What is SRR?
For over 25 years the deep rights under Alberta petroleum and natural gas leases (rights below the lowest producing formation) have been subject to reversion to the Crown even while the lease continues through production. Until now, shallow rights were immune from reversion, so that a lessee could hold all formations down to the base of the lowest producing formation.
As of January 1, 2009, the Alberta Government made all Crown leases subject to Shallow Rights Reversion (SSR). Pursuant to SRR, petroleum and natural gas rights above the top of the shallowest productive zone in a Crown lease will be severed from the lease when it expires and the leaseholder applies to have its mineral rights continued.
The objective of both SRR and Deep Rights Reversion (DRR) is to make available for resale those geological formations that are not being developed by current rights holders, thereby creating additional revenues for Government and stimulating exploration.
In the words of Alberta's Energy Minister Mel Knight when announcing the Crown's intention to include SRR in the New Royalty Regime: "No one knows how much gas has been stranded uphole by inactivity but the figure is very substantial".1
In Alberta's mature oil and gas industry, availability of land is an important concern for many smaller producers.2 In many cases, access to shallow formations was tied up for decades by companies which were developing deeper formations. For many existing leaseholders (particularly the larger producers), the modest drilling targets offered by the shallower formations did not provide sufficient incentive to drill. With SRR, Alberta Energy hopes to implement a 'use it or lose it' policy, freeing up shallower zones for production.
Coalbed Methane (CBM) exploration is a notable aspect of the opportunity arising from SRR. CBM formations are often relatively shallow but effective development requires access to vast contiguous tracts of land. Freeing up the rights to the shallower zones will make it easier for producers to acquire rights to entire fields without having to negotiate for unitization or pooling with the deep rights owners.
How Will It Be Implemented?
The same continuation rules apply for DDR as SRR. The Department of Energy requires the lessee to demonstrate the "productive capability" of a zone, which can be proven with any of the sub-sections of section 15 of the PNG Tenure Regulation, including:
- Good gas test;
- Physical production (re-entering an existing wellbore or drilling a new well);
- Unitized rights; and
- Payment of offset compensation.
Agreements purchased after January 1, 2009 will be subject to SRR at continuation. Beginning in 2011, all agreements continued before January 1, 2009 will be served an SRR notice, with the oldest agreements being served first. The leaseholder will have three years from the date of service to prove up its rights before SRR is applied.
All agreements purchased prior to, but not continued by, January 1, 2009, will be subject to SRR after they have been continued once, subject to DRR only. Once that has occurred, an SRR notice must be served on the leaseholder. The Department of Energy expects to start with 1,000 notices and eventually increase to 5,000 notices per year.
Impact on Industry
As with all aspects of the Royalty Regime, there are winners and there are losers when it comes to SRR.
The Small Explorers and Producers Association of Canada (SEPAC) is in favour of SRR, but is concerned that large portions of currently untapped reserves will remain stranded if producers take the tack of simply completing the shallowest possible zone, thereby boxing out the majority of the leased formations. SEPAC suggests that, for significant rights reversion to occur, Alberta should follow British Columbia's lead and implement zone-specific retention.
SEPAC has also expressed concern about the timeframe for implementation. Since most Crown leases are for a five-year primary term, under the current plan a leaseholder who purchases a new Crown lease after January 1, 2009 will be subject to SRR long before most current leaseholders, who may have been holding undeveloped shallow rights for many years. SEPAC sees this as an unacceptable delay in working towards the objective of increased exploration of shallow zones.
On the other side of the debate, conventional oil producers and companies that operate deep gas wells have the most to lose from SRR. Representatives of these parties have protested that the application of SRR to existing leases constitutes a fundamental change to the terms of the initial lease and is equivalent to expropriation by the Crown.
The same concerns were raised by producers when DRR was implemented. This objection was ignored then and, unless the Government reverses the policy it has announced with SRR, rights owners will again be forced to either prove up their rights or lose them.
Surface Footprint Issues
The Canadian Association of Petroleum Landmen (CAPL) has written the premier of Alberta to voice the concern that SRR is working at cross-purposes with policy and regulatory initiatives aimed at minimizing the surface footprint and impact of oil and gas field activities on surface landowners and stakeholders.3 With the potential for multiple parties requiring access to the same parcel of surface land, negotiations with landowners, and the related number of disputes, are bound to increase.
Environmentalists share CAPL's concern over the increased infrastructure and surface disturbance that may result from SRR, including the impacts of a potential increase in CBM exploration.
To date, the Government of Alberta has provided little in the way of tangible solutions to these issues. The Department of Energy has stated that the increased surface footprint may be mitigated by innovative ways of utilizing existing surface disturbance and that specified protected areas may be off limits to SRR, but further details on these points have not been provided.4
Whether SRR is seen as a bane or a boon depends on whose shoes you are standing in, as most of its intended consequences have both significant benefits and drawbacks. Freeing up access to shallow formations will provide opportunities for smaller players to participate in the development of conventional resource pools, but existing leaseholders stand to lose a portion of their current interest, and face a potential increase in conflicts with surface rights holders. The increase in development and exploration which SRR promises to facilitate will swell provincial coffers, but will also increase industry's environmental footprint.
Staging the implementation over several years should provide an opportunity for government and stakeholder groups to collaborate in the development and implementation of policies and regulations which will effectively address the challenges presented by SRR.