New reserve rules, which went into effect for the exploration and production industry, have revealed interesting differences in how rules are applied to book developed and undeveloped proved reserves across various basins in the United States.

IN PICTURES: Top 10 Solutions For A Big Tax Bill

Rule Change Eases Restrictions On PUDs
One major rule change allowed companies to book multiple proved undeveloped locations for each proved well location "where reliable technology exists that establishes reasonable certainty of economic producibility at greater distances". These proved undeveloped locations, or PUDs, were previously restricted to only one offset for every proved well.
Another rule change restricted the booking of proved undeveloped locations to those that the companies could be expected to develop within five years, based on capital plans and their funding.

Conservative Reserves Calculation
Ultra Petroleum
(NYSE: UPL) was fairly conservative in its reserves calculation for 2009. The company is starting to develop its Marcellus Shale acreage, but it decided not to book any proved undeveloped locations in that area. This gives a company-wide proved undeveloped to proved developed location ratio of 0.65 to 1. Ultra Petroleum also uses a three-year limit on development when booking proved undeveloped locations, making it more conservative on this measure as well.

Petrohawk Energy (NYSE: HK) had 22 producing wells in the Eagle Ford Shale as of mid-January 2010, and the company booked 136 proved undeveloped locations in that area for a ratio of 5 for every producing well.

Five-Year Development Rule
While this seems like a higher ratio than other operators, Petrohawk Energy plans to drill 60 wells at its Hawkville Field in the Eagle Ford Shale in 2010. Under the five-year development rule, and barring a disaster in commodity prices, the company should have no problem drilling the 136 proved undeveloped locations within five years. (Diverse commodity asset classes provide both downside protection and upside potential. Learn how in Commodities: The Portfolio Hedge.)

Quicksilver Resources (NYSE: KWK) recorded proved reserves of 2.1 trillion cubic feet of natural gas equivalents at the end of 2009 on its Barnett Shale properties.

Quicksilver booked 919 proved developed locations and 281 proved undeveloped locations in the Barnett Shale. The company said that reserves in its proved undeveloped locations total 768 billions of cubic feet equivalent and will be drilled by 2014, within the five-year time frame.

Southwestern Energy (NYSE: SWN) reports its earnings on February 26, and it will be interesting to see how many proved undeveloped locations the company books in its core Fayetteville Shale properties.

New Rules May Add Volatility To Proved Reserve Totals
The two new rules on proved undeveloped locations may add extra volatility to proved reserve totals for companies that are aggressive in booking these types of reserves. If another credit crisis hits and funding dries up through combined lower commodity prices and restrictive credit, these companies will be forced to remove many proved undeveloped locations from their reserve base. (Find out how this tough economic period can be a learning experience for all; check out The Bright Side Of The Credit Crisis.)

Bottom Line
An updated set of rules for booking reserves in the exploration and production industry was sorely needed, but the rules have had an interesting effect on 2009 year-end reserves, particularly in the area of PUDs. (Drill down into financial statements to tap into the right companies and let returns flow. See Unearth Profits In Oil Exploration And Production.)Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Stock Analysis

    The Biggest Risks of Investing in Pfizer Stock

    Learn the biggest potential risks that may affect the price of Pfizer's stock, complete with a fundamental analysis and review of other external factors.
  2. Professionals

    4 Must Watch Films and Documentaries for Accountants

    Learn how these must-watch movies for accountants teach about the importance of ethics in a world driven by greed and financial power.
  3. Stock Analysis

    Allstate: How Being Boring Earns it Billions (ALL)

    A summary of what Allstate Insurance sells and whom it sells it to including recent mergers and acquisitions that have helped boost its bottom line.
  4. Chart Advisor

    Copper Continues Its Descent

    Copper prices have been under pressure lately and based on these charts it doesn't seem that it will reverse any time soon.
  5. Options & Futures

    Cyclical Versus Non-Cyclical Stocks

    Investing during an economic downturn simply means changing your focus. Discover the benefits of defensive stocks.
  6. Active Trading

    An Introduction To Depreciation

    Companies make choices and assumptions in calculating depreciation, and you need to know how these affect the bottom line.
  7. Markets

    PEG Ratio Nails Down Value Stocks

    Learn how this simple calculation can help you determine a stock's earnings potential.
  8. Stock Analysis

    What Exactly Does Warren Buffett Own?

    Learn about large changes to Berkshire Hathaway's portfolio. See why Warren Buffett has invested in a commodity company even though he does not usually do so.
  9. Investing Basics

    How to Deduct Your Stock Losses

    Held onto a stock for too long? Selling at a loss is never ideal, but it is possible to minimize the damage. Here's how.
  10. Investing

    What’s the Difference Between Duration & Maturity?

    We look at the meaning of two terms that often get confused, duration and maturity, to set the record straight.
  1. Which mutual funds made money in 2008?

    Out of the 2,800 mutual funds that Morningstar, Inc., the leading provider of independent investment research in North America, ... Read Full Answer >>
  2. Can working capital be depreciated?

    Working capital as current assets cannot be depreciated the way long-term, fixed assets are. In accounting, depreciation ... Read Full Answer >>
  3. Do working capital funds expire?

    While working capital funds do not expire, the working capital figure does change over time. This is because it is calculated ... Read Full Answer >>
  4. Do hedge funds invest in commodities?

    There are several hedge funds that invest in commodities. Many hedge funds have broad macroeconomic strategies and invest ... Read Full Answer >>
  5. How much working capital does a small business need?

    The amount of working capital a small business needs to run smoothly depends largely on the type of business, its operating ... Read Full Answer >>
  6. What does high working capital say about a company's financial prospects?

    If a company has high working capital, it has more than enough liquid funds to meet its short-term obligations. Working capital, ... Read Full Answer >>

You May Also Like

Trading Center