Working interests

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Working interests
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Working interest means a type of investment or interest in oil and gas. It gives the owner the right to:

  • explore,
  • drill
  • produce gas.

Such operations are related to investor's liability for a portion of the costs connected to exploring, drilling and producing. Similarly, owners of the working interest fully take advantage of the profits of any successful well. The share of profit for the owner of a working interest constitutes the residual amount after deducting royalty interest and nonworking interests. There can be a situation when company may not have an interest anymore in having a working interest in a property, for example do to the fact that it does not have managerial or financial expertise to develop and explore the property. In such a situation it can exchange its working interest to another party for a nonworking interest, and thus shifting all their responsibility to someone else [1].

Connection with the operating interest

Working interest may be also referred to an operating interest. It provides the investors with a percentage ownership of operations related to drilling activities and the right to the products from such activity. Apart from the income from the production of the resource, investors are also responsible for the proportion of the expenses related to obtaining it. To be more precise, the share of production of the working interest to which the owner is entitled is always smaller than the share of costs, which the owner of the working interest is required to bear. For instance, owner of a 100% working interest in a lease encumbered by a landowner's royalty of 25% would have to pay 100% of the costs of the well but in turn he or she would be entitled to keep 75% of the production [2].

Lease

The most widely used way to produce a working interest is the use of the lease. A product owner leases his or her rights to an operator. On the basis of the lease, the operator is able to:

  • explore,
  • drill
  • produce products at his or her own cost.

In return, product interest owner:

  • receives upfront bonus,
  • royalty on production
  • even sometimes delay rental fees.

The lease usually lasts from one to five years, during the period of which the Operator is entitled to drill and obtain production. The moment production is obtained, the lease is intact as long as production is continued [3].

Categories of working interest

Categories of working interest According to some sources working interest may be classified into two categories:

  • an undivided
  • divided interest.

In terms of an undivided interest, two or more holders of a working interest share profits and costs according to their proportional interest. In case of a divided interest, the holders of a working interest obtain revenue and pay for expenses on the basis of their ownership of certain acreage. Other sources stipulate that working interest may be divided into two groups:

  • operated interest
  • non-operated interest.

Often, the working interest of the lease of oil or natural gas is divided between various owners in varying percentages. The owner of the working interest named as the “Operator” finds wells, watches over drilling and is involved in managing day-to-day operations, such as marketing and accounting activities related to the lease. In turn, owners of the non-operating working interest are usually consulted on production decisions and bear some of the costs according to the agreements concluded between owners. Nevertheless, owners of non-operating working interest do not take part in actual operations [4].

Where most of working interest comes from?

Most working interest income is regarded as the income from self-employment income. Due to the fact that regular income tax payments are not automatically withheld from such funds, investors should make estimated tax payments on the basis of the current Internal Revenue Service (IRS) standards and rates. Investors with working interests are held liable for some tax deductions on the basis of the operating costs connected to the business. It may involve expenses, which are of tangible or intangible nature. For example, equipment costs or utility payments [5].

Footnotes

  1. Wright C. J (2017) Fundamentals of oil & gas accounting, Tulsa Penn Well Corporation, Oklahoma
  2. Libecap, G.D., Smith, J. L. (1999). The Self-Enforcing Provisions of Oil and Gas until operating agrements:theory and evidence
  3. Meyers, C.J. (1954). Two Drilling Covenants Implied in Oil and Gas Leases
  4. Shah, S. M., Sana A. (2006). Impact of Working Capital Management on the Pofitability of Oil and Gas Sector of Pakistan
  5. Zhu, L., Zhang, Z., & Fan, Y. (2015). Overseas oil investment projects under uncertainty: How to make informed decisions?

References

Author: Pola Ligaj

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