    -------------------------Indexing Terms-------------------------
    REPORTNUM:   GAO-06-629

    TITLE:     Renewable Energy: Increased Geothermal Development
    Will Depend on Overcoming Many Challenges

    DATE:   05/24/2006

    -----------------------------------------------------------------

    ******************************************************************
    ** This file contains an ASCII representation of the text of a  **
    ** GAO Product.                                                 **
    **                                                              **
    ** No attempt has been made to display graphic images, although **
    ** figure captions are reproduced.  Tables are included, but    **
    ** may not resemble those in the printed version.               **
    **                                                              **
    ** Please see the PDF (Portable Document Format) file, when     **
    ** available, for a complete electronic file of the printed     **
    ** document's contents.                                         **
    **                                                              **
    ******************************************************************
    GAO-06-629

         * Report to the Ranking Minority Member, Committee on Energy and Natural
           Resources, U.S. Senate
              * May 2006
         * RENEWABLE ENERGY
              * Increased Geothermal Development Will Depend on Overcoming Many
                Challenges
         * Contents
              * Results in Brief
              * Background
              * Current Geothermal Development Is Limited, and Estimated
                Potential for Additional Development Varies
                   * Electricity Generation from Geothermal Resources Is Small
                     and Relies on Federal Resources
                   * Estimates of the Potential for Additional Electricity
                     Generation from Geothermal Resources Vary Widely
                   * Direct Use Applications Are Numerous and Diverse, and Few
                     Are Located on Federal Land
                   * The Potential for Developing Additional Direct Use Is
                     Uncertain
                   * Geothermal Heat Pumps Show Increasing Use
              * Geothermal Development Faces Many Challenges
                   * Geothermal Power Plants Face High Risk, Financial
                     Uncertainty, and Technological Impediments
                   * Lack of Adequate Electrical Transmission Hinders Geothermal
                     Development
                   * Geothermal Power Plants on Federal Lands Face Delays in
                     Processing Applications, Fragmented Lease Holdings, and a
                     Complex Royalty System
                   * Direct Uses of Geothermal Resources Face Business
                     Challenges, Remote Locations, Water Rights, and Royalty
                     Issues
              * Efforts by Federal, State, and Local Governments to Address
                Challenges Show Promise
                   * Financial Incentives Are Used to Address the High Risk and
                     Uncertainty of Geothermal Development
                   * Federal and State Grants Are Addressing Technology
                     Challenges
                   * Expanded FERC Authority and Planning Initiatives Are Aimed
                     at Transmission Challenges
                   * Provisions within the Energy Policy Act and BLM Planning
                     Efforts May Address Leasing and Royalty Issues
              * Geothermal Royalty Disbursements Will Change Significantly, and
                Changes in Electricity Prices Could Alter Total Royalty
                Collections
                   * The Energy Policy Act Redistributes a Greater Portion of
                     Federal Royalties
                   * Provisions of the Energy Policy Act Are Likely to Have
                     Little Impact on Overall Royalty Revenues Only if
                     Electricity Prices Remain Relatively Constant
                   * MMS Does Not Routinely Collect the Royalty Data Necessary to
                     Maintain the Same Level of Royalty Collections
              * Conclusions
              * Recommendation for Executive Action
              * Agency Comments and Our Evaluation
         * Objectives, Scope, and Methodology
         * Comments from the Department of the Interior
         * GAO Contact and Staff Acknowledgments
         * PDF6-Ordering Information.pdf
              * Order by Mail or Phone
         * appendix1.pdf
              * Objectives, Scope, and Methodology

    Report to the Ranking Minority Member, Committee on Energy and Natural
    Resources, U.S. Senate

    May 2006

    RENEWABLE ENERGY

    Increased Geothermal Development Will Depend on Overcoming Many Challenges

    Contents

    Tables

    Figures

    May 24, 2006Letter

    The Honorable Jeff Bingaman Ranking Minority Member Committee on Energy
    and Natural Resources United States Senate

    Dear Senator Bingaman:

    American families and businesses rely heavily on electricity and natural
    gas to heat and light homes and buildings, to power appliances, to
    manufacture goods, and to supply services. Increasing demand and rising
    prices for electricity and natural gas have increased interest in
    alternative forms of energy, including geothermal energy. Geothermal
    energy is a unique type of renewable resource in that it can provide power
    that is independent of weather and climate, thereby enabling a consistent
    and uninterrupted supply of heat and electricity. Geothermal energy also
    creates fewer environmental impacts than the production of natural gas and
    other conventional fossil fuels that are used to generate electricity.
    Because many areas that have the potential to produce additional
    geothermal energy are located on federal lands, the federal government is
    a major participant in the future development of geothermal energy.

    Geothermal energy is literally the heat of the earth. This heat is
    abnormally high where hot and molten rocks exist at shallow depths below
    the earth's surface. Water, brines, and steam circulating within these hot
    rocks are collectively referred to as geothermal resources. Geothermal
    resources often rise to the surface naturally along fractures to form hot
    springs, geysers, and fumaroles. For centuries, people have used naturally
    occurring hot springs as places to bathe, swim, and relax. More recently,
    some individuals have constructed buildings over these springs,
    transforming them into elaborate spas and resorts, thereby establishing
    the first direct use of geothermal resources for business purposes.
    Businesses have also established other direct uses of geothermal resources
    by drilling wells into the earth to tap the hot water for heating
    buildings, drying food, raising fish, and growing plants. Where the
    earth's temperature is not high enough to supply businesses with
    geothermal resources for direct use, people have made use of the ground's
    heat by installing geothermal heat pumps. Geothermal heat pumps consist of
    a heat exchanger and a loop of pipe extending into the ground to draw on
    the relatively constant temperature there for heat in the winter and air
    conditioning in the summer.

    Geothermal resources can also generate electricity, and this is their most
    economically valuable use today. Only the highest temperature geothermal
    resources, generally above 200 degrees Fahrenheit, are suitable for
    electricity generation. When companies are satisfied that sufficient
    quantities of geothermal resources are present below the surface at a
    specific location, they will drill wells to bring the geothermal fluids
    and steam to the surface. Upon reaching the surface, steam separates from
    the fluids as their pressure drops, and the steam is used to spin the
    blades of a turbine that generates electricity. The electricity is then
    sold to utilities in a manner similar to sales of electricity generated by
    hydroelectric, coal-fired, and gas-fired power plants.

    Geothermal resources are found throughout the world. In the United States,
    geothermal resources are concentrated in Alaska, Hawaii, and the western
    half of the country, primarily on public lands managed by the Bureau of
    Land Management (BLM). The Congress set forth procedures in the Geothermal
    Steam Act of 1970 for leasing these public lands, developing the
    geothermal resources, and collecting federal royalties. Today, BLM leases
    these lands and sets the royalty rate, and the Minerals Management Service
    (MMS)-another agency within the Department of the Interior (DOI)-collects
    the federal geothermal royalties and disburses to the state governments
    its share of these royalties as required by law.1 In 2005, the most recent
    year for which data are available, MMS collected $12.3 million in
    geothermal royalties, almost all of which was derived from the production
    of electricity.

    Since 1970, determining the amount of royalty payments has become
    increasingly complex due to restructuring in the geothermal industry and
    changing economic conditions. Government and industry representatives
    formed a task force in late 2004 to devise a simpler royalty system that
    would address these changes. During deliberations on the Energy Policy Act
    of 2005 (Act), we briefed you on the findings of this task force and on
    challenges facing geothermal development. Shortly thereafter, the Congress
    passed the Act, which contains provisions to simplify the federal
    royalties on electricity generation and reduce royalties on direct use.
    The Act also contains other provisions designed to encourage the
    development of geothermal resources. This report formalizes the content of
    our briefings and our work since then, including: (1) the current extent
    of and potential for geothermal development; (2) challenges faced by
    developers of geothermal resources; (3) federal, state, and local
    government actions to address these challenges; and (4) how provisions of
    the Act are likely to affect federal geothermal royalty disbursements and
    collections.

    In responding to these objectives, we reviewed key studies on the extent
    and potential of geothermal development and interviewed BLM and industry
    officials in California, Nevada, and Utah. To identify the challenges
    facing geothermal developers and to assess actions taken by federal,
    state, and local governments, we interviewed a variety of government and
    industry officials, reviewed substantial supporting documentation and the
    Act, and toured geothermal electricity plants in California and Nevada and
    direct use facilities in Idaho, Nevada, and Oregon. To assess how
    provisions within the Act will affect federal geothermal royalties, we
    interviewed MMS and BLM employees; reviewed a report authored by the
    Royalty Policy Committee;2 and analyzed geothermal royalty, production,
    and sales data from January 2000 through December 2004. We performed our
    work between May 2005 and May 2006 in accordance with generally accepted
    government auditing standards. A more detailed description of our
    objectives, scope, and methodology is provided in appendix I.

