Wall Street Lessons: Just Say No

Whatever happened to trust?

Most AAPG members are investors, through company or individual investment plans, 401(k)s, IRAs, SEPs and private accounts. So the recent rash of revelations about corporate fraud, scandal and bankruptcy — and resulting loss of value — generates in most of us, in a very personal way, righteous anger.

Additional revelations concerning blatant conflicts of interest among well-known securities companies and prominent accounting firms only strengthen our deep sense of betrayal.

Sure, we understand economic cycles. As investors, we accept that markets go down as well as up. As explorationists, we understand risk.

But don't all those directors, officers, auditors and analysts understand that their individual and collective malfeasance have now produced a massive loss of investor confidence — and wasted a great deal of our hard-earned money?

Whatever happened to the concept of stewardship of the stockholder's interests?

Whatever happened to trust?

Whatever happened to integrity?

Easy to identify with such sentiments, isn't it? Not only because of personal loss, but also because we know that the proper functioning of market economies depends upon stockholder confidence, which in turn depends on personal integrity and honoring the rules.

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Most AAPG members are investors, through company or individual investment plans, 401(k)s, IRAs, SEPs and private accounts. So the recent rash of revelations about corporate fraud, scandal and bankruptcy — and resulting loss of value — generates in most of us, in a very personal way, righteous anger.

Additional revelations concerning blatant conflicts of interest among well-known securities companies and prominent accounting firms only strengthen our deep sense of betrayal.

Sure, we understand economic cycles. As investors, we accept that markets go down as well as up. As explorationists, we understand risk.

But don't all those directors, officers, auditors and analysts understand that their individual and collective malfeasance have now produced a massive loss of investor confidence — and wasted a great deal of our hard-earned money?

Whatever happened to the concept of stewardship of the stockholder's interests?

Whatever happened to trust?

Whatever happened to integrity?

Easy to identify with such sentiments, isn't it? Not only because of personal loss, but also because we know that the proper functioning of market economies depends upon stockholder confidence, which in turn depends on personal integrity and honoring the rules.

We're talking here about the long-term health of our economic system, the most productive system in history.


There's a lot of discussion going on in AAPG just now about ethics — what role AAPG should be taking in setting standards, what our obligations ought to be to each other as members, and to the overall reputation and image of our profession. Good business depends upon the confidence of our clients and stakeholders in our work and in our counsel. Our sustained objectivity and sagacity leads to their trust — after all, millions of dollars are being invested in our professional recommendations!

In light of our current concerns, however, there are some practices that go on in the E&P business world that maybe we should consider:

Reserve Overbooking.

Mark McLane and I gave a paper on this issue last year at SPE's Hydrocarbon Economics and Evaluation Symposium (SPE No. 68580). Reserve overbooking is another E&P taboo — a problem no one wants to talk about! It damages stockholder confidence and thus stockholder value. We believe it is a professional and ethical problem, not a technical problem.

Reserve overbooking occurs for many reasons — poor estimating practices, misguided incentives, ignorance, competition for investors and lack of professionalism.

Some cases of reserve overbooking have been blamed upon changes in corporate accounting methods, i.e., from "Full Cost" to "Successful Efforts."

The real culprit here, however, is not the accounting method, or the change in methods, but rather accounting manipulations whose purpose is to maximize various tax provisions, which may become liabilities under a different method.

In any case, the solution lies in thorough interaction of reservoir engineering, economics, accounting conventions and tax codes, combined with the professional intent to convey reality, so that such problems may be anticipated, accommodated and communicated.

Whatever the cause, any temporary benefits that companies (and individual managers) may derive from overstating reserves disappear whenever reserves must be de-booked.

Count on it, eventually, the truth will out. The bill comes due. And the resulting loss of confidence by investors and analysts is made more painful by the fact that it could have been avoided, just by saying "no."

Overselling Prospects.

When the independent prospector presents a prospect for sale, he/she may shortsightedly "pump up" the venture in order to sell the deal, or to preempt anticipated negative negotiating ploys (besides, the operative ethic is caveat emptor, right?).

Increasingly, real E&P pros understand that they're better off playing it straight, and knowing enough about business and economics to spike such negotiating ploys on their own faults.

But what about the corporate "geo-salesman" who does the same thing, figuring the goal is to get the prospect drilled, even if it's inferior to other candidate prospects?

In effect, this amounts to overselling to your own stakeholders! Result? The corporate portfolio is not optimized. The stockholder is penalized. We have all seen examples where the interests of the corporation were sacrificed for the interests of the local business unit (which are usually short-term).

Talk about a classic conflict of interest!

But some corporate prospectors still don't see this kind of thing as unprofessional, which could be avoided just by saying "no."

Biased Testimony.

Several times in my work as an expert witness, I have observed geoscientists and engineers giving testimony in hearings, depositions and even in the courtroom that were technically outdated, biased or even erroneous (but always in favor of their client or employer!). This amounts to technical fraud, and it is always disquieting to observe.

Sometimes it can be successfully challenged and discredited through testimony; sometimes not. Even though blatant offenders can be disqualified by principled judges, sealed court decisions often protect such "hired guns" from exposure, so they continue to serve in future cases, to the discredit of the whole profession.

Here's guidance for the principled expert witness. Serve your client by:

  • Helping to design a defendable case that optimizes his/her position.
  • Identifying and attacking the weaknesses in the opponent's position.
  • Once you're in deposition or the courtroom, remember that you're the servant of the court, and play it absolutely straight.
  • And remember — any employer or client who asks you to shade the truth is someone you don't want to work for anyway! Just say "no."

So — maybe we shouldn't get to feeling too righteous, just yet. While our sense of ethical propriety is still affronted by what has been going on recently in the financial and investment communities, maybe we ought to clean up some of our own E&P practices!

More important, what can we do to improve the general ethical standards of our professional community? I welcome your comments.

Remember, in the long run, shabby ethics are bad for our profession and bad for business.


Recommended Reading: A practical classic about the functioning free market that deserves revisiting, especially in these times: "Free to Choose," by Milton and Rose Friedman (originally published 1980 Harcourt Brace [out of print], reprinted in paperback 1990 Harvest Books).

Read it — you'll like it!

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