OFFICE OF INSPECTOR GENERAL U.S. DEPARTMENT OF THE INTERIOR REPORT OF INVESTIGATION Case Title Offshore System 37 Inventory Adjustment Case Number OI-OG-16-0139-I Reporting Office Energy Investigations Unit Report Date June 19, 2017 Report Subject Report of Investigation SYNOPSIS On November 17, 2015, the Office of Inspector General, U.S. Department of the Interior, received a complaint from the Office of Natural Resources Revenue (ONRR) who suspected that Exxon Mobil Corporation (XOM) improperly reduced its oil inventory associated with offshore production from (b) (4) , which is an oil gathering and transportation system consisting of pipes, equipment, and facilities located in the Gulf of Mexico. ONRR reported that in December 2010, XOM sold offshore mineral production assets to Energy XXI Limited (E21). During the sale, E21 uncovered a discrepancy in the oil inventory that XOM reported to ONRR. XOM subsequently requested and received authorization from the Bureau of Safety and Environmental Enforcement (BSEE) to make an adjustment and reduce XOM’s oil inventory. ONRR’s Production Reporting and Verification (PRV) division performed an accounting and engineering review and disputed XOM’s rationale for the adjustment; PRV engineers found no justification for the inventory reduction, which also resulted in a reduction of XOM’s mineral royalty obligation. We found that XOM’s adjustment reduced their inventory by approximately (b) (4) barrels of oil, which includes a mineral royalty obligation of approximately(b) (4) . While ONRR was aware of BSEE’s approval of XOM’s requested inventory adjustment, ONRR never agreed to waive the company’s royalty obligation associated with the company’s production of oil included in the company’s longstanding oil inventory. XOM provided documentation to support the engineering claims made to BSEE in support of their inventory reduction request, but XOM’s documentation did not support the company’s claim that pipeline fill had been incorrectly reported to ONRR as production inventory for over a forty-year period. As a result, XOM’s royalty obligation associated with the oil inventory remained outstanding. We consulted with the United States Attorney’s Office (USAO), District of Colorado, and the USAO (b) (7)(C) Reporting Official/Title /Investigator Signature Digitally signed. Approving Official/Title /SAC Signature Digitally signed. (b) (7)(C) Authentication Number: E8DEB21E4A35AE4E282B7B61F8AAC0BE This document is the property of the Department of the Interior, Office of Inspector General (OIG), and may contain information that is protected from disclosure by law. Distribution and reproduction of this document is not authorized without the express written permission of the OIG. OFFICIAL USE ONLY OI-002 (05/10) Case Number: declined to pru?sue this matter in lieu of administrative remedies. This report will be provided to ONRR and BSEE for their consideration and action as deemed appropriate regarding inventory adjustment and outstanding mineral royalties. BACKGROUND 011 May 19, 2010, the Department of the Interior (DOI) Secretary signed a Secretarial Order dividing the Minerals Management Service (MMS) into three independent entities, which resulted in the creation of the Of?ce of Natru?al Resoru'ces Revenue (ONRR), Bru'eau of Ocean Energy Management (BOEM), and Bureau of Safety and Environmental Enforcement (BSEE). The Oil and Gas Operations Report (OGOR) is used to report a of all operations conducted 011 a lease and or agreement during a speci?c production month. The OGOR is a multipart report and it is typically submitted to ONRR electronically. Part A of the OGOR details well-level production; Part requires the operator identify the disposition of production ??om the Federal lease or imit: and. Part C. requires the operator to quantify the beginning and ending inventory as measm'ed at a designated storage facility, which does not include line ?ll. Line ?ll is the volume of gas or barrels of oil maintained in a trunk pipeline at all times in order to maintain pressru?e and provide uninterrupted ?ow of gas or oil to the onshore terminal. The basic formula for reporting mineral production inventory is: Begirming Inventory Production Sales Ending Inventory. Generally with respect to oil production operations. Federal mineral royalties are due ?'om the producer the month after production transitions ?'om the inventory tanks and passes through the designated royalty meter. - Description located in the Gulf of Mexico (GOM) south of Louisiana, is a system comprised of oil and gas producing ?elds comrected by i elines that transport production onshore to the Grand Isle Terminal (GIT) (Attachment 1). involves mineral production ??om multiple offshore operators that is comnringled and transported ashore. BSEE approved a cormningling agreement that allowed the operators to produce into the system, and BSEE required the operators to prepare and submit a Production Allocation Schedule Report (PASR) to BSEE and ONRR. As part of its inventory