    Results in Brief

    Although locally important in Hawaii, California, and Nevada, geothermal
    resources produce a very small portion of our nation's total electricity
    and heating needs, and estimates of the potential for additional
    development vary. In 2004, geothermal resources generated about 0.3
    percent of the nation's total electricity and supplied heat and hot water
    directly to about 2,300 businesses and organizations, including district
    heating systems, fish farms, greenhouses, food drying plants, spas, and
    resorts. In addition, the Geothermal Heat Pump Consortium estimates that 1
    million geothermal heat pumps are installed in the 50 states, tapping the
    shallow heat of the earth to both heat and cool individual homes and
    businesses. Estimates of future electricity generation from geothermal
    resources vary widely based on methodology, sites considered, development
    costs, and future electricity prices. The most recent assessments suggest
    that the current production of 2,500 megawatts of electricity-enough to
    supply 2.5 million homes-could increase to between about 3,100 and 12,000
    megawatts in 11 years. The future potential of using geothermal resources
    in direct use applications is less known because of the wide variety of
    applications and the widespread occurrence of suitable geothermal
    resources. However, the Geo-Heat Center at the Oregon Institute of
    Technology estimates that about 400 undeveloped geothermal wells and hot
    springs have the potential to supply heat and hot water directly to a
    variety of businesses and other organizations. The potential for
    geothermal heat pumps, however, is almost unlimited in the United States.
    Heat pumps are the fastest growing sector of the geothermal industry, with
    about an 11 percent increase in units added each year. Finally, the
    potential for geothermal development is, to some extent, dependent on the
    federal government. Whereas nearly all direct use applications of
    geothermal resources are on private lands, geothermal power plants depend
    upon resources located on federal lands for about 50 percent of the
    electricity they generate.

    Businesses and individuals face significant financial, technical, and
    logistical challenges when trying to develop geothermal resources.
    Developers of electric power plants that use geothermal resources face a
    capital intensive and risky business environment in which obtaining
    financing and securing a contract with a utility are difficult and where
    recouping the initial investment takes many years. Geothermal power plant
    developers must also use exploration and drilling technologies that are
    inadequate because of the unique attributes and high temperatures
    associated with geothermal reservoirs. Furthermore, because portions of
    the electrical grid lack adequate transmission capacity and because
    geothermal resources are often in remote locations, new geothermal power
    plants may face costly transmission expenses. Developers of electric power
    plants on federal lands face additional challenges, including: (1) lengthy
    administrative/regulatory reviews of lease and permit applications that
    can become complicated by lawsuits involving environmental and/or Native
    American issues, (2) scattered federal leases that make it difficult to
    develop an economically viable project, and (3) a complicated royalty
    payment system. Businesses and individuals trying to tap geothermal
    resources for direct use face unique marketing, financing, and technical
    challenges characteristic of their industry, as well as challenges that
    are unique to the site that they hope to develop. In some cases, these
    businesses and individuals must also contend with remote locations and
    state water rights that may restrict the use of geothermal resources. In
    addition, the developers of direct use facilities face higher federal
    royalties because royalty payments are based on the price of natural gas,
    which has recently risen to levels that substantially reduce profit
    margins.

    To address the many challenges of developing geothermal resources,
    federal, state, and local governments have implemented a number of
    incentives and initiatives, including tax credits, technology grants,
    requirements to use renewable energy, and leasing and royalty
    simplification. Many of these efforts show promise, but it is too early to
    assess their overall effectiveness. To address the capital intensive and
    risky business environment facing the developers of geothermal power
    plants, the Act grants developers a federal tax credit that allows them to
    recoup their investments more quickly. The Act also seeks to lower
    exploration risk by directing that the Secretary of the Interior update
    the U.S. Geological Survey's 1978 assessment of geothermal resources. Some
    state governments are addressing the capital intensive and risky business
    nature of geothermal development by granting various tax credits for the
    production of electricity from renewable energy and for the construction
    of renewable energy facilities and systems. Twenty-two states and the
    District of Columbia have further encouraged the production of electricity
    from renewable resources with laws or policies containing renewable
    portfolio standards. Most of these standards mandate that public utilities
    provide a minimum percentage of their electricity from renewable energy
    such as geothermal resources. To address technological challenges, the
    federal government and the state of California have awarded grants for
    research and development efforts through the Department of Energy's
    Geothermal Technologies Program and the California Energy Commission,
    respectively. To address transmission challenges, the Act gives the
    Federal Energy Regulatory Commission (FERC) new authorities to issue
    permits for transmission facilities in the national interest, increase
    their capacity, and develop incentives. Some states and local governments
    have also developed several planning initiatives aimed at transmission
    challenges. Finally, the Act contains provisions designed to improve the
    efficiency of the federal geothermal program, including simplifying the
    federal leasing process, improving coordination between leasing
    responsibilities of BLM and the Forest Service, consolidating small
    federal leases, and simplifying or reducing federal royalty rates on
    electricity generation and direct use facilities.

    How federal geothermal royalties are to be shared with local governments
    will change significantly after passage of the Act, and the total amount
    of royalties collected could change significantly if electricity prices
    also change. Prior to passage of the Act, half of federal geothermal
    royalties were disbursed to the states, and half were retained by the
    federal government. Now, half of the federal government's share will be
    disbursed to the counties in which the geothermal resources are located,
    leaving the federal government with 25 percent of the total royalty
    revenue, instead of the original 50 percent. While, for most leases, the
    Act directs that the Secretary of the Interior seek to maintain the same
    level of royalty revenues as before the Act, our analysis suggests that
    this will be difficult because changing electricity prices could
    significantly affect the percentage of royalty revenues collected in the
    future. Furthermore, it will be difficult for MMS to show that it plans to
    collect the same level of royalty revenues from electricity generation
    because it does not routinely collect revenue data from electricity sales,
    and these data are necessary to calculate and achieve the royalty
    percentages prescribed in the Act. Finally, while a provision within the
    Act lowers the royalties on direct use applications in order to encourage
    additional development, the monetary impact on collections is likely to be
    small because total royalty revenues from direct use applications on
    federal lands are already minimal.

    To demonstrate their attempt to collect the same level of royalty revenues
    as prior to passage of the Act, we are recommending that the Secretary of
    the Interior instruct the appropriate managers within MMS to routinely
    collect future sales revenues for electricity when royalty payments are
    due.

    Background

    The temperature of geothermal resources generally dictates their use. Low
    temperatures from 40 to 70 degrees Fahrenheit (F) that occur in the ground
    at shallow depths are best used for geothermal heat pumps. Geothermal heat
    pumps, also known as ground-source heat pumps, are devices that take
    advantage of the relatively constant temperature immediately beneath the
    earth's surface to provide heat in the winter and air conditioning in the
    summer. During the winter, a heat pump transfers the heat of the ground to
    a fluid filled set of coils and then pumps this fluid to the building. A
    heat exchanger then transfers the heat to another set of coils filled with
    a refrigerant that boils. The resulting gas is then compressed and pumped
    to a condenser, where it gives up its heat as a fan blows over the
    condenser coils. During the summer, heat pumps work in reverse, extracting
    heat from the building and transferring it to the ground. Although heat
    pumps run on electricity, they produce three to four times the energy that
    they consume. As a result, they can reduce energy consumption by 20 to 70
    percent relative to conventional electrical heating and cooling systems.
    They also can produce hot water for free during the summer and for about
    half price during the winter.

    Direct use applications begin with geothermal resources that have
    temperatures as low as 70 degrees F and can include geothermal resources
    as hot as 300 degrees F. Geothermal waters can be mixed with groundwater
    or surface water to achieve the most desirable temperature for the
    specific application. Geothermal waters with temperatures between about 70
    and 125 degrees F are best used in spas and resorts for recreational
    swimming and bathing, in aquaculture operations for raising fish and other
    aquatic animals (fig. 1), and within sidewalks and roads for melting snow.
    Geothermal resources between about 125 and 300 degrees F can be used for
    various applications, each of which has optimal temperature ranges.
    Specific applications include food processing; fruit and vegetable drying;
    space and district heating; raising flowers, plants, and trees in
    greenhouses; processing pulp and paper; drying lumber, cement, and
    aggregate; curing concrete blocks; pasteurizing milk; dyeing fabric;
    making ice; and providing refrigeration.

