Diversified Gas & Oil has been on a mission to buy as many non-shale (conventional) oil and gas wells as it can in the Appalachian Basin. It owns over millions of acres and tens of thousands of wells–many of them located in Pennsylvania. Last fall the PA Dept. of Environmental Protection (DEP) told Diversified it wants 1,000 of its nonproducing wells plugged in the next five years. Diversified countered it would like to plug 2,000 wells, but over the next 20 years. They ended up compromising.
Last June Diversified Gas & Oil burst on the Marcellus/Utica scene when they bought 2.5 million acres of leases with thousands of conventional gas (and oil) wells in Appalachia from EQT (see Diversified Gas & Oil Adds to Conventional Assets in KY, VA, WV). The sale included nearly 12,000 conventional wells with 200 million cubic feet per day of natural gas production, with 2.5 million acres of leases and some 6,400 miles of gathering pipelines. Why would anyone want 12,000 conventional wells when 12 shale wells can produce the same amount of gas? According to Diversified’s founder and CEO Rusty Hutson, those old conventional wells have steady, predictable returns that generate income with next-to-nothing in the way of capital investment (see Diversified Zags, Finds Profit in Appalachian Conventional Wells).
Diversified has continued to grow, picking up wells in West Virginia, Ohio, Kentucky and Pennsylvania. They now own some 60,000 wells! Out of which some 23,000 wells are located in PA.
Some accuse the company of picking up other drillers’ cast-off conventional wells with no intention of plugging them. They claim Diversified is trying to shirk its responsibility–either by delaying so long someone buys the company (and then it’s their problem), or by going out of business at some future date, leaving taxpayers holding the bag to pay for plugging the wells (see Diversified’s Schedule to Plug Abandoned PA Wells in Dispute).
Last September the PA DEP told Diversified it wants 1,000 of the PA wells it owns, that no longer produce, to get plugged. The DEP has held up approval of transferring title to thousands of other old wells to Diversified unless it promises, in writing, to plug those 1,000 wells. The situation has held up deals from closing. Diversified countered with a pledge to close and plug double the number of wells, but over a much longer period of time–20 years instead of five.
Yesterday the DEP announced they’ve reached a mutually acceptable agreement with Diversified to plug 1,400 old wells over 15 years, with the possibility of extending the deal to 20 years. Plus Diversified has to put up $7 million in surety bonds to guarantee the money is there to plug those wells in the event Diversified goes bye bye. Those are the broad brush strokes of the deal.
From the DEP:
The Pennsylvania Department of Environmental Protection (DEP) has announced a settlement with Diversified Gas & Oil Corporation and Diversified Oil & Gas, LLC (collectively referred to as Diversified) and Alliance Petroleum Co LLC (Alliance) over well plugging violations in 23 Pennsylvania counties.
“This agreement is a win for the commonwealth because it ensures that over 1,400 oil and gas wells are properly maintained or plugged and that these operators, not Pennsylvania citizens, bear the full cost of operating or plugging them,” said DEP Secretary Patrick McDonnell.
Diversified and Alliance have agreed to a $7 million surety bond for the wells covered by this settlement, plus an additional $20,000 to $30,000 bond for each abandoned or nonproducing oil and gas well acquired in the future. Under current law, adopted in 2012 as an amendment to Pennsylvania’s Fiscal Code, conventional oil and gas operators such as Diversified and Alliance are only required to secure $25,000 of blanket bonding to cover all of their wells, which in the case of the two companies, amounts to bonding of approximately $2 per well. The performance bonding negotiated in this settlement is closer to actual plugging costs that can begin around $20,000 per well and go much higher depending on well and site conditions.
With this Consent Order and Agreement (COA) in place, DEP has approved pending transfers of non-producing mostly conventional oil and gas wells to Alliance and Diversified. The COA allows some wells to be put back into production, so long as minimum production levels are maintained, and sets a plugging and restoration schedule for non-producing wells of 15 years while prioritizing the plugging of wells that pose health, safety, and/or environmental threats. The COA may be extended for an additional 5 years subject to additional bonding of $30,000 per well for wells to be plugged during the extension.
