Colorado’s ineffective financial assurance and well plugging rules have allowed the growth of a large portfolio of marginal and inactive wells, many of which have been off-loaded onto financially shaky companies.
Like a game of thimblerig, wells change hands and the money to plug them disappears, shuffling the cleanup costs onto Colorado taxpayers in the process.
A perfect example is the unfolding saga of 31 Operating. This company acquired 124 low-value wells in Colorado in 2017 and, four years later, all of them are shut-in and are almost certainly going to be orphaned to the state.
31 Operating –– A new container for old wells
31 Operating incorporated in Delaware in May of 2016 and registered in Colorado in February of the following year. They picked up all of their Colorado wells from Koch Exploration Company LLC (“Koch Exploration”) on October 31, 2017 according to well transfer data from the Colorado Oil and Gas Conservation Commission (COGCC), ending Koch Exploration’s active production in the state.
Figure 1. 31 Operating LLC’s well broken out by daily production averages for 2018
The Koch Exploration well portfolio acquired by 31 Operating was not much to brag about. State data indicate that in 2018––31 Operating’s first full year producing in Colorado––113 of their 124 unplugged wells were already “stripper” wells, i.e., producing less than 15 Barrels of Oil Equivalent (BOE) per day, and two more were injection wells (see Figure 1). Of the total, 69 wells were producing less than 5 BOE per day, and of those, 39 were producing less than 1 BOE per day. So, just months after 31 Operating acquired these wells from Koch Exploration, roughly a third of their wells were basically inactive and 92% were stripper wells at best.
Koch Exploration Company LLC is an affiliate of Koch Industries, Inc., an American privately-held multinational conglomerate corporation with $115 billion in revenues in 2019. Koch could have plugged its inactive and marginal wells, but it found a cheaper alternative in 31 Operating.
Four years on, the situation has only deteriorated. On October 1 of last year, all 91 of 31 Operating’s then-active wells (18 under state jurisdiction) were reported as shut-in, and state records reflect that they haven’t produced since then. If 31 Operating had robust production in another jurisdiction, Colorado might be able to get them to pay for plugging, but this is not the case. The company’s wells in Texas (their ostensible headquarters) and North Dakota aren’t currently producing. Its Texas wells appear to have never produced oil or gas since it acquired them, and North Dakota has been actively confiscating its wells since the middle of last year.
Twenty-five of the 31 Operating’s wells are under the jurisdiction of the COGCC, and without a viable operator, these wells are almost certainly headed for Colorado’s Orphaned Well Program. Applying Carbon Tracker’s cost model, Colorado could shell out over $3 million to plug them, or an average of $120,474 per well. It might be more––in the past year, North Dakota has actually paid an average of over $130,000 per well for plugging wells confiscated from 31 Operating and others, excluding reclamation and remediation costs.
If it were only 31 Operating, this could be written off as a bad break, but there are at least 566 unplugged wells in Colorado held by operators that have no producing wells. At $120,000 per well, this could amount to almost $68 million in plugging costs alone. Furthermore, under the current rules, there is essentially nothing preventing this situation from getting worse; this is what thimblerigging is all about.
Years of Red Flags Gone Unnoticed
Colorado asks for more money when wells become inactive, but it is often too little, too late. In Colorado, having “excess inactive wells” means you need to post more collateral, but at $20,000 per well maximum, it doesn’t make much difference. Compounding the problem, COGCC retains discretion to let an operator to pay even less, which may be the case here.
Looking ahead, all of 31 Operating’s wells will be technically ‘inactive’ October 1; we calculate that 31 Operating will then need to post an additional $350,000 in bonds to comply with the rules, assuming COGCC enforces them. They might, or they might not, based on the argument that doing so will simply force the company into default.
This raises a tricky question: when should COGCC have realized the need to intervene to protect the state? With respect to 31 Operating, these opportunities come to mind:
- When Koch Exploration Company was seeking to transfer the wells to 31 Operating: A huge share of Koch Exploration’s wells were marginally productive at the time of transfer. COGCC could have conditioned transfer on additional financial assurance or plugging but from the looks of it, they did not. Did it consider doing so?
- When North Dakota started confiscating 31 Operating’s wells: In June of 2020, the North Dakota Industrial Commission held hearings to confiscate 18 risky wells from 31 Operating in order to plug them with federal CARES Act funds. The case files show that North Dakota had already secured significantly higher bonds from 31 Operating than the minimum requirement, with single well bonds as high as $200,000. The following September, North Dakota confiscated another 22 wells, and in May of 2021 even more were on the docket for confiscation. Each of these events could have triggered action in Colorado but apparently didn’t. If Colorado’s orphan well program will be receiving these wells, should it worry about the financial state of its operators?
- When its surety sued: About seven months ago, one of 31 Operating’s surety bond providers, Westchester Fire Insurance Company, filed suit for violations of the bond agreement—a clear red flag. The company could face a judgement of over $1.3 million and has only recently appeared in the litigation. Was COGCC aware of this? What did it do to protect Colorado’s interests? Did it conclude that there was nothing to do? If so, when should it have decided to act?
The answer is clear: COGCC should have ensured that the financial means for plugging and reclaiming these wells was provided when they were drilled, not once they’re worth nothing.
The Next Best Time to Act is Now
The COGCC recently carried out enforcement proceedings against independent operator KP Kauffman (KPK) which, according to COGCC, had demonstrated a pattern of disregard for the rules. Enforcing the rules is part of the solution. However, it also needs to be proactive with bond requirements and rules. A purely reactive strategy simply lets inactive wells to pile up, at which point companies have little financial capacity to comply.
Decades of looking the other way has left tens of thousands of marginal and inactive wells in Colorado, and 31 Operating shows that there is currently little to prevent them from shifting into the hands of shell operators that lack the capacity to plug them. As the COGCC seeks to revamp their financial assurance rules, they need to get proactive and require full financial assurance upfront, when new wells are permitted or existing wells transferred from one operator to another. The longer the state allows the thimblerigging to continue, the greater the cost will be to the people of Colorado to clean up the mess. The best time to act would have been decades ago. The next best time is now.