adjustment request submitted to BSEE, dated J1me 23, 2011, XOM listed the following ?elds as areas that encompassed their operations conducted within the system (Attachment 2): OFFICIAL USE ONLY 2 Case Number: DETAILS OF INVESTIGATION Preliminary Research Leads to Complaint Development On February 24, 2015, Production Reporting and Veri?cation (PRV), ONRR, commrmicated preliminar research that suggested Exxon Mobil Corporation (XOM) improperly reduced its oil inventory onh in the GOM for the production month January 2011 (Attachment 3). We learned that XOM sold assets from to Energy XXI Limited (E21) in December 2010, which required each company to submit offsettin inventory entries on OGOR to accomrt for the transfer of oil inventory. According to the selling company was required to accormt for the inventory transfer by entering code 45 in the production reports submitted to ONRR, and the receiving company was required to accomrt for the receipt of inventory by entering the same volume using code 47. - said that the volumes transferred ??om XOM to E21 using codes 45 and 47 respectively did not match because XOM reported disposition code 42 to document part of the transferred volrunes. The proper accormting for transfer of inventory using codes 45 and 47 should result in a revenue-neutral transaction. reporting of disposition code 42 reduced its oil inventory and royalty obligation. PRV, ONRR, who also artici ated in the initial brie?ng by signed the request to BSEE (See Attac nnents 2 3 an aune XOM erroneous re orte the original line ?ll of the system as inventory at the inception nearly 40 years ago. stated explanation ?does not hold together,? and he questioned whether XOM simply searched for a method to explain a difference between the inventory that .agreed to accept and the inventory that XOM recorded prior to selling assets to On March 17, 2015, ONRR, BSEE, and OIG staff participated in a teleconference where- voiced apprehension with failme to provide documentation for the initial inventory reporting that would have veri?ed claim that line ?ll was erroneously cormted as inventory (Attachment 4). reiterated that he would need to verify the documentation showing XOM included the line 1 or pipeline in their inventory reporting before approving their 2011 adjustment to remove the line ?ll ??om inventory. BSEE GOM Region, who signed the adjustment request from XOM on behalf of BSEE, noted that line ?ll would eventually be pushed through the system and measured at the royalty measurement oint (RMP) at the GIT where royalty would be paid 011 the volmne measrued (See Attachment 4). believed the adjustment resulted in no loss to the goverrmrent since the oil was thought to still exist in the pipeline and had yet to be measured. At the conclusion of the teleconference, PRV engineers decided to perform additional research and meet with XOM staff re ardin the ad'ustment. 011 November 17, 2015, we received a report (synopsis) ?'om -gand PRV, ONRR detailing their assessment of adjustment after inspecting the GIT and discussing the matter with (Attachments 5 6). The synopsis noted that, ?The argument that XOM made that the missing vollune of oil was in fact carried in inventory as ?pipeline (sic) is hollow and ahnost completely Without merit.? Based on the assessment by PRV engineers and 0m own development of the information received since February 2015, our of?ce opened this investigation. OFFICIAL USE ONLY 3 Case Number: Attorneys Explain Inventory Adjustment and On February 26. 2016. we participated in a corursel for XOM (Attachment 7 . orted decision for According to . the inventory discrepancy served as the impetus for XOM to ?le a request to BSEE for the inventory adjustment in 2011. According tF. the data for the pipeline ?ll 011 GIT allocation worksheets maintained a consistent v0 ume over the years. XOM failed to adjust the pipeline balance to account for an increase in the water cut. asserted that XOM always reported the pipeline ?ll as inventory to ONRR for leases or while- acknowledged that XOM did not customarily report pipeline ?ll as inventory on other systems. Investigator ?5 Note: Water cut refers to the ratio of water produced compared to the volume of total liquids produced. For etamp/e, when 60 bb/s of oil are produced with 40 bb/s of water, the water cut is said to be 40 percent . explained that Exxon Mobil Pipeline Company (EMPCO) gathered production from the various atforms and transported the oil to the GIT onshore. EMPCO. an af?liated company of XOM. rovided reports to XOM detailing the inventory of the oil and water storage tanks at the GIT. referred to adjustment schedules (Fig. l) to show that XOM used ending tank inventory as allocated to each lease as the new ending inventory after the adjustment. XOM Employees Explain Inventory Accounting 011 February 26. 