Word to the Wise: Potential impacts of the Redwater decision.
January 30, 2019
With a Supreme Court of Canada ruling in the Redwater case anticipated this week, let’s look at what a decision one way or the other might mean for Canadian oil and gas.
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The issue of Licensee liability in Alberta’s oil and gas sector has been evolving for many years. The Alberta Energy Regulator (AER) introduced changes to the Licensee Liability Rating (LLR) from 2013 through 2015, and then again in 2016. The outcome of Orphan Well Association, et al. v. Grant Thornton Limited, et al. will determine the degree of environmental liability that must be assumed by receivers of defunct companies.
No matter which way Canada’s Supreme Court rules, in the post-Redwater world it will be essential for E&P companies, lenders, and other investors to have an early and realistic estimate of the asset retirement obligation (ARO) associated with an oil and gas asset, and a clear, auditable way to manage and track that financial liability through to abandonment, reclamation, and remediation. Failing to do so will introduce a degree of uncertainty for companies that could be catastrophic.
If the Court rules in favour of the AER and the Orphan Well Association (OWA), then lending institutions will very likely impose ARO-related constraints and conditions on capital. We have heard unofficially that one lender is already doing this by reducing allowable credit by a percentage of the borrower’s total LLR liabilities. If the Supreme Court rules in favour of Redwater’s receivers, then the government, through the AER and OWA, is likely to tighten regulations around LLR and ARO to ensure companies are setting aside enough funds to effectively cover the abandonment, reclamation, and remediation costs to retire wells and facilities. Further changes to the AER LLR program are expected in late 2019, with some speculating about the introduction of a corporate liability scorecard system.
Either way, astute E&P companies are recognizing the importance of having a clear upfront picture of Asset Retirement Obligations on both the assets they currently hold and any prospects they may consider adding to their portfolio. Furthermore, many XI clients are adopting the streamlined process of estimating, tracking, managing, and reporting corporate ARO values using the XI ARO Cost Model and AssetBook ARO Manager software. Having a simple, standardized process that can be used industry-wide will help companies to remain compliant and allow all stakeholders to make realistic, apples-to-apples comparisons when evaluating acquisitions and managing long-term liabilities. It will also help determine more realistic budgets and a more realistic return on investment (ROI) projections.