Blog: Hermosa Beach Oil Recovery Project Economic Benefits: Questions and Answers

This blog post is sponsored by E&B Natural Resources.

Question: What is the Hermosa Beach Oil Recovery Project?

Answer: The Hermosa Beach Oil Recovery Project is a proposal to access previously developed oil and gas resources within the City’s jurisdiction from a single, onshore location by utilizing environmentally safe directional drilling technology.

Q. What is the overall economic benefit to the Hermosa Beach community?

A. According to the recently released economic impact report, “The Potential Impact of a Proposed Oil & Gas Development Project on the City of Hermosa,” conducted by the respected firm Berkeley Research Group (BRG), the project will yield more than $500 million to the Hermosa Beach community.

Q. How much revenue really goes to the City?

A. The City would receive $519 million in total economic benefit:

• $490 MM in Oil and Gas Royalties
• $15 MM in additional Property Tax Revenues
• $14 MM in Cost Savings due to Settlement Agreement

Q. How much revenue goes to the Schools?

A. $12 million in revenues would go directly to the Hermosa Beach City School District.

Q. I’ve heard that most of the revenue is restricted to shore or coastal use, because most of it will come from the Tidelands. Is that true?

A. No, that is not true. Revenues derived from Tidelands and Uplands recovery do have differing allocation opportunities for public use. If the base assumptions in the BRG report are realized, the project would deliver $285 million to the City of Hermosa Beach’s General Fund, and an additional $234 to the city that would be subject to the states’ rules governing tidelands royalties.

We must, of course recognize that there is a wide range of potential outcomes from this project. Understanding the range of potential outcomes will be an important part of the dialogue that will take place over the next 12 months regarding the likely benefits of the project.

It is important to note that 37.5 percent of tidelands revenue is unrestricted and goes to the general fund by virtue of an agreement that has been approved by the State Lands Commission.

Q. How do you know the proportion of oil in the Tidelands versus the Uplands?

A. BRG consulted a registered professional engineer, Wayman T. Gore, Jr. of PGH Petroleum & Environmental Engineers, LLC.for help in estimating the revenue split between tidelands and uplands sources. Gore reviewed the most recent geological studies, and based on his review, he estimates that about two-thirds of the oil will come from the Tidelands and one-third from the Uplands. Because the actual split may differ from Gore’s estimates, E&B asked BRG to estimate of royalties assuming different splits. These estimates are set forth in appendices to the BRG report.

Q. What can the Tidelands oil royalties be used for?

A. The tidelands revenues may be used to support projects that are consistent with the State’s tidelands grant to the City and the public trust. The California State Lands Commission (SLC)’s public trust policy requires that tidelands funds be used for programs and projects that are “water dependent or related, and include commerce, fisheries, and navigation, environmental preservation and recreation...or that accommodate the public’s enjoyment of trust lands.”

BRG found that, throughout the tidelands areas of California, other cities earning royalties from tidelands oil have obtained approval from the SLC for projects to reduce their carbon footprint and increase energy efficiency; to improve beach water quality through stormwater treatment; and economic development projects such as street and sidewalk improvement and development of more parking; and beautification projects. The City would need to determine whether a particular project is consistent with the tidelands grant, or whether it requires an amendment to the grant. Other cities have obtained amendments to their grants from the State Legislature, consistent with the SLC’s public trust policy.

Some projects of this nature are currently being funded through the city’s General Fund, so the tidelands oil royalties could replace those funds, and free them up for other general municipal uses.

Q. Are there any restrictions on the use of the General Fund Revenues from oil and gas recovery?

A. Hermosa Beach Proposition L (Ordinance No. 87-897) specified that General Fund revenues derived from hydrocarbon recovery in Hermosa Beach shall be utilized for particular purposes. Therefore, Hermosa Beach voters will decide whether the General Fund revenues generated by the proposed project shall be used for these or other municipal purposes

Q. What is the timing of all this?

A. Most production projects accessing known resources are able to ramp up quickly and recover significant resources in the earlier years. We anticipate that over 35 percent of total output will be recovered during the first 5 years, with 80 percent recovery by the end of the 10th year. This would mean that in the first 10 years, Hermosa Beach would see over $400 million or $40 MM/year.

Q. Exactly what is a royalty?

A. Royalties are like rental payments -- paid to holders of mineral rights -- for the right to produce minerals, such as oil and gas. Payments are usually calculated based on a percentage of gross revenue from the sale of commodities such as oil or natural gas.

Q. How can you be sure there is oil out there?

A. Based on 6 geologic studies, the Hermosa Beach area is estimated to hold about 200 million barrels of oil, of which 35 million barrels can be recovered safely and economically. The actual amount of oil and gas recoveries could be larger or smaller. The two most recent studies estimate that 40-45 million barrels could be produced from the Hermosa field. It is important to note that those studies were conducted 15 years ago and do not fully reflect the recovery rate that can be achieved with today’s technology.

Q. What happens if E&B recovers more than 35 million barrels? Less?

A. The city’s share of royalty payments is a percentage based on the proceeds from selling the oil and natural gas that is recovered. If more than 35 million barrels are recovered, then the amount of money flowing to the City would increase. Likewise, if less were recovered, the result would be less money than the estimate in the BRG report.

Q. How can you be sure of its value, and thus the economic benefit?

A. Revenues, and hence royalties, will depend on the market price for oil and gas when the resources produced by the project are sold. BRG based its price estimates on forecasts made by the U.S. government’s Energy Information Agency – the official source for information on oil and gas markets. BRG discounted the EIA’s forecasts by 12.5% to reflect the fact that California oil typically sell for less than the world price. In all respects, the BRG price estimate of $105 per barrel is considered to be conservative.

Q. Oil prices are volatile and dependent on global markets. Where did you get the $105 estimate?

A. Oil prices are volatile and impossible to predict with certainty. In recognition of this uncertainty, BRG took the base case forecast of the average world price during the

expected life of the proposed project, reduced it by about 6.6% and then discounted the price further by 12.5%. This is how BRG derived the $105/barrel estimate

Q. This all sounds like a lot of money for one community. How does it compare to what Hermosa Beach spends now?

A. Yes this is a lot of money – enough to enable the community to shape its future in a fiscally responsible way. If you look at the first ten years’ recovery, we estimate about $400 million or $40 million/year will benefit the City. The most recent actual Hermosa Beach revenues were $37.6 million for 2011-12.

Q. Why does Hermosa Beach get an additional $14 million from E&B Natural Resources?

A. When the city entered into the Settlement Agreement and Release that ended its litigation with the prior owners of the drilling rights, Macpherson, it borrowed $17.5 million from E&B in order to pay Macpherson its share of the settlement. If the voters approve the proposed project and the project moves forward, E&B has agreed to forgive $14 million of the debt. However, if the project is voted down, the city will be required to repay E&B the full amount of the debt.

Q. Why should I consider BRG to be credible?

A. Bill Hamm, a distinguished economics consultant with high-level experience in both business and government, is a Director at BRG. He is best known to Californians for his more than nine years of service as the chief of the non-partisan California Legislative Analyst’s Office, where he was trusted by both Democrats and Republicans for his integrity and skill at estimating the financial impact of state legislation and ballot initiatives. He also played a similar role for the White House as a division chief in the Office of Management and Budget under Democratic and Republican presidents. Subsequently, Dr. Hamm served as Chief Operating Officer for the Federal Home Loan Bank in San Francisco and Vice-President of World Savings (now part of Wells Fargo).