Hess 2011 Annual Report Download - page 61

(2) sufficient progress is being made in assessing the reserves and the economic and operational viability of the
project. If either of those criteria is not met, or if there is substantial doubt about the economic or operational
viability of the project, the capitalized well costs are charged to expense. Indicators of sufficient progress in
assessing reserves and the economic and operating viability of a project include: commitment of project
personnel, active negotiations for sales contracts with customers, negotiations with governments, operators and
contractors and firm plans for additional drilling and other factors.
Crude Oil and Natural Gas Reserves: The SEC revised its oil and gas reserve estimation and disclosure
requirements effective for year-end 2009 reporting. In addition, the Financial Accounting Standards Board
(FASB) revised its accounting standard on oil and gas reserve estimation and disclosures. The determination of
estimated proved reserves is a significant element in arriving at the results of operations of exploration and
production activities. The estimates of proved reserves affect well capitalizations, the unit of production
depreciation rates of proved properties and wells and equipment, as well as impairment testing of oil and gas
assets and goodwill.
For reserves to be booked as proved they must be determined with reasonable certainty to be economically
producible from known reservoirs under existing economic conditions, operating methods and government
regulations. In addition, government and project operator approvals must be obtained and, depending on the
amount of the project cost, senior management or the board of directors must commit to fund the project. The
Corporation maintains its own internal reserve estimates that are calculated by technical staff that work directly
with the oil and gas properties. The Corporation’s technical staff updates reserve estimates throughout the year
based on evaluations of new wells, performance reviews, new technical data and other studies. To provide
consistency throughout the Corporation, standard reserve estimation guidelines, definitions, reporting reviews
and approval practices are used. The internal reserve estimates are subject to internal technical audits and senior
management review. The Corporation also engages an independent third party consulting firm to audit
approximately 80% of the Corporation’s total proved reserves.
Impairment of Long-lived Assets and Goodwill: As explained below, there are significant differences in
the way long-lived assets and goodwill are evaluated and measured for impairment testing. The Corporation
reviews long-lived assets, including oil and gas fields, for impairment whenever events or changes in
circumstances indicate that the carrying amounts may not be recovered. Long-lived assets are tested based on
identifiable cash flows that are largely independent of the cash flows of other assets and liabilities. If the carrying
amounts of the long-lived assets are not expected to be recovered by undiscounted future net cash flow estimates,
the assets are impaired and an impairment loss is recorded. The amount of impairment is based on the estimated
fair value of the assets generally determined by discounting anticipated future net cash flows.
In the case of oil and gas fields, the present value of future net cash flows is based on management’s best
estimate of future prices, which is determined with reference to recent historical prices and published forward
prices, applied to projected production volumes and discounted at a risk-adjusted rate. The projected production
volumes represent reserves, including probable reserves, expected to be produced based on a stipulated amount
of capital expenditures.
The production volumes, prices and timing of production are consistent with internal projections and other
externally reported information. Oil and gas prices used for determining asset impairments will generally differ
from those used in the standardized measure of discounted future net cash flows, since the standardized measure
requires the use of historical twelve month average prices.
The Corporation’s impairment tests of long-lived E&P producing assets are based on its best estimates of
future production volumes (including recovery factors), selling prices, operating and capital costs, the timing of
future production and other factors, which are updated each time an impairment test is performed. The
Corporation could have impairments if the projected production volumes from oil and gas fields decrease, crude
oil and natural gas selling prices decline significantly for an extended period or future estimated capital and
operating costs increase significantly.
The Corporation’s goodwill is tested for impairment annually in the fourth quarter or when events or
circumstances indicate that the carrying amount of the goodwill may not be recoverable. The goodwill test is
conducted at a reporting unit level, which is defined in accounting standards as an operating segment or one level
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