Over the past couple years, the oil and gas industry has come under fire for the way some companies report their reserves. In a highly publicized case, Royal Dutch/Shell Group announced in January 2004 that it would re-categorize certain proved oil reserves. Shell later declared that it had overstated reserves by about 20 percent — the equivalent of 3.9 billion barrels — a disclosure that seriously impacted the company’s stock price and reputation.

This case brought to light the issue of oil and gas reserves and illustrated how incorrect or misleading reserve reporting leads to valuation problems and weakens investor confidence. “Presenting the full picture,” a recent report from Deloitte’s Global Oil & Gas Group, examines the issue of reserve reporting, and provides recommendations for developing more comprehensive reporting guidelines for the industry worldwide.

In Canada, the oil and gas industry is leading the charge for more transparent and accountable reserve reporting. “Canadian oil and gas reporting standards are among the most rigorous in the world right now,” says Cheryl Dereniwski of Deloitte’s Oil & Gas practice. This is due in large part to initiatives taken by the Canadian Securities Administrators and the Alberta Securities Commission. In summer 2003, the regulators released new rules for reserve reporting in the form of National Instrument 51-101 – Standards of Disclosure for Oil and Gas Activities, which requires companies to evaluate their reserves and report them publicly every year. Under NI 51-101, a company must provide an independent assessment of its estimated reserves, either through a full third-party evaluation or an external audit of its evaluation.

Canadian oil and gas companies began filing these reports in 2004. “In Canada, we have a one-year track record of reporting to more rigorous disclosure standards,” says Dereniwski. By early 2005, the Alberta Securities Commission reported that over 200 companies had completed a filing, and that the majority, particularly from intermediate and larger issuers, fulfilled the requirements of NI 51-101. By its very nature, reserve reporting is inexact since “reserves are only estimates,” Dereniwski points out. “But through more specific reserve classification definitions, we try to categorize the uncertainty associated with the reserves,” says Dereniwski. The new rules distinguish between “possible,” “probable” and “proved” reserves, with “proved” being further broken down into “developed” and “undeveloped” categories. By bringing in tighter definitions of reserve categories, the Canadian industry is trying to produce better and more accurate estimates.

However, not all oil and gas companies are required to comply with the standards set out in NI 51-101. In fact, most of those that produce more than 100,000 barrels of oil a day and are listed on U.S. securities exchanges have received exemptions from the Canadian regulations. Because they file under U.S. securities legislation, they are required to meet the less rigorous disclosure requirements of the Securities and Exchange Commission, which have faced criticism for failing to keep pace with changes in the industry.

In contrast, the Canadian regulations have set a high standard for oil and gas companies to meet. And the regulators in Canada are really targeting the smaller companies that had a bad track record in the 1990s. By introducing new guidelines, the Canadian industry is setting the standard for more comprehensive oil and gas reserve reporting.

The authors of “Presenting the full picture,” Peter Newman and Victor Burk, look at the wider context of current oil and gas disclosure requirements. They question whether the standards that apply to publicly traded oil and gas companies satisfy the needs of the investing public. In the end, Burk, who is chairman of the Global Oil & Gas Group, and Newman, who is its managing partner, recommend that global regulators update their reporting requirements and expand the scope of mandatory disclosures in annual reports and financial statements.

Download the study “Presenting the full picture.”