In low-price commodity cycles for crude oil and natural gas, managing the expense side of the ledger is critical to success. For example, based on inflation and the advent of complex horizontal fracturing techniques, industrial technological advances have caused the average well cost to increase nearly eightfold since 1960.
Given the higher-cost environment, oil and gas partnerships will continue to see an increase in nonoperators exercising joint operating agreement (JOA) audit rights under the applicable accounting procedure to help identify key cost-recovery opportunities.
Nonoperators experience concerns with the high cost of operations and well economics on an ongoing basis. While nonoperating partners can seek recourse to recover some costs inappropriately charged in a joint interest billing (JIB) arrangement, most JOAs require nonoperators to pay their bills without contest. This is because their right to contest charges is established in the JOA’s accounting procedure, which imposes a two-year limit on that opportunity.
This means nonoperating partners who exercise joint interest audit rights in 2018 have a look-back window to 2016 for identifying potential recoveries related to erroneously billed expenses during that time. When operators inappropriately bill out nonoperators, the only way to identify and resolve these issues is through exercising the right to audit in accordance with the JOA.
Each JOA has unique requirements, so it’s important to evaluate the established agreement between the nonoperator and operator in order to gain a clear understanding of the audit rights and obligations set forth by each specific agreement.
Operators can demonstrate good accounting practices to nonoperating partners by engaging in a proactive review of equipment allocations, reconciliations, vendor audits, billing procedures, and overhead. This allows operators to make timely corrections to the JIB in advance of an audit, and raises the odds that these items will pass the audit test.
By accurately tracking and reporting costs, operators can help their joint venture partners increase their confidence in day-to-day accounting practices. Ultimately, operators that improve their billing methodologies through the use of industry best practices and professional guidance can reduce the potential for costly settlements and litigation concerns.
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If you’d like to know more about joint interest and revenue audits or any other contract compliance concerns, contact your Moss Adams professional.