2016. we interviewed who erformed oil revenue accounting for the Grand Isle properties (Attachment 9). reconciled production of oil and water with actual production as allocated from the EMPCO statements. assigned production and sales to each of the XOM platforms 011 using sprea reets referred to as Grand Isle Terminal Allocation Worksheets (Fig. 2 . OFFICIAL USE ONLY 4 Case Number: explained the colurrms 011 the spreadsheet, noting that ?opening stock? plus ?allocated pro uction? minus ?allocated sales? uals the ?total closing stock.? said the column labeled ?pipeline ?ll? . said the ?pipeline ?ll? column was populated at the inception of the system to re?ect the total capacity of the pipeline. and did not represent a true split between oil and water. noted the ?terminal closing stock? did not re?ect the actual inventory as measured at the GIT was unaware of any reconciliation between the measured volumes at the GIT with the ?termma osirrg stock? as calculated 011 the spreadsheet. related that at the time of sale of - assets. E21 questioned the inventory of oil as shown in the ?pipeline conferred with XOM engineers regarding the ?pipeline ?ll? number. noting the reported was close to the total capacity of the pipeline. According to . E21 relied 011 the oil inventory as determined by the EMPC to account for the volume transferred for the sale. On Februar 18. 2016. we interviewed (Attachment 10). served in this role dm?ing the sale of System 37 assets to E21 and the inventory made to ONRR. relied on allocated production and sales volumes from ?elds assigned to System 37 that were entere into roduction. revenue. and accounting (PRA) system. Based 011 the volumes booked into the produced the regulatory reports. including OGORs. - ensured that all reports were correct entered into system. said he wondered why XOM reported the pipeline ?ll as inventory, since XOM did not do this for any other system. - explained the ?pipeline ?ll? colunnr 011 the allocation spreadsheet (Fig. 2) had always been there. Prior to the sale of assets to E21.-assumed since XOM had always reported the pipeline ?ll as inventory, it must have been correct. - stated. ?It?s just always been known. I mean. we knew the line ?ll was there. we just never questioned hard enough why it was OFFICIAL USE ONLY 5 Case Number: rmsur'e of the history of why the pipeline ?ll was originally reported as inventory. noted that in comparing completed allocation spreadsheet to the report, the production and sales ?gru'es matched while the inventory did not. According to this was not an issue for audit or reconciliation. XOM relied upon the EMPCO statement to get the true inventory numbers for the adjustment made to ONRR. According to ?The true number [inventory] had to be what the pipeline said.? - believed the adjustments were all made for the production month January 201 l. - noted that XOM consulted inside engineers to compute the capacity of the pipelines, which came up very close the pipeline carried on the allocation spreadsheet. In reference to the engineers? calculations and the adjustment, stated, ?However, if you look at the adjustment, it came out awful close to those numbers.? reported that XOM computed the total pipeline capacity to provide some measure of veri?cation for the ad'ustment. According to engineer?s calculations, the pipeline capacity after the changes was expressed that XOM believed the pipeline capacity was originally 100 percent oil when the stem fn?st came online. - stated the inventory adjustments made by XOM totaled a little overh We reviewed docrunents received from XOM pursuant to an Inspector General subpoena (Attachments ll 12). XOM provided spreadsheets detailing the computation of pipeline capacity before and after modi?cations made to the system pipelines in 1973, supporting the engineering claims (see Fig. 4) made to BSEE for the request of the adjustment. A review of communications identi?ed no evidence that contradicted information provided by XOM staff and cormsel dining interviews. However, there also were no documents identi?ed that veri?ed claim that line fill was initially counted as inventory at the inception ONRR Rejects Rationale for the Adjustment 011 August 24, 2016, we interviewed and regarding their report detailing review of adjustment (Attachment 13). said review was initiated based on use of code 42 to document the adjustment. Operators use code 42 on the OGORs to identify oil taken out of inventory with no royalty due, whereas codes 45 and 47 are offsetting entries to document the transfer of oil from one company to another. thought was reluctant to approve said the ad'ustment re 11est si ONRR . a justment ase on the volume an i roya tyimpact, noting, ?They accountants don?t have the tools to distinguish between whether that?s a reasonable explanation or not.? added that approval was likely a clerical approval and that industry?s use of code 42 is subject to later audit by ONRR staff. at BSEE was also routed to veri?ed that the adjustments made by XOM for- on the OGORS totaled related the royalty obligation is created at the time the oil is produced. According to once the oil is in the custody of the producer, they have the responsibility