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Disclaimer: The information discussed by Norbert in this video applies to the U.S. only and does not relate to Canadian audits.

Russ: This is the PKF Texas – Entrepreneur’s Playbook®. I'm Russ Capper, and I'm here with Norbert Czypionka. Not really here because you're actually in Calgary and I'm in Houston, but he's a Senior Manager with Joint Venture Strategic Advisors. Norbert, welcome to the Playbook.

Norbert: Thanks for having me, Russ.

Russ: So, Norbert, tell us what you do with JVSA.

Norbert: I have a few hats that I wear at JVSA. I am Senior Manager, and I'm responsible for all the revenue style type audits. I actually perform audits, I do training, client engagements. I really do a lot of different things on a day-to-day basis, and it's a very exciting and it seems to be a growing industry and so forth. So, it keeps me challenged all the time.

Russ: Okay. So, you shouldn't have trouble at all answering this question. What is a revenue audit?

Norbert: That is one of the questions that a lot of times I have to answer. Most people think that revenue audits are just the dollars and cents. What do I get into the bank account? But it's more than that. Revenue was the end result of what happens is we produce oil and gas out of a wellhead, oil gets sold typically out of the actual pad onsite, gas flows through different gathering systems, gas plants, gets processed and you get your residual products, methane, ethane, propane, butanes, pentanes, condensate and so forth. So, what we really do in a revenue is what I also have a term called “wellhead to wallet.” We're responsible to audit everything from – depending on our client's needs – everything from the wellhead to the wallet. And as I say, I don't necessarily count just money. We count molecules and we ensure that our clients are kept fair and equitable.

Russ: So, tell us a little bit about your clients. I mean, the breadth of what you just mentioned, there might be, everybody might be a client.

Norbert: There are numerous different clients we have, and it depends on their relationship with the operator. And it depends on the type of marketing arrangements that they have. In some cases, our clients, they're partners in facilities, wells, and so forth, but they don't operate it. So, what we do is we go in and we review the operators records just to ensure that they're getting the right revenue, that the allocations are done fair and equitable, as well as the fees associated with having all of these different processes through the systems that they're being treated fair.

Then we have other clients, which are usually larger companies, and they have a working interest ownership and facilities, and these facilities are operated by somebody else. Now, these larger companies, they market their own products. So, then we don't really audit the financial aspect. We audit the actual molecules that are produced and ensuring that the measurement is in place and ensuring that the allocations are done in a fair and equitable way along with what does the agreement state.

Russ: What kind of background, are you an accountant, would you say?

Norbert: I do not have an accounting degree, but I did take – at one of our colleges here in Calgary – I took business administration and majored in accounting. When I actually started in the oil and gas industry, I didn't know what production revenue was; I did not know anything about it. So, what I did was I was moved very early in my career to doing production revenue royalty accounting, and I loved it. And so, through time, I've actually self-taught myself, reached out to subject matter experts and gained knowledge from them. I got into it. I looked at looked at reports, I looked at allocations, I analyzed data. And through time I've just been able to develop my career in the last 30 years of becoming a subject matter expert in the area.

Russ: Okay. So, you talk about molecules; you're always just managing molecules, but at some point, doesn't that have to turn into revenue?

Norbert: Absolutely. Oil, I'll start with oil. Oil is produced out of the wellhead, and it comes along with the associated gas and water. So, then the oil will typically go through a treater and then from that, treater will go into storage tanks and then it will adapt product. That oil product will either be pumped through a pipeline or put into a truck and transported. That is now a marketable product. And that is an oil that will go to a refinery, which will actually be refined into mainly gasoline, diesel fuel, plus a whole host of other types of products, which could be textiles, which could be pharmaceuticals. There's a lot of different products that come with that.

The gas that comes out of the well can come along with oil, or it could be just the gas well, and that will actually get processed through a gas plant. What you get out of a gas plant is like a molecule, which is methane, which is really not quite that hot of a product that we use, especially in the Northern climate for heat in our homes. It's also used for fuel for coal gen facilities. It's also used in many different areas as well.

Then there's a product called propane. We all know what propane is. Propane is what we burn on our grills, and that is another product that comes up.