    Figure 1: Tropical Fish Raised in Oregon with Geothermal Water

    Electricity generation requires geothermal resources of at least 200
    degrees F, with higher generation capacity coming from temperatures above
    350 degrees F. Geothermal power plants extract geothermal fluids-hot
    water, brines, and steam-from the earth by drilling wells to depths of up
    to 10,000 feet (fig. 2). The geothermal resources are then used, in lieu
    of running water or the burning of fossil fuels, to produce a vapor that
    turns the blades of a turbine that spins a generator to produce
    electricity. Geothermal resources with temperatures from about 200 to 350
    degrees F are best suited for binary power plants. In a binary plant, the
    geothermal fluids are passed through a heat exchanger to heat a secondary
    fluid, like isopentane, that vaporizes at a lower temperature than water
    and spins the power-producing turbines. The fluid is then condensed back
    into a gas and recycled, and the geothermal resources are injected back
    into the reservoir. When geothermal resources have temperatures over about
    350 degrees F, flash plants are most appropriate. In flash power plants,
    highly pressurized hot water is brought to the surface, where the pressure
    decreases and part of the water explosively boils, or "flashes," into
    steam. The steam is then separated from the remaining hot water and used
    to turn the turbines. Residual water is injected back into the reservoir.
    In some rare geothermal systems with temperatures above 455 degrees F, as
    at an area known as The Geysers Geothermal Field (The Geysers) in northern
    California, the geothermal resources may consist entirely of steam within
    the reservoir. Dry steam power plants use the steam directly to spin the
    turbines. Although some of the steam condenses back to water that can be
    injected back into the reservoir, much water is lost to evaporation in
    this process. Flash and binary power plants can also be combined in
    sequence for the most efficient generation of electricity. In these hybrid
    power plants, hot water is first flashed within a flash plant and then the
    steam is condensed, combined with the lower temperature water, and routed
    to a binary plant for further generation of electricity.

    Figure 2: Geothermal Power Plant near Reno, Nevada

    The leasing of federal lands for geothermal resources is governed by the
    Geothermal Steam Act of 1970, as amended.3 To explore and develop
    geothermal resources on federal lands, developers must first obtain a
    federal lease from BLM. The lease is a contract between the federal
    government and the lessee that specifies certain terms for development and
    payment of rents and royalties. Regardless of the federal agency managing
    the lands where the geothermal resources are located, BLM has
    responsibility for issuing these leases after obtaining concurrence from
    the federal land managing agency. Before passage of the Act, BLM
    designated certain areas that it believed to have a reasonable potential
    for the commercial development of geothermal resources as "known
    geothermal resource areas (KGRA)." Within a KGRA, BLM was required to
    lease lands to the highest qualified bidder under a formal competitive
    bidding process, as long as the highest bid equaled or exceeded fair
    market value.4 For land outside of a KGRA, BLM was required to issue a
    lease noncompetitively to the first qualified buyer applying for the
    lease. Under provisions of the Act, BLM no longer establishes KRGAs, but
    instead accepts nominations from parties interested in leasing available
    lands and holds a competitive auction at least once every 2 years. If bids
    are not received for lands offered in the sale, the Secretary is to make
    them available for 2 years for noncompetitive leasing. BLM issues
    geothermal leases for 10 years and requires lessees to pay an annual
    rental of at least $1 per acre until commercial production is established.
    Thereafter, lessees pay a royalty from 10 to 15 percent of the value of
    production.

    BLM will not issue federal geothermal leases until the federal land
    management agency completes an extensive environmental review process. The
    leasing and development of these lands must be consistent with the
    management objectives for the lands as documented in the appropriate
    resource or forest management plan. Should these plans not adequately
    address exploration and development of geothermal resources, the
    appropriate agency personnel may need to amend or rewrite the plans. Prior
    to leasing, agency officials must also comply with provisions of the
    National Environmental Policy Act of 1969, as amended (NEPA). NEPA
    requires federal agencies to prepare an environmental impact statement
    (EIS) for major federal actions that may have a significant affect on the
    quality of the human environment. When an agency is not sure whether an
    activity will have significant impact on the environment, the agency
    prepares a less detailed environmental assessment (EA). If an EA
    determines that the activity will significantly affect the environment,
    the agency then prepares an EIS. During these analyses, agency personnel
    analyze potential impacts of geothermal leasing to various resources such
    as air and water quality, vegetation, wildlife, threatened and endangered
    species, and visual and cultural resources. In California, state laws also
    require a similar environmental review. Agency personnel may also need to
    comply with provisions of other federal legislation, such as the
    Endangered Species Act of 1973, as amended, and the National Historic
    Preservation Act, as amended.

    Under the Geothermal Steam Act of 1970, as amended, calculating geothermal
    royalties was relatively simple because the developers of the geothermal
    fields sold steam and hot water to power plants, establishing a sales
    price upon which royalties could be based. The statutory royalty rate
    specified in the lease, which was from 10 to 15 percent, was multiplied by
    the sales value of the geothermal resource each month to yield royalties
    due. In the 1980s, the developers sold the fields to the power plants, and
    this basis for valuing the geothermal resource was lost. In 1991, MMS
    issued new regulations that were in effect until passage of the Act. These
    regulations established the value of the geothermal resource based on the
    value of the electricity sold. The regulations called for subtracting, or
    "netting back" from the electricity's sales revenues, the costs of
    generation and transmission. Formulas for netting back these costs were
    complex due to different methods of accounting for depreciation,
    uncertainty over which costs qualified for deduction, and commingling of
    federal and nonfederal resources. The Act contains provisions aimed at
    simplifying this process by allowing lessees the option on existing leases
    to pay royalties based on a percentage of gross sales revenue and by
    prescribing a set schedule of royalty rates for future leases. In
    addition, royalties due on direct use facilities prior to passage of the
    Act were based on the price of natural gas, which has risen substantially
    in recent years, making the direct use of federal geothermal resources
    unattractive. The Act provides for replacing this system of direct use
    royalties with a schedule of fees that encourages the development of
    geothermal resources.

    Current Geothermal Development Is Limited, and Estimated Potential for
    Additional Development Varies

    Electricity generated from geothermal resources is small, about 0.3
    percent of the total electricity produced in the United States, with about
    half of this amount coming from federal resources. Recent estimates of the
    potential for additional electricity generated from geothermal resources
    vary from an increase of about 25 percent by 2015 to 367 percent by 2017.
    There were over 2,300 businesses and heating districts that used
    geothermal resources for heat and hot water in the United States in 2005,
    with only two businesses using federal geothermal resources. The total
    potential for direct use applications is largely unknown because of the
    widespread occurrence of lower temperature geothermal resources and the
    many diverse applications.

    Electricity Generation from Geothermal Resources Is Small and Relies on
    Federal Resources

    Geothermal resources currently produce about 0.3 percent of the annual
    electricity in the United States, or 2,534 megawatts-enough electricity to
    supply 2.5 million homes. Even though the percentage of electricity
    generated from geothermal resources is small nationwide, it is locally
    important. For example, geothermal resources provide about 25 percent of
    the Island of Hawaii's electricity, 5 percent of California's electricity,
    and 9 percent of northern Nevada's electricity. As of January 2006,
    companies were constructing geothermal power plants in California, Nevada,
    and Idaho that collectively will produce another 390 megawatts of
    electricity. Table 1 shows the number, location, and capacity of
    geothermal power plants that currently produce electricity or are under
    construction.

    Table 1: States with Power Plants and Their Capacity

         State             Number of existing    Total Number of power Additional
                      geothermal power plants capacity    plants under   capacity
                                                          construction
    California                          41    2,239               2        285
    Hawaii                               1       30               0          0
    Idaho                                0        0               1         10
    Nevada                              10      239               3         95
    Utah                                 2       26               0          0
    Total                               54    2,534               6        390

    Source: The Geo-Heat Center, the Department of Energy (DOE), and BLM.

    Note: Each unit of capacity is a megawatt.

    Over half of the nation's electricity generated from geothermal resources,
    about 1,275 megawatts, comes from geothermal resources located on federal
    lands. Of the 54 geothermal power plants, 26 are located on federal lands
    managed by BLM, and 28 are located on private or state lands. As of
    January 2006, there were 50 federal geothermal leases from which
    electricity was produced-48 on BLM lands, and 2 on Forest Service lands.
    Twelve of these leases are located in The Geysers in northern California,
    and they account for over one-third of the electricity produced from
    federal geothermal resources. The other 44 producing federal geothermal
    leases are located in and near the Sierra Nevada Mountains of eastern
    California, near the Salton Sea in the southern California desert, in
    southwestern Utah, and scattered throughout Nevada.

