A New Agency Will Go After Oil Royalties

For energy companies, the scariest thing to wash up in the wake of BP's (BP) massive oil spill in the Gulf of Mexico may be a new federal agency, the Office of Natural Resources Revenue, whose sole purpose is to collect royalties. On Oct. 1 the bureau became the first of three new regulators to emerge from the wreckage of the Minerals Management Service, or MMS, the Interior Dept. unit that was reorganized in May amid accusations that its coziness with industry bordered on corruption.

Gregory J. Gould, the new agency's head, says he is putting in place sophisticated tools to ensure the government will get every dime it's owed. Companies will be tracked by sleuthing computers and watched by a growing number of auditors. The biggest change is what will happen when industry runs afoul of the rules: The office will have authority to levy penalties reaching into the hundreds of millions of dollars, rather than the token fines of the past. "We're sending a message to the industry that if you do cut corners, it's going to cost you," Gould says. "You could quickly take care of the federal deficit if you use the maximum."

That kind of talk—however tongue-in-cheek—is being interpreted as a warning shot by companies. "We are worried about an adversarial process," says Allison Nyholm, a royalty expert at the American Petroleum Institute. "There is huge discretion in the fines. That is where the rub is going to occur."

The new office is Obama's solution for fixing a dysfunctional royalty collection system. One MMS manager was caught buying cocaine from employees, and whistleblowers claimed companies were being allowed to skim millions off royalty bills. The number of auditors had fallen by 30 percent under President George W. Bush, whose priority was boosting domestic energy production. Gould, 49, a mild-mannered geologist and 29-year Interior veteran, was tapped to mop up in 2008, starting with a restructuring of MMS's Denver office, the scandal's epicenter. As oil gushed from the BP spill this spring, Interior Secretary Ken Salazar finally pulled the plug on MMS, which also regulated offshore drilling and where Gould had once served as chief of the environmental division. Now Gould's job is to chase the money. He is charged with collecting $10 billion a year in royalties from on- and offshore oil and gas leases, the U.S.'s second-biggest source of revenue after the tax code. "That whole environment" that came to light in 2008 is "100 percent gone," Gould says.

Maybe. Changing an agency's culture is one thing; getting companies to pay what the government thinks they owe on thousands of leases is another. Energy royalties work much the way income taxes do: Companies self-report what they owe, and like taxpayers, many cheat, audits show. The new agency will get 19 more auditors this year, bringing the total to 164. The new audit review system uses a risk-based algorithm, modeled in part on one used by the IRS, to identify companies most likely to cheat. Previously, only the biggest companies faced the prospect of an audit, Gould says. "By going after only the big companies, small ones knew they could cut corners," he says. "This takes that away."

The bottom line: The head of the new royalty-collecting Interior Dept. unit plans to move aggressively against oil companies.

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