to ensure the oil passes through the royalty sales meter. and conducted a site visit of the GIT in July 2015 accompanied BSEE. - and did not Visually OFFICIAL USE ONLY 6 Case Number: inspect the lease automatic custody transfer (LAC T) meter used as the RMP. - noted that proving of LAC meters is accru?ate to within one percent variance. plus or rnrnus. In a synopsis authored by and detailing their analysis of the adjustment (synopsis) (See Attachment 6). discussed a possible scenario where the LAC meter was within tolerance. but measuring one percent less than actual volumes- confu?med the statement in the synopsis detailing this of variance over an extended time??ame would have only accounted for approximately of the inventory discrepancy. referred to the physical la out of the GIT (Fig. 3) and said he inspected the storage tanks and their capaci durino the site visit. described that oil production from is typically . which together have a combined total capacity of bbls. Neither - were aware of an other systems in the GOM where erators counted line ?ll as inventory on reports to that other companies 011* did not report line ?ll as inventory. - reviewed OGORs submitted by XOM from 2000 to 2011. noting XOM maintained an inventory arormd until early 2011 when XOM made the adjustment. and! said they looked for credible reasons why the inventory dru?ing the review period excee ed the ysrca capacity of the tanks at the GIT. but could not reconcile this discrepancy. stated. ?The oil is in their custody. It?s not for 11s to help them come up with a rational explanation of what happened.? and met with at the ONRR of?ce in Houston to discuss the ad'ustment. - recalled that implied the line ?ll was always counted by XOM as part of the inventor reported to opined that XOM searched for a plausible explanation after identifying the discrepancy in the oil inventory upon the sale of assets to E21. XOM originally calculated approximate] of ?uid capacity in pipelines. and then adjusted their calculation to bbls. adjustment of opined that the engineer at XOM was given a task to explain the assumed based on when XOM produced the documents. that after making the adjustment to ONRR. thought it was XOM calculated the pipeline ca aci odd that the capacity of the i, calculated by XOM nearly matched the total adjustment to ONRR. estimated the current water cut in at approximately . meaning only. of the line ?ll is oil. - noted that production earlier in the life cycle of the stenr would have contained a higher percentage of oil with a likely water cut around 20 percent. noted that calculations incorrectly assumed that all ?uid in the pipeline was oil. Regarding assertron that XOM originall corurted the line ?ll as inventory to ONRR. stated. ?The numbers don?t add upfi added. ?The physical nature of production also makes it impossible. OFFICIAL USE ONLY 7 Case Number: At no point in the lifetime of that system was that ipeline 100 percent full of oil.? _noted that review could not support XOM?sibbls adjustment, stating, ?Even 1 we use assumptions that we know are not valid, such as it being 100 percent oil in the pipeline.? Regarding the possibility that oil could have been routed to intentionally bypass the RMP, related there was no way to know if the LAC meter was bypassed or if oil had been trucked out. did not believe that oil was stolen by bypassing the sales meter, but conceded this was a possibility. - said he and- were not able to inspect the LAC meter at GIT for evidence of tampering. On September 12, 2016, we interviewed?, PRV, ONRR, regarding use of co 42 ort a justment Attachment l4 . Accor mg to operators may use code 42 to report initial line ?ll when new systems initiate production to accormt for the difference between production and the inventory measru?ed at the storage tanks. ONRR also allows the use of code 42 for pigging operations designed to report the transfer of oil from the pipeline to storage facilities near the end of a field?s useful life. Investigator ?3 Note: Pigging refers to operations using a device known as a ?pig? driven by the product ?ow to perform one of many functions, including pipeline cleanup, prevention of solid and corrosion, pipeline inspection and coating, and batch transportation of ?uids or gas. said that OGOR ad'ustments made in 2011 usin code 42 far exceeded the inventory assumed by E21. According to ONRR, veri?ed with E21 that the transferred volumes reported by E21 a?er purchasing inventory were correct. qconsulted with XOM, who corrected the adjustments made by XOM in August 2013 mm code 42 to 45 or 1e inventory transferred to E21. After corrections, XOM maintained code 42 adjustments totaling more than -beS. After XOM corrected the transfer of inventory to match E21?s received inventory, consulted by email with . Production Verification Unit. BSEE, regarding remaining inventory adjustment usrng code 42. rovided a letter si ned by see attachment 2) authorizing XOM to adjust its inventory. opined that likely had no input into