Barrels of Wisdom: A Practical Guide To Oil Well Ownership – Part 2
Buying an oil well sounds complicated, and information is scarce. I found out how something complicated can be simplified, so anyone can do it!
Step by step-You can do this too!
I will guide you through the step-by-step process of starting your own oil company in Texas, and we’ll delve into the impact of each critical step.
It’s not easy but it’s also not as complex as one might think. Experience is a great benefit, but not mandatory. Anyone truly can do this!
1. Hire an Oil and Gas Attorney
The first step in starting your own oil company in Texas is to hire an oil and gas attorney licensed in Texas.
This is crucial as the oil and gas industry is highly regulated by the Texas Railroad Commission www.rrc.texas.gov.
You will need legal expertise to navigate the complex laws and regulations governing the industry.
An attorney can help you understand the legal requirements for licensing and operating an oil company in Texas and ensure you comply with all relevant laws and regulations.
2. Create a Texas LLC
In order to do business in Texas, you must have a Texas registered business entity.
Legal counsel can create a Texas Limited Liability Company (LLC) for your oil company.
Forming an LLC provides liability protection for your personal assets and offers tax benefits for your business.
It also allows you to operate under a formal legal structure that is recognized by the state of Texas.
It is foolish to attempt to operate a business, especially in oil and gas, with its controversies, without this shield protecting your personal assets.
Too many frugal individuals choose to cut corners in costs that arent direct operating costs. Skipping the legal fees to save some money exposes assets already acquired through hard work.
One lawsuit or violation could risk your net worth.
A good attorney and formation of a legal entity is critical, to protect you and give peace of mind!
3. P-5 (Operator) Licensing & Financial Mandates.
After creating your LLC, the next crucial step is to satisfy the P-5 (operator) compliance mandates.
The Texas Railroad Commission refers to the operators license as a P-5.
This entitles you to all the benefits and all liabilities associated with any actions taken or actions occurring at the properties you operate.
Wells 1 – 10 requires $25,000
Wells 11–99 requires $50,000
Wells 100+ requires $250,000
Financial compliance for P-5 is satisfied by either Cash deposit, letter of credit from financial institution, or P5-Surety Bond.4
This deposit serves as a financial guarantee mandated by the Texas Railroad Commission (RRC) to ensure compliance with the state’s regulations concerning oil and gas production.
The surety deposit insures that well abandonment, plugging liabilities will be handled by you.
If you don’t meet the mandated financial requirements, you will be refused a P-5, and cant operate an oil well for production in Texas.
Make sure not to skip this step!
4. P-4 Well assignment licensing
Once your P-5 is officially established, you will need to start the transfer process of each of your wells P4’s transport compliance.
Under your P-5 operator’s license. You will manage each oil wells, designated by a P-4 license.
This license is unique to each well and allows you to transport and transfer oil from the well identified on the P-4 license.
This is the Texas RRC method to ensure everything associated with a unique oil well complies with all state and federal regulations for transporting oil and gas.
As a simple metaphor;
Your P-5 is your driver’s license.
Your P-4 is proof of insurance to a specific vehicle.
Without a P5, you aren’t able to produce oil from any oil well.
Without a P-4 you can’t produce and sell oil from a specific assigned well.
This is tightly regulated.
If you have your P-5 or P-4 suspended, or revoked the ruling is publicly posted on RRC website.
RRC will provide news of your official suspension directly to your oil marketing broker.
Your ability to produce and sell your oil will be officially frozen and is non-negotiable.
5. Perform a Thorough Due Diligence
Before you start selling oil it is essential to conduct due diligence on the oil and gas rights you plan to develop or operate.
Check the deed transfers to ensure you have the legal right to extract oil from the property.
If the deed never was legally transferred to the seller – he/she just sold you something they didn’t legally own!
Check for existing tax liens or disputes that could affect your operations. Unpaid property taxes will transfer to you, the buyer, as well as any liabilities.
Check the paydeck to ensure all royalties and proceeds have been properly distributed. Acquiring a well with a non-compliant paydeck, could be a “game-ender,” as you will assume that unpaid liability.
Study up the past production reports per each P-4. This can be found at https://webapps2.rrc.texas.gov/EWA/specificLeaseQueryAction.do
If a lease is being promoted as a 10 barrels of oil per day, (bopd), yet has averaged only 5 bopd for past five years, then this should be considered, in your deal terms.
New wells generally gush early on, then taper off and slowly reduce over time until the well is dry.
That doesn’t mean your proposed purchase will instantly go dry. Be sure to get clarification from seller that they aren’t trying to promote a 5 bopd well as 10 bopd based on the hope of a “future potential upside?”
That’s a very common unethical practice, to promote a well price based on ten year old performance.
Never pay for what it “could be”….pay only for what you’re getting “right now!!”
Conducting due diligence will help you avoid legal issues and protect your investment in the long run. Your attorney should advise you in this step!
6. Get an Oilfield Pumper
Once you have completed your due diligence and secured the necessary permits and licenses, you will need to hire a pumper to manage the day to day work on your oil wells.
A pumper is an essential member of your team who is responsible for monitoring and maintaining the production wells on your property.
A pumper will ensure that your wells are operating efficiently and that production is maximized..