    Estimates of the Potential for Additional Electricity Generation from
    Geothermal Resources Vary Widely

    Industry and government estimates of the potential for electricity
    generation from geothermal resources vary widely, due to differences in
    the date by which forecasters believe the electricity will be generated,
    the methodology used to make the forecast, assumptions about electricity
    prices, and the emphasis placed on different factors that can affect
    electricity generation. Five estimates published since 1999 indicate that
    the potential for electrical generation from known geothermal resources
    over the next 9 to 11 years is from about 3,100 to almost 12,000
    megawatts. By 2025, two of these sources estimate that electrical
    generation from these known resources will increase to between 6,800 and
    13,000 megawatts. The difference in estimates could also be due to the
    different methodologies used to make the forecasts, such as surveys of
    experts in the geothermal industry and/or detailed economic modeling.
    Placing different emphasis on geothermal development costs, electricity
    prices, natural gas prices, and/or reservoir characteristics also probably
    led to differences in the estimates. Table 2 summarizes the estimates of
    potential electricity generation from geothermal resources.

    Table 2: Estimates of Potential Electricity Generation from Geothermal
    Resources

        Source and date of estimate        Estimate of electricity generation
    U.S. DOE, Energy Information    6,800 megawatts by 2025 for known
    Administration's Annual Energy  geothermal areas based on stable natural
    Outlook, 2004                   gas prices. This estimate does not take
                                       into account Enhanced Geothermal Systems,
                                       which is a DOE program to create man-made
                                       geothermal reservoirs.
    California Energy Commission,   11,822 megawatts by 2017 in California,
    2005                            Nevada, Arizona, Idaho, Utah, Oregon, and
                                       New Mexico from known geothermal resource
                                       areas based on amount of heat in place,
                                       reservoir characteristics, economic
                                       factors, and a Monte Carlo simulation.
    Oregon Institute of             3,160 megawatts based on all planned
    Technology, Geo-Heat Center,    capacity at known geothermal areas coming
    2005                            on line by 2015.
    Western Governor's              5,600 megawatts by 2015 and up to 13,000
    Association, 2005               megawatts by 2025, based on consensus of
                                       professional opinions for known geothermal
                                       resource areas and economic modeling of
                                       costs and electricity prices.
    Geothermal Energy Association,  Between 6,340 megawatts and 11,700
    1999                            megawatts using 1999 technology and
                                       between 15,080 megawatts and 25,390
                                       megawatts using enhanced technology, based
                                       on a survey of expert opinions and known
                                       geothermal areas.
    U.S. Geological Survey, 1978    23,000 megawatts from known geothermal
                                       areas and an additional 72,000 to 127,000
                                       megawatts from undiscovered resources
                                       based on amount of heat in place,
                                       reservoir characteristics, 1978
                                       technology, and a Monte Carlo simulation.

    Source: GAO.

    A detailed comprehensive study of electricity generation from all
    geothermal resources in the United States has not been undertaken since
    1978, when the U.S. Geological Survey (USGS) published Circular 790,
    "Assessment of Geothermal Resources of the United States-1978." This
    assessment, based on the amount of thermal energy in place, estimated that
    known geothermal resources could generate 23,000 megawatts if all of them
    were developed, significantly more than that estimated by the five other
    studies. The other five estimates in table 2 differ from the USGS estimate
    in that they attempt to estimate how much electricity could be
    economically produced from known resources, given competing commercial
    sources of electricity, and they are based on more extensive reservoir,
    production, and economic data. In addition, none of the five estimates
    include undiscovered resources; the USGS estimated that undiscovered
    resources could generate an additional 72,000 to 127,000 megawatts.

    Direct Use Applications Are Numerous and Diverse, and Few Are Located on
    Federal Land

    Over 2,300 businesses and heating districts in 21 states used geothermal
    resources directly for heat and hot water in 2005. About 85 percent of
    these users are employing geothermal resources to heat homes, businesses,
    and government buildings (table 3). While most users heat one or several
    buildings, some users have formally organized heating districts that pipe
    hot water from geothermal wells to a central facility that then
    distributes it to heat many buildings more economically than other
    available sources of energy. The largest concentration of geothermal
    heating districts occurs in Boise, Idaho, where four heating districts
    distribute geothermal waters to over 50 buildings, including the Capitol
    and City Hall (fig. 3). Geothermal heating districts supply heat to about
    20 commercial and government buildings in Klamath Falls, Oregon, and to
    400 homes in Reno, Nevada. The next most plentiful direct use applications
    are resorts and spas, accounting for over 10 percent of sites. About 244
    geothermal resorts and spas offer relaxation and therapeutic treatments to
    customers in 19 states. Spas and resorts can be as primitive as an
    unsheltered hot spring in the backcountry to an elaborate resort with
    multiple soaking pools, an Olympic-sized swimming pool, a 100-room hotel,
    and gourmet restaurants. Two percent of geothermal direct use applications
    consist of heated greenhouses in which flowers, bedding plants, and trees
    are grown. Idaho leads the nation with the most geothermally heated
    greenhouses-13, and New Mexico leads the nation with the largest
    geothermally heated greenhouse-covering 32 acres. Another 2 percent of
    geothermal direct use applications are for aquaculture operations that
    heat water for raising aquarium fishes for pet shops; catfish, tilapia,
    freshwater shrimp and crayfish for human consumption; and alligators for
    leather products and food (fig. 4). Other direct use geothermal
    applications include dehydrating vegetables, like onions and garlic, and
    melting snow on city streets and sidewalks. Geothermal direct use
    applications are summarized in table 3.

    Table 3: U.S. Geothermal Direct Use Applications as of 2005

                     Application                                  Number of sites
    Space heating                                                        1,976
    District heating                                                        20
    Resorts and spas                                                       244
    Aquaculture                                                             48
    Greenhouses                                                             44
    Snow melting                                                             6
    Agricultural drying                                                      3
    Other industrial                                                         3
    Total                                                                2,344

    Source: The Geo-Heat Center at the Oregon Institute of Technology.

    Figure 3: District Heating in Boise, Idaho

    Nearly all direct use businesses and heating districts are currently
    located on private lands. Only two direct use businesses that use federal
    geothermal resources are currently in operation. One of these businesses,
    located at Honey Lake in northern California, uses geothermal resources to
    preheat a boiler in which biomass is burned to create electricity. Four
    additional businesses-a nursery, a food processing plant, and two
    mines-have also used federal resources at one time in direct use
    applications. A nursery in New Mexico used federal geothermal resources
    for heating greenhouses, but the owner reported that he stopped using the
    federal geothermal resources because he considered the federal royalties
    to be excessive. Two gold and silver mines also used geothermal waters
    from BLM lands in Nevada to enhance their cyanide heap leeching operations
    but suspended these operations, due in part, to high federal royalties.
    The owner of the food processing plant, which dried garlic, reported being
    forced out of business by lower priced imports from China.

    Figure 4: Raising Tropical Fish with Geothermal Resources in Idaho

    The Potential for Developing Additional Direct Use Is Uncertain

    The potential for additional direct use of geothermal resources in the
    United States is uncertain due to the geographically widespread nature of
    low-temperature geothermal resources and the many different types of
    applications. The USGS performed the first national study of low-

    temperature geothermal sites in 19825 and estimated the amount of heat
    in-place that could be available for direct use applications across the
    United States. However, this study was neither specific enough to identify
    individual sites for development, nor did it estimate the amount of heat
    that could be recovered and converted into energy savings for homes or
    businesses. In 2005, the Geo-Heat Center at the Oregon Institute of
    Technology identified 2,211 geothermal wells and springs with temperatures
    appropriate for direct use. The Geo-Heat Center estimated that 404 of
    these wells and springs might be commercially developed because they are
    within 5 miles of communities. The study estimated the minimum amount of
    heat that could be produced at each site but did not assess the economics
    or business climate of the various direct use applications.

    Geothermal Heat Pumps Show Increasing Use

    Geothermal heat pumps have become a major growth segment of the geothermal
    industry by making use of the earth's warmer temperature in the winter to
    heat buildings and using the earth's cooler temperature in the summer for
    air conditioning. The Geothermal Heat Pump Consortium estimated that 1
    million units were in operation in all 50 states as of January 2006. The
    number of geothermal heat pumps has steadily increased over the past 10
    years. Because geothermal heat pumps are effective where ground
    temperatures are between 40 and 70 degrees F, they can be installed in
    almost any location in the United States and, therefore, are the most
    widespread geothermal application and have the greatest potential.

