The Bureau of Ocean Energy Management (“BOEM”) has backed away from its proposed rulemaking regarding financial assurance requirements for the Outer Continental Shelf (“OCS”). On August 19, 2014, BOEM published an Advance Notice of Proposed Rulemaking (“ANPR”) seeking input on “risk management, financial assurance, and loss prevention,” all designed to overhaul the agency’s method of determining how much money a company must pledge or tie up to ensure compliance with financial and performance obligations arising from an offshore lease.

Even after it published the ANPR, the agency warned it would issue a new Notice to Lessees (“NTL”) in the interim while the rulemaking was pending. Now, the agency has confirmed its intent to modify its financial assurance criteria – but it apparently no longer intends to do so through a rulemaking. This means that new regulations will be issued through a revised NTL, without any corresponding changes to the Code of Federal Regulations. This allows the agency to tighten the screws on industry without implementing any of the other industry-recommended improvements.

BOEM has already made changes to its general financial assurance “guidance.” Effective August 17, 2015, NTL No. 2015-N04 superseded NTL No. 2000-G16. Now BOEM has made available for review “proposed guidance” on its supplemental financial assurance.

BOEM will discuss this guidance at a workshop in Houston on Friday, October 9, 2015, from 8:30 a.m. to noon at the Houston Airport Marriott. To register for the workshop, visit:

I. General Financial Assurance

By issuing NTL No. 2015-N04, BOEM delineated that the agency’s general financial assurance policy applies to all OCS regions, not just the Gulf of Mexico. It also increased the list of entities to which it applies. In addition to Lessees and Operators, the new NTL covers pipeline rights-of-way holders, rights-of-use and easement holders, and geological and geophysical test well permit holders.

The agency cannot make changes through the NTL to the amount of general financial assurance, since those numbers are established by regulation. But the NTL now contains an express warning, consistent with language already appearing in the regulations, that if the value of the posted security falls below the required amount, additional security must be pledged to bring it up to the required amount.[1]

BOEM has also made a slight change to the language around timing. The superseded NTL contained an exception to the timing requirement which allowed the authorized officer, for good cause, to allow a lessee or operator to provide the required general lease surety bond after approval of the lease/plan but before beginning the relevant operational activity. That exception is absent from the new NTL, but still permitted by the regulations.[2]

Also gone, however, is the policy statement that “[t]he [Gulf of Mexico OCS Region] has historically considered unacceptable such alternatives as letters of credit or production escrow accounts,” potentially signaling a greater willingness by the agency to accept alternative instruments in lieu of bonds issued by a surety certified by the United States Department of Treasury, or United States Treasury securities.

II. Supplemental Financial Assurance

BOEM has taken advantage of the relative dearth of detail in the supplemental financial assurance regulations to propose new thresholds for supplemental bonding. The regulations permit the Regional Director to determine whether additional security is necessary in order to secure compliance with lease obligations.[3] This determination is to be based on the Regional Director’s evaluation of a lessee’s financial ability to carry out its obligations based on (1) financial capability; (2) projected strength; (3) business stability; (4) reliability; and (5) record of compliance with laws and lease terms.[4]

A. Exemption from Supplemental Bonding

Notice to Lessees No. 2008-N07, Supplemental Bond Procedures (August 28, 2008), contained a formula for the Regional Director to use to determine whether a company could demonstrate a threshold of financial strength and reliability, and therefore receive an exemption from the supplemental bonding requirement.

NTL 2008-N07 identified a four-step process for assessing eligibility for exemption. First, the lessee must have an independently audited calculation of net worth equal to or greater than $65 million. Second, the lessee must have cumulative decommissioning liability no greater than 50 percent of an independently audited calculation of net worth. Third, the lessee has to demonstrate reliability – this can be demonstrated through number of years in operation onshore or offshore, credit ratings or trade references, a record of compliance, and any other factors indicating financial reliability. Finally, the lessee must demonstrate a certain level of production or a certain debt-to-equity ratio.