Then we have butane, which is another type of a molecule. They have different chains; they're actually a different, slightly different structure of carbon and hydrogen atoms. And then we can go down into pentanes or condensate, which is like a really light oil. And that really light oil can be actually sent along to refinery. Now that we have things like heavy oil, which is really, really heavy a lot more carbon atoms and hydrogen atoms, and we can use these products, the propane, butanes, compensate, and pentanes, and we can blend that together to actually help the oil float through pipelines.

Russ: Okay. Very interesting for sure. But even closer to the surface, when I talked about dollars and turning it into revenue, I've heard this term or R.A.D.E. Tell us about that.

Norbert: The R.A.D.E., the RADE. The RADE is just a document we receive or a report that gives us all of the financial transactions that relate to a specific well. So, it will give you what the actual volumes were sold, the actual price, the dollars associated with it when you sell that product out in the market to the different purchasers, it also would include things like processing fees, transportation, severance tax, other types of taxes when it comes to, I've even seen it where they've actually got ad valorem taxes. There's also compression, processing fees, transportation fees, all of those costs that are associated with the actual processing and sale of that marketable product.

Russ: So, what is a net revenue interest, and what is a reasonable net revenue interest percentage?

Norbert: Well, there's two terms that we use. One is a working interest ownership percentage, and that is what you own of that well; that is your working interest ownership. And NRI percentages, which is a net revenue interest. And what that is – and this is typically only for organizations that do not take their products and coin and the actual operator markets those products. The NRI is a percentage which is less than the working interest ownership. And that is the net proceeds that our clients would receive after the royalties are paid. It is the operator's responsibility or the company that marks up to pay the royalty owners. And the royalty owners can be individuals, can be the governments, it can be the natives, it can be a company; there's different types of royalties.

So, when the actual operator pays our clients, they pay them net. And that NRI percentage is, as an example, we've heard the term 8/8ths and 7/8ths. And 7/8ths is 87 and a half percent. That means there's a 12 and a half percent royalty. So, if I have a 50% working interest ownership in it, that means I own 50% of the production that comes out of the well, but I will have to pay 50% of the 12 and a half percent, which is 6.25% to the royalty owner. So, my NRI would be the 50% less the 6.25%. That's just generalities of a 12 and a half percent royalty. So, when they get paid for their sales, they will only get paid the net after royalties. So, they use the term NRI percentages.

Russ: What is the most difficult item that you have to review on a R.A.D.E.?

Norbert: Well, there's quite a few components, but one of the things that I find very interesting in a lot of the audits that we do, our clients will get paid their share of the product sales based on the NRI percentage. However, when it comes to the deductions that are associated with that product getting to market, sometimes those costs are not born by the royalty owner. And there are stipulations that say, “You are not allowed to take any deductions,” “You are only allowed to take 50%,” or, “You have to cap it out at this.” There's so many different rules.

And within the lease agreement you have to read through, and I've read through lots of lease agreements, and those lease agreements are hundreds of pages long and some of them are very old. And you have to go through, and you have to read those lease agreements to see. And then there's addendums done afterwards. So, it's not only just the original lease agreements, it's the addendums. And it's gaining through all of that documentation to ensure that the deductions that are applied to those sales, are they actually calculated by the right percentage to our clients. Is it based on an NRI percentage, is it based on a working interest ownership, or is it a combination of both?

Russ: When you're advising somebody like this, are there always other advisors or other people that are in the joint venture?

Norbert: Well, a lot of times what we do is we provide the expertise to our clients. And a lot of times if we are unsure about certain agreements, we will work with our client’s land departments, our clients joint venture departments. We will deal with them to find out what their interpretation of the rules are. We will also use the Internet. We will also go to websites or even court cases. You know, I ended up doing an audit down in Texas a while back and it said net realized. Well, that went to court. And so, we'd look into what the court record states. So, we do the research and if we don't get the answers, we find the answers.

Russ: I really appreciate you spending some time with me today.

Norbert: It was my pleasure Russ.

Russ: For more about joint ventures, visit jvsa.com. This has been another thought leadership production brought to you by PKF Texas – The Entrepreneurs Playbook®.