The Oil and Gas Act requires owners and operators to plug wells upon abandonment. In July 2018, DEP issued orders to Alliance, XTO Energy Inc. (XTO), and CNX Gas Company LLC (CNX) to plug 1,058 abandoned oil and gas wells across the state—based on required self-reporting of well production data—and held pending transfers of said wells. Those wells, along with wells that Diversified also reported as non-producing, make up the approximately 1400 wells specifically addressed in in the COA. Alliance, XTO, and CNX appealed DEP’s orders to the Pennsylvania Environmental Hearing Board.
Pennsylvania has over 8,000 orphaned and abandoned oil and gas wells on its inventory and hundreds of thousands of legacy wells may be unaccounted for, posing a major financial liability and environmental, public health, and safety risk. (1)
Notice that the DEP issued orders last year to three companies, Alliance Petroleum Corporation (a subsidiary of Diversified Gas & Oil), XTO Energy, and CNX Resources–to plug 1,058 abandoned oil and gas wells across Pennsylvania (see PA DEP Orders CNX, XTO & Diversified to Plug 1,058 Abandoned Wells). Alliance is Diversified under another name. It looks to us, however, like the other wells owned by CNX and XTO have now been bought by Diversified–and now Diversified is on the hook for those wells too.
Copy of the agreement DEP worked out with Diversified:
The news as reported by the Pittsburgh Post-Gazette, with some extra color:
An oil and gas company that owns tens of thousands of conventional wells in Pennsylvania has reached an agreement with state regulators to plug or restart production at about 1,400 abandoned wells over the next 15 years.
The settlement between Diversified Gas & Oil and the Pennsylvania Department of Environmental Protection requires the Alabama-based company to submit a $7 million bond to cover plugging costs if the company walks away from its obligations, plus additional bonds of $20,000 to $30,000 per well for unproductive wells that the company buys or sells in the future.
DEP officials believe the deal offers much more protection than current state law, which allows operators of traditional, shallow wells to provide financial protection for as many wells as they want with a single $25,000 bond. Wells drilled before 1984 require no bond at all.
“This is the largest performance bond we’ve secured in the oil and gas program,” said Dan Counahan, DEP’s southwest district manager for oil and gas operations. “It goes well beyond the insufficient bonding instituted by the Legislature.”
For Diversified, which owns about 23,000 wells in Pennsylvania, the state’s standard blanket bond would amount “to the cost of a cup of coffee for each well,” he said.
With little notice, Diversified became the largest conventional well operator in Appalachia over the last four years, building up a vast portfolio of about 60,000 wells.
Its speciality is buying up shallow gas wells and keeping them flowing for as long as possible with relatively low-cost maintenance. But its strategy has alarmed regulators in Pennsylvania and nearby states who worry that the company won’t be able to manage the expense of safely plugging so many old wells. If it can’t, the cleanup costs would fall to taxpayers.
Abandoned wells can leak oil, gas or brine, polluting streams and drinking water, creating explosion hazards in homes and adding gases to the atmosphere.
In late January, the head of DEP’s oil and gas program, Scott Perry, put Diversified’s unprecedented accumulation of conventional wells in the context of the “$7 billion problem” the state already faces with roughly 200,000 abandoned, ownerless wells from more than a century of drilling.
The fact that one company now carries the plugging liability for more than 23,000 wells “certainly, in my opinion, raises considerable concern,” Mr. Perry told an advisory council.
“No one broke the law by selling wells to that company and they didn’t break the law by buying them. But the law is weak,” he said.
The settlement signed Thursday allows for a looser timeline than orders DEP issued last July that called for 1,058 of the company’s abandoned wells to be plugged over five years. Those orders were issued to three companies that had sold most of the wells to Diversified — Alliance Petroleum Corp., XTO Energy Inc. and CNX Gas Co. All of the companies appealed the orders.
The new settlement covers most of the wells identified in last year’s orders plus other idle wells owned by Diversified. It requires Diversified to plug a minimum of 300 unproductive wells over the next 15 years and plug or revive 1,112 more that produced no gas during 2017.