    Until 1999, few geothermal heat pumps were installed in federal
    facilities. The annual federal investment in geothermal heat pumps has
    increased substantially since then, from $6 million in 1999 to $74 million
    in 2001-the latest year for which data are available. As of November 2005,
    federal facilities had installed over 25,000 individual heat pumps-over
    24,000 of them in military bases. The other 1,000 heat pumps were
    installed by the Department of Housing and Urban Development, DOI, the
    U.S. Postal Service, and the Environmental Protection Agency.

    Geothermal Development Faces Many Challenges

    The development of geothermal resources for electricity production faces
    major challenges, including high risk and financial uncertainty,
    inadequate technology, and insufficient transmission capacity. Developers
    of geothermal power plants face additional challenges when operating on
    federal lands. These challenges include: (1) a lengthy review process for
    the approval of leases and permits,(2) insufficient resources at BLM to
    conduct the necessary reviews, (3) different priorities between the BLM
    and the Forest Service when lands under their jurisdiction occur within a
    project area, (4) fragmented lease holdings that make it difficult to
    develop an economically viable project, and (5) a complex federal royalty
    system. Developers of geothermal resources for direct uses also face a
    variety of other business challenges, remote locations, water rights
    issues, and higher federal royalties over the past few years. The recently
    passed Act addresses some of these challenges and is discussed in the next
    section of this report.

    Geothermal Power Plants Face High Risk, Financial Uncertainty, and
    Technological Impediments

    Geothermal development for the production of electricity is a risky,
    expensive, and lengthy process. Geothermal groups reported that most
    attempts to develop geothermal resources are unsuccessful, that costs to
    develop geothermal power plants can surpass $100 million, and it can take
    3 to 5 years for plants to first produce and sell electricity. The
    development of geothermal resources for electricity generation follows a
    series of phases, starting with finding the geothermal resources through
    exploration, then confirming the magnitude and extent of the resource, and
    ending with full field development and power plant installation. Although
    some resources are easy to find because they produce telltale signs such
    as hot springs or fumaroles, most resources are buried deep within the
    earth-at depths sometimes exceeding 10,000 feet-and finding them often
    requires an in-depth knowledge of the area's geology, geophysical surveys,
    remote sensing techniques, and at least one test well. The Geothermal
    Energy Association estimates that average wells cost from $2 million to $5
    million and that only about 25 percent of the initial test wells are
    successful in finding commercial geothermal fields. Companies must then
    drill additional wells to assess the extent, temperature, pressure, and
    productivity of the reservoir, thereby allowing companies to confirm the
    magnitude and extent of the resource and decide whether it is economically
    viable. Estimates of failure rates for wells drilled during this phase run
    as high as 60 percent. According to the Geothermal Energy Association,
    developers typically spend about 10 percent of the total cost for this
    phase. It costs $75 million to develop a typical 25 megawatt power plant.
    Such a plant can produce enough electricity for 19,000 homes. The drilling
    of additional wells to produce and manage the reservoir, installing the
    power plant, and connecting the wells to the plant with pipes generally
    account for another 23 percent, 54 percent, and 7 percent of the total
    costs of the plant, respectively. In addition, operating and maintenance
    costs for a plant of this size could be about another $5 million per year.

    The risks and high initial costs associated with geothermal development
    limit financing and make financing more difficult. Energy consultants told
    us that few companies, including venture capitalists, are willing to
    provide funding for geothermal projects, particularly for the initial
    phases of exploration and confirmation. Industry officials who do provide
    funding for geothermal development told us that they would only fund
    projects that are either fully confirmed or are in areas of well-known
    geothermal potential. Even when fully confirmed, moreover, few lenders
    will finance a geothermal project until a contract has been signed by a
    utility or energy marketer to purchase the expected electricity.
    Geothermal industry officials describe the process of securing a contract
    as complicated and costly, especially for small geothermal developers who
    are generally unfamiliar with the various bidding mechanisms that
    utilities use to establish electricity prices. Officials with a large
    utility expressed their reluctance to purchase more costly electricity
    from geothermal plants and cited an inability to pass on the additional
    cost to ratepayers. Electricity from geothermal resources may also be
    unavailable during time frames specified by the contract because of delays
    due to environmental litigation or lack of available transmission. In
    addition, an energy consultant told us that most utilities are unfamiliar
    with geothermal resources, and they are unlikely to invest the necessary
    time to assess geothermal projects because geothermal electricity would
    make up a small percentage of their total energy portfolio.

    Inadequate technology adds to the high costs and risky nature of
    geothermal development. Since geothermal systems are geologically more
    complex than oil and gas systems, exploration tools commonly used in the
    oil and gas industry, such as geophysical surveys, are less effective. In
    general, geothermal reservoirs are located in very hard and fractured
    rocks that make drilling difficult. Operators often experience difficulty
    in drilling because drill bits wear quickly and because the medium used to
    lubricate the borehole and remove rock fragments, called drilling fluid,
    is commonly lost into the many fractures in the rock. Compared with oil
    and gas wells, the temperatures encountered when drilling are considerably
    higher and the geothermal resources are more corrosive, resulting in
    corrosion of drilling equipment and production casing and the failure of
    electronic components. Geothermal wells are also larger in diameter than
    oil and gas wells drilled to the same depth, which drives up drilling
    costs. The recent boom in oil and gas drilling has added to the scarcity
    and higher costs for drilling rigs and equipment.

    Lack of Adequate Electrical Transmission Hinders Geothermal Development

    Lack of available transmission creates a significant impediment to the
    development of geothermal resources for electricity production. To send
    electricity produced at geothermal power plants to utilities, geothermal
    companies often need to construct new transmission lines from their plant
    to existing lines. In the West, however, many geothermal resources are
    located far from existing transmission lines, making the construction of
    additional lines economically prohibitive, according to federal, state,
    and industry officials. For example, there are no significant transmission
    lines between the geothermal resources in northern Nevada and the
    populated area of Las Vegas in southern Nevada. In California, there is a
    need for new or upgraded transmission to access renewable resources in
    Nevada and in the Imperial Valley of southern California, which has
    significant geothermal potential. Even when geothermal resources are near
    major transmission lines or developers can fund the construction of an
    additional transmission line, adequate transmission capacity may still be
    unavailable. Many existing transmission lines are operating at or near
    capacity and may not be able to transmit electricity without significant
    upgrades.

    Paramount among transmission concerns is who will pay for the needed
    transmission capacity. Transmission costs can be very large. In Nevada, a
    BLM official told us that transmission lines there cost over $500,000 per
    mile. The California Energy Commission said in a June 2005 report that new
    transmission lines with interconnections cost between $375,000 and $3.3
    million per mile for single circuit lines, depending on their voltage. In
    the summer of 2005, FERC denied a request from a utility to pass the costs
    for transmission lines on to ratepayers. According to utility officials,
    this reaffirms that developers must pay for the costs since utilities will
    not voluntarily absorb the costs directly. Under current rules, when a
    developer requests new transmission capacity, the bulk of the costs are
    assigned to the project that first pushes the transmission system beyond
    its existing capacity. In addition, federal, state, and industry officials
    note that small geothermal plants are discouraged from connecting to these
    large transmission lines because utilities do not want to bother with the
    small amounts of electricity unless there are many of them in the same
    area.

    Cumbersome planning and permitting processes have hindered the addition of
    necessary transmission capacity. In a July 2005 report, a consultant for
    the Edison Electric Institute noted that nationally the task of getting a
    transmission project planned, approved, permitted, and financed remained
    daunting. The authors stated that the investment climate for transmission
    remained fragmented by different procedures, incentives, and constraints
    from one region of the country to another. The California Energy
    Commission noted in a November 2005 report that the state's inefficient
    transmission planning and permitting processes were contributing to
    worsening the state's transmission problems. Addressing the same issue, an
    official of a large California utility told us that obtaining agreement on
    where to construct transmission lines, addressing environmental issues,
    obtaining approvals, and a "not in my backyard" philosophy, contributed to
    the uncertainty and long lead times in building additional transmission
    capacity. In addition, a geothermal developer complained about extensive
    hearings and an inability to determine jurisdictions between the state and
    the federal government and between agencies within California.

