Proven Reserves: What They are, How They Work

What Are Proven Reserves?

Proven reserves (sometimes called "proved reserves") refer to the quantity of natural resources that a company reasonably expects to extract from a given formation. Proven reserves are established using geological and engineering data gathered through seismic testing and exploratory drilling.

In oil and gas extraction, once the physical shape of a formation is understood, the reservoir is estimated by fluid contacts. Fluid contacts refer to the natural layering of gas, oil, and water in a formation.

An accurate picture of the formation shape and known levels of fluid contact provide the data for a volume estimate with a high degree of confidence. Proven reserves are classified as having a 90% or greater likelihood of being present and economically viable for extraction in current conditions. Within the oil industry, proven reserves are also referred to as P1 or P90.

Understanding Proven Reserves

As part of the exploration and production process, firms use the results of a seismic survey of a piece of land to determine the amount of oil available beneath that land. The companies then categorize the amount of oil based upon an estimate of the relative ease or difficulty of getting the oil or gas out of the ground.

Proven reserves also take into account the current technology being used for extraction, regional regulations, and market conditions as part of the estimation process. For this reason, proven reserves can seemingly take unexpected leaps and drops. Depending on the regional disclosure regulations, extraction companies might only disclose proven reserves even though they will have estimates for probable and possible reserves.

Possible reserves refer to oil reserves for which the estimated likelihood of successful extraction is between 10% and 50%—assuming that existing equipment is used and the extraction is carried out under typical conditions. Probable reserves then make up the next portion of the oil present in an area surveyed by an oil and gas exploration firm that has a 50% to 90% predicted recovery. Proven reserves sit at the top of the scale, at a 90% or above likelihood of commercial extraction.

Rapid Classification Changes in Proven Reserves

Understanding the natural resource extraction industry can be challenging because proven reserves are just one of three classifications. Most people assume proven gas and oil reserves should only go up when new exploratory wells are drilled, resulting in new reservoirs being discovered. In reality, there are often more significant gains and losses resulting from shifts between classifications than there are increases in proven reserves from truly new discoveries. For this reason, it is useful for investors to know a company’s proven, probable, and possible reserves rather than just the proven reserves.

If an investor doesn't have the data on probable reserves, proven reserves can suddenly change in a number of different situations. For example, if a company has a large number of probable reserves and a relevant extraction technology improves, then those probable reserves are added to the proven reserves.

Additionally, if the price of oil goes up, oil and gas companies have a wider range of more expensive extraction methods that can be deployed while still turning a profit, again moving probable reserves into proven. Sometimes it is a matter of regulations, where a certain technology cannot be deployed until approved. In this case, the approval can positively impact the proven reserves for the entire industry operating in the region, as has occurred with hydraulic fracturing.

Of course, proven reserves can also decline. They do so naturally as reservoirs are depleted through production, but they can also see sharp drops when regulations take a particular extraction or operational method off the table. So even when the probable and possible reserves are disclosed, it can still be difficult to predict changes in proven reserves.

Proven Reserves in Oil, Gas, and Mining

For the oil and gas sector, the Society of Petroleum Engineers (SPE) has set the international standards for petroleum reserve definitions. In the mineral and mining sector, the Committee for Mineral Reserves International Reporting Standards (CRIRSCO) works to standardize reserve definitions. The mining industry prefers inferred, indicated, and measured to represent the growing knowledge and confidence in a formation, but analysts still apply the terms probable and proven to the mining industry.

Proven reserves in mining are the economically viable and minable portion of the measured mineral resource. Loosely speaking, the mining industry definition of proven reserves has been adopted from, and adheres to, the oil and gas sector definition. In the U.S., both industries are ultimately answerable to the Securities and Exchange Commission (SEC) for their definitions, as these public disclosures have a material impact on extraction companies’ stock prices.