Proved reserves. No single thing more affects an exploration and production company's value. But until oil or gas actually flows to the surface, past the meter and into the sales line, they are unseen. Really, just elaborate conjecture, albeit based on science. There is the issue of timing-when will they be produced, and is there a buyer? We can cite numerous examples of small independents that went overseas to find reserves, only to find themselves a dilemma instead. They discovered oil or gas, but no way to market, so the economic benefit of the geological success was nil, and the small companies died for trying. This is partly what tripped up Shell. It booked-then had to write off-some Australian reserves at Gorgon Field anticipating a sales contract that so far has not materialized. It is telling that its partners in the field did not book as proved their share of the same reserves. Conservative ExxonMobil, one of the partners, is known for underbooking proved reserves to maintain a cushion for the future. Then there is technology. Resources may be down there all right, but they don't become proved reserves until the E&P company can produce them economically. There is always the danger it will report a technical success but commercially, a dry hole. Some of the deepest, most challenging wells fall into this category. There is the question of infrastructure. Gas reserves on the North Slope and Mackenzie Delta have not been booked as proved for lack of a pipeline to market. There is the question of year-end prices. Some 100 barrels may be physically present in the formation, but at $20 per barrel, they "disappear" from a company's books while at $30, all of them can be economically recovered. Finally, there is the question of judgment that colors science. There can be a lot of play in the numbers for political reasons. Senior exploration editor Peggy Williams, a geologist who worked on the E&P side of the business for 16 years before joining the magazine, notes that, in some companies, managers pressured engineers to book reserves a certain way. "Remember, a PUD (proved undeveloped barrel) usually means there is no wellbore yet. And in the end, you only know how much a field will produce when it produces the last drop and you are about to plug and abandon it," she says, only half-jokingly. Small companies eager to show growth may book every drop that is behind pipe, while larger companies can afford to be conservative. They know the resources are there. Developing them is just a matter of working through the project inventory during the next two or three years-or waiting for technology to come along that will finally render them economic. Tight-gas plays now being drilled, such as the Barnett Shale, fall into this category, as new frac techniques make them economic. Why the high-profile write-downs now, when high prices should in theory make proved reserves more viable? There is no better time to analyze everything under the tent and take the pain of a write-down because high prices lessen the amount of the write-down. El Paso recently wrote down 41% of its gas reserves, in its year-end 2003 summary, and year-end gas prices were around $5 per thousand cubic feet. Think how much greater the write-down would be if gas was trading at $3.50. The upshot of all this is likely to be greater scrutiny by regulators and boards and a boom for third-party engineering firms. "We believe many, if not most, E&P companies will increase their use of third-party consultants in reserve estimation...," says Mark Meyer, E&P analyst for Simmons & Co. International. "Disclosure of more detail could become common practice, as Anadarko's recent decision to publish [more detail] shows...At a minimum we expect E&Ps to move from a partial audit to a full reserve report." The Canadians are ahead of their U.S. counterparts on this one. Last fall they passed National Instrument 51-101, which standardizes and redefines proved reserves. E&P companies must have a 90% probability that the reserves that are eventually brought to the surface do equal or exceed the estimate. Costs required to bring PUDs into the proved producing category must be given. Companies must separate economic and technical reasons for any revisions. EnCana Corp. led the way, saying early last year that 100% of its reserves are independently audited, every year. Many large producers still have only a portion of their reserves audited by third parties each year. This issue had been around for awhile. Since 2000, the International Accounting Standards Board in London has been trying to draft industry-wide standard definitions for reserves. It is coordinating with the U.S. Securities and Exchange Commission, OPEC and the U.N., and will take into account definitions of proved reserves from the Society of Petroleum Engineers and World Petroleum Congress. A preliminary report is expected this month.