertans and not just the one-man-show “decider” of all things royalty related as in the past.

Valentine hired KPMG to help him out in his review. They were charged with reviewing the “source and nature of assurance the Department has over the accuracy and completeness of industry and/or other external data. They also were tasked to review the processes in the Department to collect external data and information used to assess the performance of Alberta’s non-renewable recourse revenue policy and collection of royalties. What KPMG was not asked to do was “review of calculations, data input, reporting and verification processes and controls that take place outside the Department, for instance in oil and gas companies and the Energy Resources Conservation Board.”

It is more interesting as to what was out of scope in both reports. Dunn did an analysis on conventional oil and gas and oil sands for a 5 year period starting in 2000. He also did not examine the system the Department used to calculate and collect the royalty and bonus revenues. He did not assess if Alberta Energy “…has adequate controls on the completeness and accuracy of data that form the foundation for royalty calculation.”

Dunn notes that in coming to a calculation for royalty revenues the government uses averages and scenarios covering a range of pool sizes and well characteristics from publically available sources. Industry on the other hand models well data outputs based on “confidential information such as the company’s financial parameters.” The upshot is government models royalty returns on “averages” to estimate economic rents but industry models the specific well or project to determine profitability and rate of return.

The two reports by Auditor Generals present and past are excellent documents but they both beg and profoundly fail to answer the foundational question…are Albertans getting all the royalties they are entitled to under the law? If we don’t know if the input data is accurate and if the model being used is adequate how can we tell? If industry uses one model and government uses another how can we cross check for accuracy in calculations?

Valentine says the Department settles for a vague answer to this foundational question. He says the Department “estimates that it will effectively collect 100% of the available return to Albertans by collecting 20%-25% of the industry’s net operating revenues.” Well my understanding is we have not been at this rate of return for royalties and recommendations by the Department to the former Minister(s) to return to that range of royalty revenues were rejected unilaterally by him/them.

Both Dunn and Valentine noted the royalty system in place no longer served the public interest in the days of high and fluctuating commodity prices. That is where Dunn identified the $1 billion of opportunity losses from uncollected potential revenues. Valentine says there is no substance to support claims we were missing collecting money but the admission of the various systemic flaws makes it difficult to square that conclusion with so many unknowns still unknown.

It looks like industry knows its own numbers on production and costs. Industry’s actual production numbers of our non-renewable resources belonging to Albertans should be made public and used for royalty calculations on a gross basis. Costs of doing business are individual corporate competitive issue and that data rightly belong to the industry players and not the public.

This dichotomy of data and cdifference in alculations between the industry private and the Alberta public interests provides us with a problem in determining if we are getting Our Fair Share. What needs to change is the royalty regime based on net revenues and move to a gross production and commodity price based calculation for royalties. That way we don’t care about the company’s costs of doing business and our government doesn’t need to make wild-assed guesses and averaging calculations to deem a production total.

Mr. Premier, you have two excellent reports on royalties now but neither of them adequately answers the single most important and fundamental question on the minds of Albertan…are we getting our fair share. Until that is answered authoritatively and authentically with information and evidence to back it up the job is not done and the foundational question is not answered.