July 26, 2008

UT Banking on Profit From Oil Land Deals: Up to $1 Billion Possible to Beef Up Its Endowment

By Janet Elliott, Houston Chronicle

Jul. 26--AUSTIN -- The University of Texas System is looking to trade on high oil prices -- and potentially raise up to $1 billion for its endowment -- by selling future production from land it manages in West Texas.

The regents this week authorized UT officials to negotiate with one or more parties to sell a portion of its oil and gas production at a fixed price over a set time period.

The buyer would pay up front for the oil and gas produced in coming years from 2.1 million acres spanning 19 West Texas counties.

"Current market conditions have given us this opportunity to take advantage of relatively high oil and gas prices and low interest rates," said Scott Kelley, the UT System's executive vice chancellor for business affairs, in a written statement.

"This move gives us the potential to significantly enhance the revenue stream for the institutions in the near term."

Energy industry experts said the decision won't likely have a significant impact on the prices drivers pay at the fuel pump. And UT System leaders wouldn't say whether the expected infusion of money might reduce tuition costs, which have skyrocketed in recent years.

Matt Flores, spokesman for the UT System, said no decisions have been made on production amount, the length of the royalty lease or how agreements would be structured.

$50 million for education Any revenue gained would go into the Permanent University Fund to be invested by managers of the endowment, currently valued at $12.2 billion.

Five percent of the fund is distributed annually to higher education, with two-thirds going to the UT System and one-third to the Texas A&M System.

Under the fund's distribution formula, if the so-called "forward sales" contracts bring in a possible $1 billion, that would mean an additional $50 million available for higher education. By law, that money must be shared by 18 institutions and six agencies across the two systems.

"It's not an inconsequential amount but, by no means is it transformational," Flores said.

He wouldn't speculate on whether the effort to boost the endowment might ease future tuition increases.

"Any time there's a revenue stream that goes toward our university that is improved it benefits our students in the long run," he said.

Regents' approval needed A competitive bid process will be used to select a company or companies, UT said. Terms of any contracts would need approval from the UT Board of Regents as well as the Board for Lease of University Lands, a panel headed by Land Commissioner Jerry Patterson and including some regents from both UT and A&M.

Patterson said many details need to be worked out such as what would happen if UT couldn't deliver all the oil guaranteed in a contract.

"Like anything else, the devil's in the details. But with oil prices where they are, if you can do this, there's no better time to do this than now," Patterson said.

Ken Medlock, an economics professor at Rice University, said the main risk in selling future production is that prices rise significantly.

"You get a nice big check at the beginning, what if prices go up? Then you've actually sold your assets for pennies on the dollar," he said.

Another risk is that problems with the wells or oil reserves prevent the delivery of the promised amounts. Then the state would have to go out and buy oil in the market.

An oil industry analyst said he expects there will be interested buyers. Peter Beutel, president of Cameron Hanover, an energy risk management firm in New Canaan, Conn., said the deals make sense for the endowment.

"They are getting today's price, and going to be able to invest that money in other things," he said.

Additionally, Beutel said, consumers could benefit by having the oil on the futures market.

"They are taking a socially responsible approach to this. Rather than hold the asset, they are selling it and trying to be part of the solution to bring down prices."

The Texas Constitution of 1876 established the Permanent University Fund through the appropriation of land grants previously designated to UT, as well as an additional 1 million acres. Another grant of 1 million acres was made in 1883.

The land is managed to produce income from oil, gas and mineral production and surface grazing.

In fiscal year 2007, nearly $273 million was generated from oil and gas production, up roughly $57 million from the previous fiscal year. That resulted in distributions of $9.1 million to the UT System and $4.5 million to the Texas A&M System.

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