    Geothermal Power Plants on Federal Lands Face Delays in Processing
    Applications, Fragmented Lease Holdings, and a Complex Royalty System

    Geothermal developers state that the process for approving leases and
    issuing permits to drill wells and construct power plants has become
    excessively bureaucratic. BLM and Forest Service officials often have to
    amend or rewrite resource or forest management plans, which can add up to
    3 years to the approval process, depending upon the complexity of the
    proposal and when the last plan was written. Delays in finalizing resource
    and forest management plans and in conducting environmental reviews have
    resulted in a backlog of 31 lease applications in California, with an
    average age of 7.4 years, and 136 lease applications in Nevada, with an
    average age of about 2 years. Despite the high backlog in Nevada, BLM
    officials noted that they processed 177 lease applications from January
    2001 through June 2005. In contrast, during the same period, BLM did not
    process any lease applications in California. Nevada BLM officials
    reported that they can generally make decisions on whether to allow
    leasing and development faster because the public raises fewer issues and
    BLM documents its decision within a shorter document known as an EA. In
    California, however, the public raises more environmental issues and
    concerns involving Native American spirituality so BLM often prepares a
    more detailed document called an EIS, which typically takes 2 years to
    complete. While geothermal developers told us that they support
    environmental analyses, they complained about the duplication of federal
    and state documentation in California and of the appeals and lawsuits
    filed by groups opposing the federal and state decisions, citing that it
    often takes years for their resolution. The California Energy Commission
    reported in a June 2005 report that the entire process from exploration to
    the first production of electricity can take more than a decade and that
    it was not unusual to redo environmental documents because they became
    outdated.

    Geothermal applications, permits, and environmental reviews are also
    delayed because of a lack of staff and budgetary resources at the BLM
    state and field offices that conduct the necessary work. Nevada and
    California BLM officials noted that lack of funding and dedicated staff to
    work on lease applications was a constant problem. Lack of funding in
    California has slowed completion of BLM resource management plans and EISs
    necessary for lease approvals and drilling permits. BLM officials noted in
    California that they received only $90,000 to conduct two extensive EISs
    for which staff had requested $1.2 million while Nevada BLM received a
    one-time allocation of $700,000 for processing a backlog of lease
    applications and writing several less extensive EAs, which generally cost
    $80,000 to $90,000 each.

    Approvals for leases and permits may also be delayed when BLM must
    coordinate with the Forest Service, which manages land in some project
    areas. The Forest Service manages significant lands on geothermal projects
    in Oregon, Washington, California, and Nevada. Although BLM is the lead
    federal agency for geothermal development, the Forest Service must concur
    with leasing and development, and it has its own permitting process. BLM
    and industry officials report that there can be a lack of coordination
    between the Forest Service and BLM because of differing objectives and
    directives. While both agencies manage their lands according to the
    multiple use doctrine, they may have different priorities for land use and
    the public often submits more negative comments concerning geothermal
    development on Forest Service lands. A Forest Service official noted that
    it is important to balance the competing issue of geothermal development
    with other land uses such as preservation and recreation. He cited a
    limited budget for updating forest management plans, which can lead to
    delays, and noted that since geothermal development generates far less
    revenue than logging and coal mining on Forest Service Lands, geothermal
    development receives less priority.

    Companies may also encounter difficulties in developing geothermal
    resources for electricity production due to a patchwork of lease
    ownership. Geothermal resources within a project area may be owned by the
    federal government, state government, or private entities. Even when all
    resources within a project are under federal lease, several lessees with
    competing interests and objectives may own these leases. Some BLM
    officials noted that some developers have reported difficulty in
    consolidating the various geothermal leases into an economically viable
    project that can recover the costs of the power plant and transmission
    line. These developers, according to these BLM officials, say that
    speculators often lease geothermal resources not for development purposes
    but rather to resell the leases at a significant profit, running up the
    cost of the project.

    Geothermal developers, BLM officials, and MMS officials concur that the
    complex federal royalty system in effect before passage of the Act was a
    challenge to the development of geothermal electricity plants. While
    developers did not consider this royalty system to be a major obstacle in
    constructing a geothermal power plant, some described calculating royalty
    payments as burdensome and reported expending considerable time and
    expense on royalty audits. Several industry officials cited the complex
    royalty system as a reason for advocating revisions to the Geothermal
    Steam Act of 1970, as amended.

    Direct Uses of Geothermal Resources Face Business Challenges, Remote
    Locations, Water Rights, and Royalty Issues

    The small business owners, operators of heating districts, and individuals
    who commonly develop geothermal resources for direct use face a variety of
    business challenges. Foremost among these challenges are obtaining
    capital, overcoming specific challenges unique to their industry,
    containing costs, and securing a competitive advantage. While the amount
    of capital to start a business that relies on geothermal resource is small
    compared with the amount of capital necessary to build a geothermal power
    plant, this capital can be large relative to the financial assets of the
    small business owner or individual. Unforeseen problems in well
    construction, piping, and water disposal can also increase original
    funding estimates. Obtaining funding is difficult as commercial banks are
    often reluctant to loan money for unproven projects and ideas that appear
    risky. Even district heating systems that are operated by municipalities
    have encountered financing difficulties as city or state legislatures may
    be reluctant to provide funding or customers may be reluctant to pay for
    modifications that are necessary to use geothermal resources in their
    current heating systems. We observed a number of business challenges
    unique to various industries that the successful owners of direct use
    businesses were able to overcome. They used their extensive knowledge of
    their respective industries to combat diseases in fish farms; to combat
    corrosive waters used in space heating; and to control temperature,
    humidity, and light according to the specifications of the various plant
    species they grew in nurseries. Escalating costs also pose a challenge to
    direct use operations. Rising labor costs and cheaper imports closed a
    food processing plant in Nevada. Greenhouses in Idaho and Oregon remained
    profitable by shifting from high-cost natural gas to cheaper geothermal
    resources for heating. Successful operators of direct use businesses have
    secured competitive advantages by entering specialty niches (see figs. 5
    and 6). For example, the operators of two aquaculture facilities in Idaho
    and Oregon sell alligator meat, tilapia, and freshwater shrimp to
    restaurants. Also, a resort operator in Alaska that relies on geothermal
    resources constructed and markets an "ice museum" where guests can spend
    the night with interior furnishings sculptured from ice. We noticed that
    some greenhouse operators gained a marketing advantage by selling from
    their retail outlet rather than selling at a lower price to wholesalers.

    Figure 5: Alligator Farm Using Geothermal Resources in Idaho

    The remote location of many geothermal resources hampers their development
    for direct use. Geothermal direct use is constrained because the
    geothermal waters cannot be economically transported over long distances
    without a significant loss of heat. An official with the Geo-Heat Center
    noted that for space heating, spas, and resorts, the geothermal resources
    should be located within 5 miles of the location where they will be used.
    While some greenhouses, aquaculture operations, and food processors that
    rely on geothermal resources have successfully produced their products far
    from consumers, they still need access to adequate transportation and a
    cheap labor market, both of which are generally dependent on proximity to
    population centers. The distant location from major population centers of
    geothermal resources on federal lands contributes to their
    unattractiveness for direct use applications.

    Figure 6: Nursery Heated with Geothermal Resources in Idaho

    Obtaining water rights can be a significant challenge to direct use
    development. Western states are not uniform in classifying geothermal
    resources, considering them legally to be mineral, water, or having
    characteristics of both minerals and water. Depending sometimes on the
    depth and/or the temperature at which they occur, geothermal resources can
    be subject to state water laws in the western states and are then managed
    by the state agency responsible for protecting groundwater. Even when not
    legally classified as water, the production of geothermal resources for
    direct use applications may still fall under regulations enforced by a
    state agency responsible for groundwater protection. In areas of high
    groundwater use, the western states generally regulate geothermal water
    according to some form of the doctrine of prior appropriations, under
    which specific amounts of water are appropriated to users in the order
    when they first made beneficial use of the water. Additional amounts, if
    available, are appropriated in the future to applicants on a first-come
    basis. Those that have more senior rights have priority in using the water
    when use exceeds supply, such as during a drought. Western states that
    generally follow the prior appropriations doctrine when managing the
    production of geothermal water for direct use include Utah, Idaho, Oregon,
    New Mexico, and Nevada.6 Developers of geothermal resources for direct use
    would face problems obtaining appropriations in the Snake River Basin of
    Idaho, which consists of much of the state below the panhandle, because
    groundwater is fully appropriated there and used predominantly for
    irrigation. Over half of the state of Utah also includes areas in which
    geothermal resources for direct use would be excluded or restricted due to
    prior appropriations, and the state water engineers in Nevada and New
    Mexico may also restrict appropriations in some areas of their states. In
    addition, applications for development of geothermal resources for direct
    use on federal lands may also be subject to state water laws. Unless the
    federal government has reserved water rights on land in which a geothermal
    developer is interested and the geothermal development fulfills the
    specific purpose of the federal reservation, the development may still be
    subject to restrictions under state water laws.

