OIL AND GAS INVESTMENTS

Oil & Gas Investing Overview

If you want to hedge your investments portfolio with an energy component, you should seriously look at direct oil and gas exploration investments.

You can participate in oil and gas investments in two ways. The first is through stock ownership in an oil and gas company, mostly through the stock exchanges. The second is through direct participation (ownership) in one or several wells.

Most people are somewhat familiar with stock ownership. However, many people are generally not familiar with Direct Oil and Gas Investment Participation. To put it in a nutshell, Direct Oil and Gas Investment Participation investors own a portion of the well and receive a corresponding share of the income generated by the well. The income derived by ownership is paid to the investor without income taxes being deducted.

Additionally, a direct participating investor may be entitled to substantial tax deductions; see Tax Considerations. A primary difference between Oil and Gas Companies' Stocks Ownership and Direct Oil and Gas Investment Participation is that direct participants receive monthly/quarterly revenue cheques; cash flow is generated while holding the investment, while stocks owners wait for dividends. Typically, stock investor returns are reinvested in the company, leaving the investor with the risk of cumulative profits being lost due to volatile market conditions. Besides the investments is locked until they sell the stocks. In direct participation, they recovered their capital over a few years and this unlocks their capital for redeployment in other investments earning them another income stream.

The net income from an oil and gas well depends on a number of factors that can be condensed into three groups:

• Flow -- Quantities of oil and gas are expressed in barrels for oil and cubic feet for gas. Oil wells produce mostly oil with natural gas as a byproduct which can generate some additional income. Gas wells generate their income primarily from the flow of gas, although most of them also produce condensate (oil which is expelled as a vapor but condenses into a liquid). Condensate can sometimes be a significant source of revenue.
• Market Price -- Oil and gas prices can be volatile as recent events have illustrated. Oil has a multitude of end users, from gasoline to plastics. Gas is used primarily for electrical generation and heating. While oil is shipped easily across oceans, 99% of the gas used in the United States comes from the North American Continent due to shipping difficulty. While the price of gas is not as affected by world events as oil, there is a direct relationship between oil and gas prices since many large users can switch between the two.
• Fixed Costs -- Royalties paid to the land owner (typically 12.5-25% of income), severance taxes on the production (4.6% for oil and 7.5% for gas in Texas, 12.5% for oil and $.373 per 1,000 CF of gas in Louisiana effective July 1, 2006 through June 30, 2007), and fixed costs to operate the well (usually a few thousand dollars per well with investors paying their proportionate share).

WORKING INTEREST AND NET REVENUE INTEREST

Two common terms anyone considering an Oil and Gas Direct Participation Investment should know are Working Interest and Net Revenue Interest. Definitions of the aforementioned terms are as follows:

• Net Revenue Interest -- Portion of the well’s net revenue stream that an investor owns, usually expressed as a percentage. Net revenue is the revenue remaining after the fixed costs and taxes are deducted.
• Working Interest -- Portion of the well’s costs that an investor is responsible for, usually expressed as a percentage.