The problem began in the late 1940’s and early 50’s as major new discoveries meant lots of drilling. Since a significant number of these fields remain in production to this day, there remains a lot of old wells kicking around. Sometimes, however they are still around for a reason.
As the geology of Alberta’s oil fields became better understood, other petroleum-bearing zones above or below the initial discovery became increasingly economic (or understood) over the years. This greatly extending the life of the field – and the usefulness of existing wells. The Duvernay play is an excellent example. Development of this prolific zone occurred within the last 5-8 years in areas that had been originally drilled in the 1950s. Existing wellbores and/or well lease sites are very useful for evaluating new ideas, because the infrastructure can sometimes be reused. Also, some wells contain known reserves that are not economic at current prices, but would be at much higher ones. Why spend to abandon these wells when higher prices may make them economic (the logic goes)?
Often there is an incentive to simply suspend old wells that became non-productive, rather than abandon and reclaim them. There is even a compelling environmental argument to be made for the practice; a standing wellbore with a cleared lease can be a useful asset down the road as new plays unfold, because new roads and leases need not be cleared, thereby preserving natural forest or grassland. And sometimes even the existing wellbore can be reused.
As long as the industry was dynamic, healthy, and growing, these wellbores were as much an asset as a liability. Now, however, the tide has turned. The number of inactive wells has seemingly become too large, an estimated 170,000. With many companies facing uncertain futures the government needed a plan.
Thus was born the Licensee Liability Rating (LLR) program. The purpose of which is to “prevent the costs to suspend, abandon, remediate, and reclaim a well, facility, or pipeline in the LLR Program from being borne by the public of Alberta should a licensee become defunct.” The program worked well enough in a high price environment. But like every other facet of the industry, the program is not functioning as intended with current prices.
The LLR program requires posting of security deposits if estimated liabilities, at a company level, exceed an approximated value of production. You can see where the problem starts: even if liabilities stay the same, the value of production may plummet as a result of market forces. The result is that companies that can least afford it are facing the possibility of having to come up with more cash to hand over to the government to improve their LLR rating.
An unfortunate side effect of the program is that smaller companies, living closer to the debt edge, are bearing the brunt of the problem. Large companies with thousands of wells have flexibility, scale, and diversification to the extent that the LLR program works very well for them. In some sense, these companies enjoy “too big to fail” status. If a small company in financial difficulty has, for example, 50 suspended wells to abandon at $150,000 each, the owners and their bankers have a dilemma. If a company with 20,000 of these lepers is on the ropes, that becomes a $3 billion problem and the circle of concerned grows exponentially.
Further adding to the misery is the age of many of the wells. Fifty years ago, standards were much different than today. A salt water spill that occurred 40 years ago may still be on the books and will have to be dealt with to properly reclaim the site. The cost to remediate these old spill sites is therefore almost open ended; how far has the contamination gone in 40 years? All we know is – it will take a lot of money to find out.
A recent report in the news took a cheap shot at Alberta’s situation by comparing it unfavourably to North Dakota’s. While it’s true that North Dakota does require a $50,000 reclamation bond to be posted when a well is drilled, which is a very good idea, the comparison is not particularly helpful. North Dakota’s energy history is nothing like Alberta’s.
Despite the state having a mini-boom in the 1950s, since then, there was minimal activity. Not until the most recent shale fueled boom did North Dakota’s energy industry experience a period a substantial growth. In response to the renewed flurry of activity, the state government implemented the bond requirement. Conversely, Alberta’s rig counts have been multiples of North Dakota’s for decades, and in a time when the environmental impact was not nearly as much on the public radar. And at any rate, North Dakota’s “Abandoned Well Fund” has a March 2016 balance of $11.8 million. I’m not sure what that’s supposed to cover but it won’t get them too far.
News articles like this seek only to foster confrontation with inflammatory stories. Yes, in hindsight it would have been good for Alberta to have deposits posted with drilling licenses. But they weren’t, and pointing out what could have been serves no useful purpose.
Ironically, suspended wells have provided a massive benefit to rural Alberta that never makes the news, but is starting to now that it is shrinking. Farmers and rural landowners, who have been for decades receiving significant lease payments for having wells on their land, are seeing the golden goose die off as companies go bankrupt and are unable to maintain annual payments. One side of the story, however, makes the news – that farmers are no longer getting payments – but the other side does not, that the very wells that sit suspended have generated billions in revenue for rural communities over the years. A surface rental for a well can be as much as $2,500 per year. For a farmer who has 20 wells on his or her land, that means $50,000 per year directly into his or her pocket. And there are a lot of these wells out there.
The massive number of suspended wells in Alberta has generated a staggering amount of wealth and benefits for all Canadians, and provided a reliable source of cheap energy for the US through Alberta’s stable, open jurisdiction. Those very wells generated hundreds of billions in revenue and created not just direct jobs, but spin off jobs, royalties, and transfer payments to other provinces to help pave their roads and build their hospitals.
Timing could not be worse for a push to clean up the issue. For cash strapped companies under the current structure, there is no way out as long as commodity prices remain low. Cash-strapped governments are similarly boxed in. There is little money in the coffers to fund any programs and little stomach to demand action and force more companies out of business.
But there are possible solutions. Of course, that is only if all parties work together. Companies are in fact willing to embark on abandonment programs, and more importantly willing to acquire these older assets, if there is some form of certainty as to what the bill will be and when. But the very real fear exists that clean-up legislation could be enacted that would accelerate the reclamation process, although it is evident that such a move now would only create business for insolvency firms.
The best solution would be a system that rewards companies for getting on with the abandonment process and not kicking the can down the road. An incentive is needed to kick start spending on abandonments. Right now there is an enormous disincentive, because an abandonment might cost $100,000 if it works perfectly, or $400,000 if there are nasty surprises. Who wants to roll the dice and find out in this environment? And reclamations can be just as bad or worse. At present, some mature properties in the province are non-saleable because of potential liabilities that are open ended – no one knows how large they could be. An old flare pit may be cheap to abandon, or could bankrupt a small company, and no one will know the total cost until it’s completed. Exploration and production companies need to be credited for whatever cost is incurred, somehow.
A point for optimism is that most of the problematic older fields still have significant productive capability. So perhaps the answer is some sort of royalty credit for each well abandoned, with a special escalating reward for wells or fields that are too hideous to look at. The royalty rebates could be tied to commodity prices, with an increasing percentage of any windfall directed towards cleaning up the problem. In that way governments and industry would share the burden, which would be easier to take on in a rising price environment.
It’s just an idea, and there are of course many others, but the ultimate answer will be some variant of this theme. The problem is too large for industry to tackle without strong incentives, and it’s too much to ask the government to take on regardless of past benefits. Should we be fortunate enough to see a rebound in oil and gas prices, it would be wise to ensure that a portion of the next boom goes towards the problem, in one way or another.
Read more insightful analysis from Terry Etam here