Fracking: How to Win in the Race to Regulate

By: William M. Laurin

Hydraulic fracking, the process where water, sand and a mix of chemicals are used to extract oil and natural gas from shales and other low permeability deposits, continues to be a contentious topic. While the process is becoming increasingly dominant in north America’s never-ending search for domestic sources of hydrocarbons, a growing and vocal consortium of critics continue to express opposition to the process over perceived environmental and public health concerns, an apparent lack of consistent regulation and enforcement, and recent reports linking fracking to earthquakes and groundwater contamination. These varied concerns have led to fracking being banned or curtailed in several jurisdictions around the world as lawmakers and regulators study the issue and seek a workable balance that allows development to continue while safeguarding groundwater and drinking water aquifers. In what is turning into a “race to regulate,” many governments across North America have announced plans to review fracking practices and to implement new regulations to govern the process.

Federal Environment Minister, Peter Kent, has asked Environment Canada to conduct a study into the impact of fracking, while a document entitled “Guiding Principles for hydraulic Fracturing,” which endorses the disclosure of fracking chemicals, has been issued by the Canadian Association of Petroleum Producers. Alberta’s Energy Resources Conservation Board has already announced changes to its regime, and in British Columbia the Canadian Centre for Policy Alternatives is calling for a slowdown in shale gas development on the basis that the process places unsustainable demands on local water and power resources in northeast B.C. Premier Christy Clark has also announced that B.C. will begin requiring operators in 2012 to publicly disclose the composition of fracturing fluids on a well-by-well basis. Across the border in the U.S., amid a raft of state and local regulatory initiatives, the department of the Interior has released its plans to issue disclosure rules for hydraulic fracturing on federal lands. The Environmental Protection Agency (ePA) also plans to propose rules governing pretreatment standards for water discharges from shale gas fracking operations by 2014.

From an operator’s perspective, the only certainties respecting fracking regulations are that they will multiply, that they will become more onerous, and that jurisdictions will feed off each other as they try to balance public concerns against the benefits of development.

The Race to Regulate

In seeking to understand the patchwork of regulatory approaches being taken to fracking in North America a number of key considerations should be kept in mind. Firstly, the fiscal benefits of fracking that accrue to the various provincial or state governments through land sales and royalty revenue vary widely. For example, owing to settlement patterns in Western Canada’s early history, the proportion of oil and gas rights owned by the provincial Crown varies from nearly 100 per cent in n.e. B.C., to 80 per cent in Alberta, to 50 per cent in Saskatchewan and finally to 20 per cent in Manitoba’s tight oil areas. In the U.S., those states west of the Mississippi River have significantly more state-owned mineral rights than New York or Pennsylvania. The fiscal benefits that flow from government-owned mineral rights directly fund, among other things, healthcare and education budgets. As a result, a more delicate and complex balance must be reached when, for example, the potential public health risks of fracking are to be weighed against the public health benefits of actual resource revenue dollars.

Where fracking can be characterized as a struggle between oil and gas companies and the environment, a different political solution results when the people who the regulator represents are also a significant beneficiary of the development. The political dynamic shifts from “industry vs. environment,” to a conflict between how the negative consequences of industrial activity on a localized area can be weighed against the benefits resulting from that activity for a larger population. Further complicating the balancing of interests in some jurisdictions are competing Crown or state interests, and in particular the role that, for example, hydroelectricity ownership can play in imposing bans on the development of competing shale gas resources where the Crown, through its mineral ownership, would otherwise benefit from domestic production.

Other important considerations include the reality that not all rock is created equal, and that all resources are not equidistant from market. Some jurisdictions are luckier than others, being blessed with reservoirs that lend themselves more readily to shale gas or tight oil production, and some jurisdictions are located closer to domestic consumers or export markets – all of which impact the economics of development. If additional regulatory compliance is viewed as directly resulting in increased operating costs, it follows that each jurisdiction that directly benefits from resource development through mineral ownership has yet another factor to consider in matching competing regulatory regimes. In seeking to appease environmental and public health concerns by adopting increasingly stringent fracking regulations, a “high cost” jurisdiction may be limited in the extent to which it can compete on a regulatory basis with neighboring “low cost” jurisdictions. In the race to regulate, “low cost” jurisdictions may seek to implement tighter fracking regulations with the unintended consequence of eliminating production in a neighboring “high cost” jurisdiction.

