North Carolina Department of Revenue 2014 Advanced Real Property Seminar

1. North Carolina Department of Revenue 2014 Advanced Real Property Seminar September 24, 2014 ¤ Greensboro, N.C. “Shale Gas 101: Natural Gas Exploration / Development: A North Carolina Perspective” presented by Dr. Kenneth B. Taylor, P.G. State Geologist of North Carolina and Chief N.C. Geological Survey Division of Energy, Minerals, and Land Resources Kenneth.b.taylor@ncdenr.gov (919) 707-9211

2. Role of N.C. Geological Survey • During the N.C. Geological Survey’s 190 years of service to the State, we have been tasked to examine, describe and map the geology, geologic hazards, and mineral resources of the State and publish these findings in NCGS reports and maps. • We are required to provide unbiased, impartial and relevant technical information to all parties and be the custodian of maps, reports, rock cores, cuttings, geophysical logs, and working papers generated by the Survey or donated to the Survey.

3. Categories of hydrocarbon occurrence (Schmoker, 1995) Conventional or Continuous (Unconventional)

4. Kerogen type and maturity (Tmax) – multiple wells Simpson #1 – LE-OT-1-98 Dummitt Palmer #1 - LE-OT-82 Bobby Hall #1 – LE-OT-2-83 LE-C-4-45 – BDH-9 USBM2

5. Conventional Oil Exploration Esso No. 1 Hatteras Light – Drilling and analysis in 1946; 10,044 ft total depth (TD), deepest drilled well in State;drilled 100+ feet into basement rock; no shows oil or gas

6. Esso No. 2 Pamlico Sound – API No. 32-055-2; Drilling and analysis in 1947; 6,410 ft TD to L. Cretaceous; no shows of oil or gas

7. Well Count by County (Summary) • Total number of oil/gas test wells – 128 • (126 plugged and abandoned with two wells Simpson #1and Butler #3 shut-in (under bond of $5,000 each). • First: Craven County in 1925 Great Lakes #2 – total depth 2,404 ft. • Last: Lee County in 1998 – Butler #3 – total depth 2,550 ft. • Top five counties: (1) Onslow with 22 wells; (2) Carteret and Brunswick tie with 16 wells; (4) Dare with 15 wells; (5) Hyde with 10 wells.

8. The most active exploration years, those with ten or more wells completed are: 1971 with 19; 1969 with 13; 1959 with 11; and 1966 with 10.

9. Categories of hydrocarbon occurrence (Schmoker, 1995) Conventional or Continuous (Unconventional)

10. Continuous or Unconventional Hydrocarbons are cooked and cannot migrate from the source rocks due to low permeability (rocks do not have inter-connected pathways to permit fluids or gases to flow through the rocks). In order to release the hydrocarbons, a significant increase in the rock permeability is required using hydraulic fracturing. Wells are drilled with horizontal laterals so that a larger volume of source rock is in contact with the well bore.

13. Basin and Source Rock Overview • Deep River Basin – 150-mile-long northeast trending • half-graben (rift basin) with a steeply dipping eastern • border fault. • ~7,000 feet of Triassic strata. • Lake deposits similar to African rift valley lakes. • ~59,000+ acre prospective area. • Total petroleum system containing: • Source rock • Seal • Traps / reservoir • Relatively untested exploration • area.

14. Generalized cross section From Olsen and others, 1991

15. Shows = oil = gas J.C. Reid – N.C. Geological Survey 919.707.9205 – jeff.reid@ncdenr.gov

16. Seismic Line 113 Bobby Hall #1 TD = 4,610 ft

17. Organic geochemistry • Sediments are predominantly gas prone with some oil shows. • TOC data exceeds the conservative 1.4% threshold necessary for hydrocarbon expulsion. • Organic matter derived from terrestrial Type III woody (coaly) material and from lacustrine Type I (algal material). • Thermal alteration data (TAI) and vitrinite reflectance data (%Ro) indicate levels of thermal maturity suitable to generate hydrocarbons. Reid and Milici (USGS OFR 2008-1108)

18. U. S. Geological Survey (USGS) East Coast Mesozoic Basins Assessment Fact Sheet 2012-3075

19. USGS Resource Assessment Fact Sheet 2012-3075 -- “Assessment of Undiscovered Oil and Gas Resources of the East Coast Mesozoic Basins of the Piedmont, Blue Ridge Thrust Belt, Atlantic Coastal Plain, and New England Provinces, 2011” released June 2012. Methodology: Numerical, conservative approach computed by the U.S. Geological Survey. Data from North Carolina presented to USGS in July 2011. Deep River Basin: Mean 1,660 billion cubic feet of gas (BCFG); Mean 83 million barrels of natural gas liquids (MMBNGL). Dan River – Danville Basin: Mean 49 BCFG; no natural gas liquids.

20. Taxation of Oil and Gas Resources Severance Tax – a percentage of the production. Current rate for North Carolina (1) Oil and Condensates Rate. – three and one-half percent (3.5%). (2) Gas Rate: Marginal Rate. – Rate is six-tenths of one percent (0.6%) on wells producing <100 MCF per day. Gas Rate. – applied to the delivered to market value of the gas sold. Up to $3.00 per MCF; rate is 0.9% $3.01 per MCF to $4.00; rate is 1.9% Over $4.01 per MCF; rate is 2.9%

21. Taxation of Oil and Gas Resources Ad Valorem Tax -- Latin for “according to value”. In Texas and some other states, Ad Valorem taxes on energy minerals are levied at the county level. This tax becomes payable only when minerals are producing, and are billed / collected once a year. Ad Valorem is levied in addition to state severance taxes. Texas requires the use of the Discounted Cash Flow (DCF) Calculation.

22. Taxation of Oil and Gas Resources Discounted Cash Flow (DCF) Calculation Four (4) variables contribute to the DCF method. A. Production profile, or production decline curve. Note in example that 80% is produced < 6 years

23. Taxation of Oil and Gas Resources Discounted Cash Flow (DCF) Calculation 2. and 3. Operating expenses and oil/gas prices.

24. Taxation of Oil and Gas Resources Discounted Cash Flow (DCF) Calculation 4. Discount Rate (the cost of money).

25. QUESTIONS?