    Developers interested in using federal geothermal resources for direct use
    were concerned about high federal royalties prior to passage of the Energy
    Policy Act of 2005. Royalties were computed according to a formula that
    relies on the amount of heat extracted from the resource and the cost of a
    reasonably available alternative form of energy. Since most inquiries into
    the use of federal resources have been by operators of greenhouses, this
    alternative form of energy-natural gas-has been the source generally used
    to heat greenhouses. Average wellhead natural gas prices in recent years
    have increased about two and a half times from $3.68 per million British
    thermal units in 2000 to $9.50 in September 2005. Operators of greenhouses
    have told us that heating greenhouses with natural gas is no longer
    economically feasible as the costs of raising plants would exceed the
    price they obtain for these plants. During meetings between BLM, MMS,
    state, and industry officials, general consensus was reached that natural
    gas was too expensive an energy source upon which to base royalties, and a
    working group was formed to propose an alternative energy source. In the
    report they drafted,7 the group proposed Powder River Basin coal, which
    averages about 30 cents per million British thermal units-a fraction of
    the price of natural gas. The report states that lower royalties on direct
    use may encourage development and result in higher royalty revenues in the
    long run. However, based on other challenges facing the development of
    direct use applications, the lowering of federal royalties alone is
    unlikely to stimulate the direct use of federal geothermal resources.

    Efforts by Federal, State, and Local Governments to Address Challenges
    Show Promise

    The Act includes a variety of provisions designed to help the geothermal
    industry address numerous challenges, including the high risk and
    financial uncertainty of developing renewable energy projects, lack of
    sufficient transmission capacity, delays in federal leasing, and complex
    federal royalties. Although these efforts show promise, it is too early to
    assess their effectiveness. Through the Department of Energy (DOE) and the
    California Energy Commission, the federal government and the state of
    California are attempting to overcome technical challenges by awarding
    cost-share grants for research and development. State and local
    governments have also made efforts to address challenges to geothermal
    development. Chief among these efforts are financial incentives, such as
    tax credits for production from renewable energy sources, sales and
    property tax exemptions, and mandates that certain percentages of the
    electricity generated within the state come from renewable energy sources,
    such as geothermal resources.

    Financial Incentives Are Used to Address the High Risk and Uncertainty of
    Geothermal Development

    Provisions within the Act address the high risk and financial uncertainty
    of producing renewable energy by providing tax credits and other
    incentives for renewable energy producers, including the producers of
    geothermal electricity. Starting on January 1, 2005, section 1301 of the
    Act extends for 10 years a tax credit on the production of electricity
    from geothermal resources for already existing plants and for any new
    plants producing by December 31, 2007. The credit is now 1.9 cents per
    kilowatt-hour and has future adjustments for inflation. Although
    government and industry officials praised this provision, they told us
    that for the credit to be more effective, the date by which plants must
    produce electricity needs to be extended. They explained that since it can
    take 3 years or longer for the construction of geothermal electricity
    plants, plants probably will not qualify unless they are ready to break
    ground immediately. The Act also provides a financial incentive for
    tax-exempt entities that cannot take advantage of the production tax
    credit. Section 1303 of the Act permits the issuance of clean renewable
    energy bonds by tax-exempt entities, such as municipalities and rural
    electric cooperatives, for the construction of certain renewable energy
    projects, including geothermal electricity plants. Investors can purchase
    the bonds, which pay back the original principal and also provide a
    federal tax credit instead of an interest payment. The Department of the
    Treasury will manage the issuance of these bonds and the setting of credit
    rates. The total issuance of bonds cannot exceed $800 million, and the
    bonds are to be issued between December 31, 2005, and December 31, 2007.

    The Act also extends the federal government's Renewable Energy Production
    Incentive, which expired on September 30, 2003. This incentive entitled
    eligible electric production facilities, including not-for-profit
    cooperatives, public utilities, and various government entities who sell
    renewable electricity, including that generated from geothermal resources,
    annual financial incentive payments from the federal government.
    Additionally, section 1333 of the Act makes a $300 tax credit available to
    purchasers of geothermal heat pumps who place them in service in 2006 and
    2007.

    Another provision in the Act may decrease the uncertainty inherent in
    geothermal exploration. The Act directs the Secretary of the Interior,
    acting through the USGS, to update the 1978 Assessment of Geothermal
    Resources made by the USGS. This assessment, published as Circular 790, is
    widely considered to be out of date and in need of revision. USGS
    officials reported that, since 1978, there have been significant
    advancements in technology that are not reflected in Circular 790. Now,
    electricity can be generated from lower temperature resources and from
    resources located deeper within the earth. Today, according to USGS
    officials, scientists and engineers can make more accurate resource
    estimates because they are more knowledgeable of reservoir characteristics
    and have benefited from the knowledge gained during the 27 years of
    exploration and development that has occurred since the original study.

    State governments are also offering financial incentives to the geothermal
    industry by creating additional markets for their electricity through
    Renewable Portfolio Standards (RPS). An RPS is a state policy directed at
    electricity retailers, including utilities, that either mandates or
    encourages them to provide a specific amount of electricity from renewable
    energy sources, which may include geothermal resources. To date, 22 states
    plus the District of Columbia have RPSs, and three other states have set
    RPS targets. Requirements for the program vary by state as each RPS is
    unique, and not all states have significant geothermal resources.
    California and Nevada, which have large geothermal production and
    potential, have each established an ambitious RPS. California law mandates
    that retailers must supply 20 percent of their electrical energy from
    renewable energy by 2017, and the state is currently seeking to move this
    date up to 2010. Nevada requires certain percentages of its electricity to
    be generated from renewable energy each year, with 20 percent by 2015.
    Since California and Nevada requirements were implemented, one 20
    megawatt-geothermal plant in Nevada, which has gone on line, and
    geothermal developers have signed contracts for three plants in California
    for as much as 260 megawatts of future geothermal power, which can be
    attributed to RPSs. Nevada utilities currently are not meeting their
    annual RPS requirements. Officials from two large California utilities
    told us that they are interested in purchasing electricity generated from
    geothermal resources specifically because of RPS and noted that the RPS
    may be instrumental in constructing a new transmission line from the
    Imperial Valley to utilities in southern California.

    Additional state programs also provide tax credits and other financial
    incentives for renewable energy development, including electricity
    generation from geothermal resources. These incentives include property
    tax incentives, sales tax incentives, and business tax credits. For
    example in California, eligible geothermal developers can be awarded
    supplemental energy payments from the state if they have a contract for
    electricity at above market costs with one of California's three
    investor-owner utilities. In Nevada, state law exempts from local sales
    and use taxes the sale, storage, and consumption of products or systems
    designed to generate electricity from renewable resources. In Utah, the
    purchases of equipment to generate electricity from renewable resources
    are excluded from state sales tax. Both Nevada and Oregon do not count the
    value added by renewable energy systems when assessing property taxes.
    Oregon also offers a business energy tax credit of up to 35 percent of the
    cost of certain renewable energy projects, including geothermal systems.

    Federal and State Grants Are Addressing Technology Challenges

    DOE and the state of California provide financial assistance and grants to
    the geothermal industry in trying to overcome technical challenges. At
    DOE, the Geothermal Technologies Program's mission is to work in
    partnership with U.S. industry to establish geothermal energy as an
    economically competitive contributor to the U.S. energy supply. Several
    goals of the program include reducing the cost of geothermal development
    to 5 cents per kilowatt-hour by 2010 and increasing electrical capacity
    from geothermal resources to 40,000 megawatts by 2040. The program seeks
    to accomplish these goals by competitively awarding cost-shared grants to
    industry for research and development. The program's budget was $25.3
    million in fiscal year 2005. In the past, program funds have been used to
    pioneer new drill bits, demonstrate the large scale use of binary
    technology, produce new seismic interpretation methods, commercialize
    geothermal heat pumps, develop slimhole (reduced diameter) drilling for
    exploration, and produce a strategy for reinjection at The Geysers. Within
    the program, an initiative called GeoPowering the West provides technical
    and institutional knowledge on opportunities to use geothermal resources
    and on how to overcome challenges. Goals of this initiative are to
    increase the number of homes using geothermal energy to 7 million by 2010
    and to double the number of states producing geothermal electricity to
    eight by 2006.