How Operators Can Prepare for the Coming Fracking Regulatory Changes

In preparing for the coming groundswell of regulatory change, and the increase in operating costs that will accompany those changes, prudent operators should begin to look at the current regulatory regime merely as a starting point for building best operating practices. As regulation of fracking continues to evolve, and the oversight mechanisms within the various regulatory agencies are forced to respond to increasingly vigilant public and media scrutiny, internal corporate compliance must move away from simple adherence to current regulatory directives and guidelines, toward a proactive, full cycle best practices operating model that accounts for the increased costs that will ultimately reflect the coming political response to the public’s concerns over fracking.

The obvious first step in preparing for impending regulatory change is the recognition at the executive level that regulatory compliance is a complex, frustrating and expensive undertaking – but one which has become necessary to continue operations in the future. Appropriate resourcing and staffing of a dedicated regulatory compliance group will be essential to conducting ongoing fracking operations in Western Canada. The initial task of the compliance group is to ensure that the current standard operating practices are compliant with the regulations in each operating jurisdiction, and furthermore that they are standardized across an organization to promote efficiency. Across Canada, fracking is regulated differently by the various provincial agencies, which in large part reflect the historical depth and breadth of oil and gas activity in that jurisdiction. In addition, there is overriding federal jurisdiction that may impact aspects of your fracking operations. The movement should be away from jurisdiction-specific compliance programs to a corporate-wide best operating practice that exceeds the regulatory requirements in all of the jurisdictions in which operations are conducted.

The next step that an operator can take to prepare for the coming regulatory changes is an overview of recent regulatory changes in the United States. except in those jurisdictions where moratoriums persist, the regulation of fracking in the various north American jurisdictions will largely evolve along parallel tracks – each attempting to appropriately address public concerns in a manner that allows development to continue economically. It follows that any regulatory element endorsed by a competing jurisdiction that successfully meets those twin concerns will eventually be adopted by every jurisdiction in north America to a greater or lesser degree. Some examples include the disclosure requirements and the use of FracFocus (a website where operators post frack water composition) which has widespread application throughout the United States, and now in British Columbia. From a Canadian operator’s perspective, any regulatory requirement in north America that makes sense from an operating perspective, and effectively addresses environmental and public health concerns, should form the basis for its future best operating practices regardless of the regulatory regime in place where it currently operates.

Much of the trouble surrounding fracking is a direct result of poor communication and education initiatives by oil and gas operators with stakeholders affected by their operations. regardless of the anticipated regulatory changes, going forward, best operating practices must include early, comprehensive and meaningful consultation with all affected stakeholders. While relatively rare in Canada, litigation against oil and gas activities is regularly used in the U.S. as a mechanism to govern operating practices in a similar manner to using political pressure to frame increased regulatory oversight. Canadian operators may find themselves named in fracking lawsuits, but the more important takeaway is that becoming familiar with the types of claims that have arisen in the U.S. through these lawsuits provides insight and understanding for companies compiling best operating practices.

In this climate of intense media scrutiny and public concern, and the increased regulation that comprises the political response, it is important that operators proactively adopt best operating practices from around north America, and embrace effective, internal compliance and oversight mechanisms. Potential regulatory noncompliance and litigation from adjoining landowners, community stakeholders and environmental groups represent operational risks that must be identified, assessed, addressed and mitigated in the course of future development plans. Operators that appreciate how the political, environmental and legal climate is influencing the major emerging regulatory and litigation trends in North America will gain a competitive advantage in their fracking operations.

William M. Laurin is counsel to Lawson Lundell LLP and is based in the firm’s Calgary office. He is a recognized expert in coalbed methane, oil sands and enhanced oil recovery and has extensive experience in regulatory compliance matters throughout Western Canada.