The onshore royalty rate increase to 18.75% will get all the headlines. 17.5% would have felt better but the U.S. Government has precedent of 12.5, 16.67 and 18.75%.
Onshore competitive lease sales now match deepwater leases at 18.75%. We provide and analysis below to put that into context of state and private lease terms.
Scaling the acreage offered back considerably surely won't thrill the oil & gas industry, but as we recently noted, lease sales the last number of years have been underwhelming. Further, we have visualized that there is little correlation between leasing, permitting and production on Federal lands.
Biden Lays an Easter Egg For Both Sides
On Good Friday, the Department of the Interior (DOI) released bad news for both sides of the oil & gas debate. Despite campaign promises to stop drilling on Federal lands, the Biden administration is moving forward on additional onshore lease sales, angering those concerned with climate change.
Meanwhile the oil & gas industry will see an 80% reduction in acreage nominated by energy companies being offered. And surely the headline event from the release - Federal royalties on new competitive onshore leases will move to 18.75%, from 12.5% currently.
There were many 50% royalty increase headlines the last few days, which while technically true, doesn't tell the entire story. Federal leases were playing a bit of catch-up.
For context offshore, the most recent Gulf of Mexico leases sales have had a 12.5% royalty rate for shallow water leases (<200 meters) and 18.75% for deepwater leases. Existing leases can be 12.5, 16.67 or 18.75%. Shallow leases were dropped from 18.75% to 12.5% in 2017. Deepwater was bumped from 12.5% to 16.67% to 18.75% between 2006 and 2008.
The Kansas City Federal Reserve did a study on Private Leases in the U.S. in 2016, which showed the mean U.S. private royalty rate at 17.8%. Private royalty rates are as low as 13% and as high as 21%. The big oil growth states - Permian in Texas and New Mexico - had 20% and 21 % private royalty rates, respectively.
How Much Does This Matter Really?
As we've discussed previously, there is far too much focus and debate over Federal onshore leases relative to their current production or likely potential production. Onshore federal oil production is roughly 10% of total U.S. production and is unlikely to move the needle significantly, despite growing faster than the country overall currently.
The geology of where the major oil basins are currently in the U.S. simply don't align with Federal leases. We need private leases to carry the weight of oil production growth.
This move certainly won't help Biden in the war of public perception. The oil & gas industry will declare that drilling on Federal lands is less attractive than it was - which is true. It is hard to understand, however, why the U.S. public shouldn't be getting a 'market' rate on its assets.
Higher royalty rates and reduced acreage sales will appease parts of the climate change factions out there, while others will dislike moving forward with any sales at all. If the Biden administration weights the pending lease sales toward Eddy and Lea, New Mexico, the impact overall to future oil production from lower acreage would be negligible.
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