authorization. was not aware of any from ONRR that provided XOM guidance on their initial adjustments. noted that any subsequent guidance that would have come ?'om ONRR staff would have focused on correcting the coding for inventory transferred to E21, and not whether the adjustment for line ?ll was justified. In an email dated November 14, 2016, - provided a spreadsheet detailing valuation of oil adjustment (Attachments 15 16 . The total valuation, based on oil prices as reported for the production month January 2011, totaled . Rationale for Approving- Adjustment Between Februar 23, 2017, and March 24, 2017, we interviewer-z -, Pro uction Approva Unit, BSEE See Attac rent 4) regarding revrew an approval of adjustment request dated June 23, 2011 (See Attachment 2). - asserted that OFFICIAL USE ONLY 8 Case Number: XOM included the original line ?ll as inventory when the system was originally established. According to line ?ll has not historically been included as inventory and XOM should not have included their line ?ll into their starting inventory. - acknowledged that original recordation of inventory would have assruned the line was 100 percent oil. Concerning documentation provided in support of the adjustment request, - did not recall XOM providing docrunentation linking actual inventory to the inventory reported on the OGOR (Attachment 17). Rather, XOM provided the capacity of the onshore storage tanks and engineered calculations for the volume of pipeline. expressed his belief that the oil volrune adjusted by XOM was actually produced early in the cycle of the system and any remaining oil in the pipeline will 0 through the RMP at some point in time, resulting in a royalty payment to ONRR (Attachment 18). said he reviewed pipeline allocation statements and veri?ed calculations that the pipeline held approximately- of oil based on an average 2010 water cut of I percent (Fig. 4). XOM reported its calculations to BSEE on the draft version dated April 25, 2011 (Attachment l9). FIGURE 4 EXCERPT OF DRAFT REQUEST DATED APRIL 25, 2011 noted that EMPCO allocated sales ?'om the GIT to each of the XOM platforms based 011 the allocation meters located 011 each platform. -opined that XOM never ad'usted its pipeline ?ll volrune with production information provided by the allocation meters. said that he did not think that XOM believed the pipeline was ever completely full of oil, but rather, XOM used the total volrune capacity in the pipeline to originally report the inventory. speculated that over time, the inventory of oil in the pipeline would have been transferred ons ore to the GIT as the water cut increased in the pipeline. The volume of oil measru'ed at the GIT would have included the additional oil displaced by water in the i eline, leading to a volume higher than the srun total of all the platforms? actual production. related that every drop of oil would eventually end 11p onshore and be accormted for. When asked whether formula for inventory [beginning inventor production sales ending inventory] assumed production as measru'ed at the platform, i con?rmed that use of an allocated volume of production could distort the ending inventory since it may also include a portion of the beginning inventory. SUBJECT Exxon Mobil Corporation 22777 Springwoods Village Parkway Spring, Texas 77389 DISPOSITION 011 January 11, 2016, we presented this case to the United States Attorney?s Of?ce (U SAO), District of Colorado, for consideration, and the USAO subsequently declined to pursue the matter. As a result of the declination, this report will be referred to ONRR and BSEE for their consideration and action as OFFICIAL USE ONLY 9 Case Number: deemed appropriate. 5? 15 18. 19. . IAR Interview of 11. 12. 13. 14. . Attachment Email String with 1 6. 1 7. Referral Supplementary Document Map of Offshore System 37 . Referral Supplementary Document Exxon Letter to BSEE, dated J1me 23, 2011 IAR Investigative Lead Received from the Of?ce of Natru?al Resources Revenue Production Reporting and Veri?cation, dated March 2, 2015 IAR Investigative Lead Received from the Of?ce of Natru?al Resources Revenue Production Reporting and Veri?cation, dated March 26, 2015 Attachment Email ??om . ONRR, dated November 171 2015 Referral Supplementary Document Updated Synopsis from IAR Brie?ng from Exxon Mobil Inside orursel, dated Februar 26, 2016 Attachment Exxon Binder ?ExxonMobil erations Inventory Adjustments? IAR Interview of dated March 16, 2016 dated March 16, 2016 IAR Service of $11 poena 001665 ExxonMo orporation, dated February 22, 2016 LAR Record Review Sub oena Production, dated August 11, 2016 IAR Interview of and dated A11 24, 2016 IAR Interview of ONRR, dated September 16, 2016 Regarding Valuation of Oil Adjustment Attachment ONRR readsheet Estimate of Oil Valuation for XOM Adjustment IAR Interview of Measurement Approval and Enforcement, dated February 24, 2017 MR Interview of and and dated March 29, 2017 Attachment Exxon A Justment Request Draft Versron, ate April 25. 2011 OFFICIAL USE ONLY 10