We learned the hard way that the pumper’s competence and work ethic is the hingepoint whether you are producing 6 bopd, 2 bopd, or if your wells are pumping at all!!
Large scale oil business is about speculative investing. Large risk, large reward investing in geologically promising drill sites for new sources of crude.
Small-scale oil business is about current revenue stream, logistics and finding value. Smaller risk/smaller reward, maximizing the cost-effective production capabilities of a well.
For example; if your production peak is 5 bopd, there’s no chance to grow your gross.
You can only maintain and improve viability of your operation through focusing on operational costs, how to optimise and maintain production at the 5 bopd you are assured.
Keeping watch that your well rarely if ever has gauge readings below 5 bopd.
That could require seeking cheaper alternatives for service vendors.
Furthermore, maximizing the pump schedule timer to get the max amount barrels of oil, least barrels of water and least amount of pump time and electricity used.
Most pumpers learn the idiosyncrasies of each wells such as, optimum run time on and time off for the pumpjack, through trial and error.
Some wells can keep up drawing crude oil to the surface on daily pumping, where other wells might start to draw more saltwater brine from the formation below.
Saltwater, a normal byproduct of oil production either can be reused in saltwater injection systems, or hauled off and disposed for a fee.
Saltwater injection well and pump system reuses the saltwater to flood the geological formation below ground thus forcing crude oil out of rock crevices and forcing to surface.
These should all be are legitimate concerns and be part of the decision-making of your pump run schedule.
Base Formula:
(#bopd) x ($ per bbl) x (# of days) – ($ Saltwater disposal) – (cost of chemicals) – (costs of operations) = Rough Profit margin.
The above formula only considers operating expenses and does not include overhead admin costs, such as insurance, legal, accounting, compliance, fees.
7. Set Up Service Vendors and Oil Marketing Purchaser
In order to sell the oil, you produce, you will need to set up vendors and find an oil market buyer close by.
Vendors will provide you with the equipment, services and supplies you need to operate your oil company.
The oil marketing buyer will pick up an oil load from you, as the “upstream” first line producer.
Oil marketing buyer then markets the crude to resell it “downstream” (end-users) e.g., crude oil buyers, refineries, manufacturing, etc.
It is essential to establish strong relationships with vendors and oil buyers to ensure a smooth operation. You want to be able to pick up the phone, call them and have service occurring without extra steps, validation, or hassles.
Have all your business and financial data close at hand when signing up for service from any vendor or service entity and your oil broker.
Brokers will verify if your P-4 is in good standing, before they send tankers out to your lease. Service vendors will run regular credit checks in order to establish services so keep your credit in good standing.
8. Get Reports From Pumper on Gauge Measurements, Keep Track of BBLS
Once production begins, you will need to keep accurate documentation of the oil you produce and ensure accurate measurements are recorded.
Your pumper will provide you with reports on gauge measurements and production rates, which you will use to track the number of barrels (BBLS) produced each day.
Keeping detailed records of your production is essential for reporting to regulatory agencies and monitoring the performance of your wells.
9. File Your Monthly PR to RRC
Any oil production company operating in Texas, is required to file a monthly Production Report (PR) with the Texas Railroad Commission (RRC).
This report provides detailed information on the production volumes, well status, disposition, and other key data related to your operations.
Filing your PR on time and accurately is essential for maintaining compliance with the RRC and ensuring that your operations run smoothly.
10. Call in a Load to Oil Marketer Buyer When You’re Ready
When you have produced enough oil to sell, it is time to call in a load to your oil buyer.
This involves scheduling a tanker pickup of the oil from your production site and arranging for transport to the buyer’s facility.
Timely communication with your oil buyer is crucial to ensure that your oil is delivered promptly and that you receive payment for your production, within the exact dates and times (if spot priced), or on monthly average price values.
11. Keep Excellent Bookkeeping; Cash Flow and Bills Due
Finally, it is essential to maintain good bookkeeping practices for your oil company.
Keeping accurate records of your production stat trends to ensure consistency and forecasting. Good bookkeeping of financials will help you make better decisions.
Paying your bills timely, managing cash flow effectively. ensures the long-term success of your oil company.
Build these back-office admin systems to be as automated and seamless as possible.
Operating an oil company in Texas is a complex process that requires careful planning and attention to detail.
With dedication, hard work, and strategic decision-making, you can build a successful oil company in Texas and contribute to the thriving energy industry in the state and the US.
Oil is no different than with any other business, keep your income high as possible and your outgo as low as possible. Make simple tweaks as you go to maximize performance and income.
What once was a pipe-dream can now be possible!
References:
1. “Oil Prices Pass Record Set in 80’s, then Recedes.” Mouawad, Jad, The New York Times, March 8, 2008.
2. “Who are America’s Independent Producers”? IPAA.org, 2020.
3. U.S. Energy Information Administration, Petroleum Supply Annual, Volume 1, Table 14, August 2023.
4. Railroad Commission of Texas. P-5 Financial Assurance Unit. www.rrc.texas.gov.
It’s my desire with this oil and gas business article series to give you confidence to try ventures others would dissuade you for fear and self-doubt.
Please clap and share your comments and follow me. I am ramping up and growing my non-fiction, and business library!