BOEM’s proposed guidelines would eliminate any “exemption.” Instead, the agency will assess the ability of a company to “self-insure.” BOEM has proposed one set of self-insurance criteria for independent exploration and production companies, and another set for companies within the “integrated” exploration and production sector. It is unclear what the actual thresholds will be for self-insurability. The proposed criteria identify performance, leverage, and liquidity factors. BOEM used existing data to calculate what those numbers look like for companies in the top and bottom quartiles. But there does not appear to be any clear direction that “a company must meet this minimum number” in order to qualify for self-insurance.

It would also seem logical that a lessee would only be required to post a supplement bond for the delta between the amount of self-insured and the amount of supplemental financial assurance required, but that is not made explicit in the proposed guidance. BOEM will leave it up to private agreement among multiple co-lessees to determine how to coordinate posting of the supplemental assurance. No matter what the agreement says, however, BOEM will continue to treat each lessee throughout the chain of title as jointly and severally liable for decommissioning obligations.

B. Determining the Amount of the Bond

Historically, upon finding that a lessee was not exempt, BOEM applied a four-step process for calculating the supplemental bond amount:

  1. Determine decommissioning liability
  2. Apply lease-specific bonds
  3. Exclude financially capable co-lessees
  4. Apply financial strength and reliability analysis

BOEM’s proposed guidelines would alter steps (1), (3), and (4), and presumably apply this process to any lessee unable to self-insure, or with a self-insurance deficiency.

Proposed Change to Step 1: Determining decommissioning liability

  • In determining decommissioning liability, the Regional Director will consider 100% of the decommissioning liability for every lease, ROW, and RUE in which it holds an interest, no matter the size of the lessee’s interest. This approach completely ignores the concerns about duplicative and multiplicative bonding obligations voiced by the Independent Petroleum Association of America in its comments in response to the ANPR.[5]

Proposed Change to Step 3: Excluding financially capable co-lessees

  • BOEM will no longer consider the combined financial strength and reliability of co-lessees or operating rights holders when determining a lessees’ decommissioning liability.

Proposed Change to Step 4: Applying Financial Strength and Reliability Analysis

  • The proposed guidance contains specific criteria for each of the five criteria for assessing a lessee’s financial ability to carry out its obligations: (1) financial capability; (2) projected strength; (3) business stability; (4) reliability; and (5) record of compliance with laws and lease terms:
    • Most notably, there is a whole host of new ways to demonstrate “financial capability” (this could include Cash Flow from Operations (CFO)/CAPEX; EBITDA Margin; Total Debt/Average Daily Production; Total Debt/Proven Reserves; Total Debt/ Capitalization; or Total Proved Reserves/Asset Retirement Obligation). Does allowing BOEM to consider these additional metrics of financial health recognize that the one-size-fits-all approach does not work (a “win” for independents)? Or does this approach give BOEM more ways to selectively focus on one approach over the others in order to find financial weaknesses and thus require greater supplemental bond amounts?
    • Projected strength will be based on the estimated value of lessee’s existing OCS lease production and proven reserves of future production.
    • Business stability will be based on five years of continuous operation and production on the OCS or onshore.
    • Reliability will be based on the lessee’s rating by Moody’s, Standard and Poor’s, or Dun and Bradstreet, or on trade references.
    • Record of compliance includes consideration of: assessment of civil penalties to lessee or any affiliated or subsidiary companies; BOEM finding of noncompliance with lease terms; receipt of citation by any other agency with jurisdiction on the OCS; and citation for nonpayment or underpayment of royalties.

BOEM will entertain a request from a lessee for a “tailored plan” – or a plan that proposes multiple types of financial assurance in order to meet the total bonding requirement.

C. Timing and Alternative Plans

Lessees will be on the hook for any additional security upon receipt of written notice from the agency. The notice may include a longer time period for compliance. BOEM has also promised a phase-in period for those lessees who were previously exempt and for those who will see an increase in their assurance amounts under the new criteria, but only if the lessee submits a tailored plan to the agency for approval.