There are two primary methods of investing in oil and gas. The first and most commonly known method is purchasing stock in an oil and gas company. The second is through direct participation in one or several wells where the investor actually owns a portion of the well and receives a share of the income it generates. Lone Star Securities specializes in oil and gas investment opportunities via direct participation programs.
Why Invest?
As oil and natural gas supplies are declining, global demand is on the rise. The top eight oil-consuming countries alone consume over 80 million barrels of oil per day. Even with the rising popularity of alternative energy sources as a means to fuel our cars, oil cannot easily be replaced as it is used to manufacture virtually everything we use on a daily basis, from clothing and pharmaceuticals to detergents and insulation. There are thousands upon thousands of petroleum-based products that we rely on every day. Already at record-high prices, experts predict oil prices will soar even higher, reaching $200 per barrel in the not-so-distant future. All of this translates into opportunity for savvy investors.
Through direct participation programs in oil and gas, investors actually own a portion of the well and receive a share of the cash flow it generates via monthly disbursements, which investors can either enjoy as supplemental income or use to re-invest in additional projects or other vehicles. And, you continue to receive profits without leaving your principle invested as is the case with a stock investment. In addition to the high income potential, oil and gas investments offer substantial tax benefits, which the U.S. government has designed to encourage domestic drilling. Since the Tax Reform Act of 1986, direct participation programs in oil and gas are one of the few remaining investments that allow investors to shelter income, making it one of the most tax advantaged investments today. Investors can deduct as much as 65 to 100 percent of their investment within the first year, whether the well is successful or not, and 15 percent of your income is tax-free (see Tax Considerations).
Deal Structure
Oil and gas investments are typically structured on an "invoice-cost" or "turnkey" basis. The invoice-cost structure means investors pay the actual cost to drill and complete the well after paying a one-time overhead fee, which covers the expense of managing and offering the project. The more common turnkey structure, on the other hand, means the company sets a fixed amount for drilling and completion efforts – an amount that is typically double or more than double the actual cost to drill and complete the well. This structure often affords the company a profit whether the well is successful or not.
Through our affiliate and issuer, Riley James Development Corporation, Lone Star Securities offers its projects on an invoice-cost basis. This structure ensures that our goals are aligned with those of our investors as we are both motivated by the anticipation of a successful well. In short, we don't profit unless our investors profit. We believe this structure results in a more favorable partnership for our investors.
Mitigating Your Risk
Through our affiliate, Riley James Development Corporation, Lone Star Securities specializes in multi-well programs as opposed to the more common single-well projects. The multi-well approach helps to mitigate the investor's risk by spreading out your investment across multiple wells and providing a higher probability for success. To fully understand the benefit of this approach, it's important to understand the nature of the business and the complexities associated with the exploration and development of oil and gas. You may have to invest in a series of single-well projects before you find success. With the multi-well approach, you can invest in a series of projects with a single investment. Download our free eBook, "Understanding and Investing in Oil and Natural Gas Drilling and Production Projects" to learn more about the nature of the business, from the geology to exploration and drilling.
Evaluating Oil and Gas Investments
When considering an oil and gas investment, it's important to do your homework. By far, the most important aspect of an oil and gas investment is who you're working with. Here are some tips to help you find out if you're working with a reputable company: (1) Make sure you're investing with a registered broker-dealer and member of the Financial Industry Regulatory Authority (FINRA, formerly the NASD). Registered broker-dealers are held to the highest standards of disclosure and are subject to audit by stated and federal regulatory authorities, including the U.S. Securities and Exchange Commission (SEC), State Securities Board and FINRA. (2) How long has the company been in business? (3) What is their track record, including the amount of money invested and the net amount of cash received by investors per project? Many companies tout the number of wells completed, but it's important to know that many "completed" wells never pay out either because they are dry holes or they fail to provide commercial reserves. A long list of "completed" wells tells you nothing about the company's success rate. (4) How does the company select its projects? (5) How do they structure their deals? Companies who structure their deals on a turnkey basis make their money on the front-end just to drill the project and are less concerned with the wells' outcome. With the invoice-cost structure, on the other hand, the company makes its money on the back-end, profiting only on the production of a successful well as do the investors. (6) Who does the company rely on for geological/geophysical analysis? (7) Who operates the wells and what kind of experience do they have? (8) Ask to speak to existing and/or past investors to find out what their experience has been with the company. Does the company provide timely information and keep investors informed at every stage of drilling? Do they provide disbursements in a timely manner? (9) Are they a member in good standing with the Better Business Bureau? For more information, check out "Evaluating Oil and Gas Projects," an excerpt from the eBook "Understanding and Investing in Oil and Natural Gas Drilling and Production Projects."
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