Each year of the agreement, the company must plug at least 20 wells and plug or resume production at an additional 30 wells.
The legal definition of an abandoned well in Pennsylvania is one that has produced no oil or gas for a year.
A stricter definition
The settlement largely concentrates on wells that are not producing now — leaving end-of-life planning for most of the rest of the company’s 21,600 Pennsylvania wells guided by the low bar of existing state law.
But the document establishes a stricter definition of what counts as an abandoned well than what is currently on the books.
Diversified wells that produce less than 100,000 cubic feet of gas a year — generally enough to supply a home — will be deemed abandoned. Current law allows a company to eke out less than 1 cubic foot a year to stave off plugging obligations.
If Diversified continues to acquire wells, which the company has said it intends to do, those will be held to an even higher standard of production — 500,000 cubic feet a year — to be considered active.
The production thresholds are one of several ways the DEP agreement attempts to address three of Diversified’s stated plans: to continue to acquire more wells, to keep some wells dormant while it waits for oil and gas prices to rebound, and to transfer some wells to landowners.
Diversified has 950 employees, according to company filings, and is looking to bring more of its plugging activities in-house to cut down on the cost of third-party contractors. It said it plugged 41 wells across its entire operating area during 2018 at an average cost of $23,800 per well.
Deals with four states
In a Feb. 28 investor presentation accompanying the company’s 2018 financial results, Diversified said that over the next five years, it plans to spend $2.6 million a year to plug wells across the four primary states where it operates.
The Pennsylvania settlement most closely matches a deal that Diversified inked with West Virginia in December. Both have 15-year terms and require that at least 20 wells be plugged each year, with another 30 either plugged or returned to service.
West Virginia’s bond of $3 million is less than half of what Pennsylvania secured.
Deals struck with Ohio and Kentucky have a term of five years.
Taken together, the deals with the four states mean that Diversified intends to plug just over 100 wells per year over the next five years, 140 wells annually over the following decade and then ramp up to 1,000 closures by 2049. Diversified said it intends to plug 1,000 wells per year from 2049 on.
Diversified hasn’t drilled a well in years, but told investors it is “actively evaluating selective drilling opportunities.”
Diversified’s CEO, Rusty Hutson, indicated in a statement that the Pennsylvania deal, the last to be signed, removes the uncertainty over long-term liabilities that has trailed the company over the past year.
“We now have formal, multi-year agreements covering virtually all of the wells we operate, which provides us with clear asset retirement parameters within which we can budget comfortably from the stable operating cash flows we generate,” he said.
Giving away wells
The settlement gives the company five years to assess all of its wells in Pennsylvania. Any more abandoned wells identified during that review will be put on a schedule for plugging or restoration, with wells posing possible health or safety hazards to be plugged first.
If the company requests to extend the agreement by five years, it will have to post a $30,000 bond for each well it plans to plug during the extension period.
If the company wants to buy unproductive wells, Diversified will need to secure an agreement with DEP and post a $20,000 bond per well or demonstrate that each can produce at least 500,000 cubic feet of gas per year.
“The provisions in this agreement will prevent Diversified, Alliance or any related company from accepting empty liabilities from other companies who wish to get abandoned wells off their books,” the DEP’s Mr. Counahan said.
Diversified also will not be able to transfer unproductive or previously abandoned wells to other companies or landowners without the state first securing plugging agreements and $20,000 bonds with the new owners.
That provision is evidence of DEP’s broader concern about companies selling or giving away wells near the end of their productive lives to homeowners who might not fully understand the maintenance and plugging obligations that come with ostensibly free gas.
It is a legal — if ethically dubious — way for companies to shift tens of thousands of dollars in plugging costs to someone else.
“I’m willing to bet the average person acquiring them does not have that money,” the DEP’s Mr. Perry said in January. (2)
(1) Pennsylvania Dept. of Environmental Protection (Mar 11, 2019) – DEP Reaches Settlement on Abandoned Wells
(2) Pittsburgh (PA) Post-Gazette (Mar 11, 2019) – Pa. strikes well-plugging deal with largest conventional oil and gas operator in Appalachia
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