It’s no secret that the oil and gas industry is wrought with challenges from the wellhead all the way to the final purchaser, but one that might shock many outside the industry is just how many behind-the-scenes financial processes must be tracked, allocated, reconciled, and reported with precision. From multimillion-dollar drilling programs to fuel sales at the pump, each phase of the value chain carries its own accounting complexities.
From Well to Retail: How Accounting Differs in Upstream, Midstream, & Downstream
While the industry operates as one continuous value chain, oil and gas accounting is typically divided into three distinct streams: upstream, midstream, and downstream. Each has its own operational focus, regulatory considerations, and financial reporting requirements.
Keeping track of these is no small feat, and a failure to do so with precision can not only lead to a loss of money but can also lead to regulatory compliance issues, fines, and much more.
Upstream: Accounting in this realm targets exploration and production (E&P) – simply the finding and extracting of the natural resources, whether it be crude oil or liquid natural gas (LNG). Finding and developing drilling locations, from seismic testing to drilling and completing wells, incurs substantial capital investment. These costs must be meticulously tracked and analyzed.
Examples of upstream-specific accounting are:
· Exploration & Drilling Cost Accounting: Capturing geological and geophysical (G&G) costs, lease acquisition costs, drilling expenditures, and differentiating between successful and unsuccessful wells. Companies often apply either the successful efforts or full cost accounting method, each significantly impacting financial statements.
· Joint Interest Billing (JIB): In many projects, multiple working interest owners share in the costs. The operator must bill non-operator partners for their proportionate share of capital and operating expenses, requiring precise allocation and reconciliation.
· Depletion, Depreciation, and Amortization (DD&A): Calculating the depletion and cost of using up the natural resources that occur while drilling.
· Revenue Distribution & Royalty Accounting: Once production begins, revenue must be distributed to mineral owners, royalty holders, and working interest partners based on predetermined complex ownership agreements.
Upstream accounting is heavily reserve-driven and capital-intensive, requiring strong financial forecasting and asset management practices.
Midstream: Once raw materials are extracted, they move into midstream operations, where the focus shifts to transportation, processing, and storage.
The accounting in midstream operations covers areas such as:
· Pipelines: Midstream accounting covers all things pipelines, including the operation and maintenance costs to keep them in running condition so they can move the product.
· Storage facilities: From big to small, storage costs money. Whether tank farms, underground storage, or LNG terminals, facilities require accounting for storage fees, terminaling charges, and inventory management. Companies must track product volumes, shrinkage, and measurement variances.
Unlike upstream, midstream accounting often resembles utility-style financial management, with predictable cash flows tied to infrastructure usage rather than commodity price swings alone.
Downstream: Your oil and gas product is nearing the end of the line, and now is the time to consider all the numbers that go into refining and processing those raw materials and get them ready for sale. In that same vein, you need to consider all of the vendor-facing transactions that get your product to the end users.
· Refining: Refining converts crude oil into usable products such as gasoline, diesel, jet fuel, lubricants, and petrochemicals. The majority of the costs incurred here will be manufacturing costs such as Labor, utilities, maintenance, turnarounds, and catalyst expenses. Keeping track of the inventory in and out also comes with its financial challenges and, as most of us know, is subject to price volatility once it is refined.
· Marketing: Marketing operations handle pricing, branding, and wholesale agreements. Accounting responsibilities include contract management for bulk fuel purchasers, pricing adjustments, margin analysis, and hedging and risk management accounting for commodity price fluctuations.
· Distribution: The final leg of the journey, distribution brings refined products to retail stations, airports, industrial sites, and residential customers. Accountants managing this area need to be aware of freight and logistics cost allocation to get the product to its destination. They can’t forget retail sales reconciliation, sales tax tracking, and remittance as well.
Downstream accounting is transaction-heavy, margin-focused, and customer-facing, requiring robust internal controls and real-time reporting.
One Industry, Three Financial Languages
Though oil and gas operates as a continuous pipeline from reservoir to retail pump, its accounting functions speak three distinct financial languages.
- Upstream is asset-intensive and reserve-driven, focused on capital deployment and depletion.
- Midstream centers on infrastructure, throughput, and fee-based revenue stability.
- Downstream emphasizes operational efficiency, inventory management, and margin optimization.
Together, these streams form an intricate financial ecosystem that ensures resources are not only extracted and delivered but also accurately valued, reported, and distributed among stakeholders.
Understanding the differences between upstream, midstream, and downstream accounting isn’t just helpful; it’s essential for financial clarity, regulatory compliance, and long-term profitability in one of the world’s most complex industries.
Want to talk more about oil and gas accounting and how you can get your books in order? Reach out to one of our amazing accounting professionals today!
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