    California provides financial and technical support for geothermal
    development through grants under two programs administered by the
    California Energy Commission. Under the Geothermal Resources Development
    Account, grants are competitively awarded to promote research,
    development, demonstration, and commercialization of geothermal resources
    in California. Funding is provided from a portion of the federal
    geothermal royalties disbursed to the state. The program's costs are
    shared with awardees. One noteworthy project funded by the program was the
    piping of treated wastewater from Santa Rosa, California, to The Geysers,
    where it was injected into the geothermal reservoir, increasing reservoir
    pressure and boosting electricity production by an estimated 10 percent.
    For California's fiscal year 2006, $3.9 million in funding is available
    for 12 to 15 projects. The state's Public Interest Energy Research Program
    also funds awards for renewable resource projects, including geothermal
    projects. Money comes from a surcharge on California residents'
    electricity bills. Of the $62 million collected by the state in 2005, $2
    million was available for geothermal projects.

    Expanded FERC Authority and Planning Initiatives Are Aimed at Transmission
    Challenges

    The Act may also address transmission challenges by providing FERC with
    new authorities in permitting transmission facilities and in developing
    incentive-based rates for electricity transmission in interstate commerce.
    FERC can now approve new transmission lines in certain instances in a
    "national interest electric corridor" when a state fails to issue a permit
    within 1 year of a company's filing of an application. The Act also
    authorizes companies that obtain FERC permits for transmission facilities
    to acquire rights of way through eminent domain proceedings. In addition,
    the Act directed FERC to develop incentive-based rates for transmission of
    electricity in interstate commerce to promote increased investments in
    transmission. Within 1 year of passage of the Act, FERC is to issue a rule
    establishing incentive based rates. In November 2005, FERC initiated the
    rulemaking process for establishing these rates.

    Several planning initiatives are aimed at addressing challenges to
    transmission. In the West, a number of regional entities composed of state
    public utility commissions, local governments, utilities, and others are
    working on transmission planning. These entities include Southwest
    Transmission Expansion Planning, the Northwest Transmission Assessment
    Committee, and the Rocky Mountain Area Transmission Study. Certain
    utilities are also being proactive. The Los Angeles Water and Power
    District is proposing that the City of Los Angeles spend $240 million to
    help construct or upgrade a transmission line from the Salton Sea, an area
    rich in geothermal resources near the Mexican border, to the Los Angeles
    area. Similarly, San Diego Gas and Electric is proposing a new
    transmission line from the Imperial Valley to its service area.

    Provisions within the Energy Policy Act and BLM Planning Efforts May
    Address Leasing and Royalty Issues

    Provisions within the Act are aimed at streamlining or simplifying the
    federal leasing system, principally by mandating competitive geothermal
    lease sales every 2 years, by combining prospective federal lands into a
    single lease, and by improving coordination between DOI and the Department
    of Agriculture, which manages lands in the National Forest System. Since
    companies can nominate tracks of federal land for sale, some geothermal
    companies see the competitive sale provision as a mechanism to jump start
    leasing in areas where it has stalled in recent years. BLM officials speak
    positively of both this provision and the provision that allows combining
    prospective lands into a single lease, saying that these provisions make
    it more likely that companies with the financial resources to develop the
    lands can do so. The Act also requires the Secretary of the Interior and
    the Secretary of Agriculture to enter into a memorandum of understanding
    that establishes an administrative procedure for processing geothermal
    lease applications and that establishes a 5-year program for leasing of
    Forest Service lands and reducing its backlog of lease applications, as
    well as establishing a joint data retrieval system for tracking lease and
    permit applications. A senior official with the Forest Service's
    Geothermal Program said that, since the Forest Service already has a
    memorandum of understanding with BLM, drafting the new memorandum should
    not be difficult.

    The Act also contains provisions that simplify federal geothermal
    royalties on resources that generate electricity and simplify and or
    reduce royalties on resources put to direct use. For electricity
    production, the Act defines three types of leases and provides different
    incentives for each. For the first type-leases that currently produce
    electricity-the Act allows lessees to negotiate a royalty rate equal to a
    percentage of gross sales revenues, instead of using the significantly
    more complex process known as "netback." For the second type of
    lease-those that were issued prior to the Act and will first produce
    electricity within 6 years following the Act's passage-lessees can elect
    for the first 4 years of production to pay 50 percent of the royalties
    that would have been due. For the third type of lease-those that have not
    yet been issued-lessees will pay according to a schedule in which
    royalties are equal to certain percentages of gross sales revenues. In
    addition, the Act significantly changes royalties due in the future on
    direct use applications. The Act directs the Secretary of the Interior to
    establish a schedule of fees, in lieu of the current complicated system,
    that encourages the development of direct use resources.

    BLM's 5-year strategic plan for its geothermal program also attempts to
    address some challenges to federal leasing. The plan calls for annual
    workforce planning documents to reflect the skills and staffing necessary
    to implement an active geothermal program. A BLM official within the
    Geothermal Program said that this provision will allow the state and field
    offices to identify current budgetary needs so that they can process
    geothermal applications and permits in a timely manner. The strategic plan
    also calls for BLM to develop an inspection and enforcement plan, which it
    currently does not have. Such a program could help in ensuring that the
    federal government collects the correct royalty revenues from the sale of
    electricity generated from geothermal resources.

    Geothermal Royalty Disbursements Will Change Significantly, and Changes in
    Electricity Prices Could Alter Total Royalty Collections

    Under provisions of the Act, geothermal royalties retained by the federal
    government will be cut in half because half of the royalties that
    originally were retained by the federal government will now have to be
    disbursed to the counties in which the federal leases are located.
    Although provisions within the Act may change the royalties due on
    specific types of leases, the overall revenue impact of these provisions
    should be minor if electricity prices remain relatively stable and if the
    Secretary of the Interior relies on past royalty histories in determining
    future royalties. However, it is not possible to predict with reasonable
    assurance how electricity prices will change in the future, and price
    changes could significantly impact future royalty collections if they are
    not accounted for in royalty calculations.

    The Energy Policy Act Redistributes a Greater Portion of Federal Royalties

    A royalty provision of the Act redistributes the federal royalties
    collected from geothermal resources-cutting in half the overall geothermal
    royalties previously retained by the federal government. Set by the
    Geothermal Steam Act of 1970, as amended, the prior distribution provided
    for 50 percent of geothermal royalties to be retained by the federal
    government and the other 50 percent to be disbursed to the states in which
    the federal leases are located.8 The Act changes this disbursement. While
    the Act provided that 50 percent of federal geothermal royalties will
    continue to be disbursed to the states in which the federal leases are
    located, an additional 25 percent will now be disbursed to the counties in
    which the leases are located, leaving only 25 percent to the federal
    government.

    The Act also changes how the federal government's share of geothermal
    royalties can be used. Prior to passage of the Act, 40 percent of the
    federal government's share was deposited into the reclamation fund created
    by the Reclamation Act of 1902, and 10 percent was deposited into the
    general fund of the Department of the Treasury. For the first 5 fiscal
    years after passage of the Act, the federal government's share is now to
    be deposited into a separate account within the Department of the Treasury
    that the Secretary of the Interior can use without further appropriation
    and fiscal year limitation to implement both the Geothermal Steam Act and
    the Act. DOI officials explained that some of these funds could be used
    for activities such as issuing geothermal leases, conducting environmental
    reviews, collecting geothermal royalties, and inspecting geothermal
    leases.

    Provisions of the Energy Policy Act Are Likely to Have Little Impact on
    Overall Royalty Revenues Only if Electricity Prices Remain Relatively
    Constant

    Despite several provisions of the Act that alter the amount of royalties
    due on both the generation of electricity and direct use operations,
    federal geothermal royalties could remain about the same, but only if
    electricity prices remain stable. However, electricity prices are not
    possible to predict with certainty, and price changes could significantly
    impact royalty revenues on electricity sales, which account for about 99
    percent of total geothermal royalty revenues. The Act contains provisions
    for each of three specific types of leases that generate electricity: (1)
    leases that currently produce electricity, (2) leases that were issued
    prior to passage of the Act and will first produce electricity within 6
    years following the Act's passage, and (3) leases that have not yet been
    issued. There is also a provision in the Act that replaces the current
    method of calculating royalties due on direct use operations with a
    schedule of fees that shall encourage the development of geothermal
    resources. Since direct use royalties accounted for less than 1 percent of
    total geothermal royalties from 2000 through 2004, the financial impact of
    the switch to a schedule of fees is likely to be minimal.

    For leases that currently produce electricity, the Secretary of the
    Interior is to seek to collect the same level of royalties over the next
    10 years but under a simpler process. Prior to passage of the Act, lessees
    of 13 of the 15 geothermal electricity projects paid federal royalties
    according to a provision within MMS's geothermal valuation regulations
    referred to as the "netback process." To arrive at royalties due under
    this process, lessees are to first subtract from the electricity's gross
    sales revenue9 their expenses for generation and transmission and then
    multiply that figure by the royalty rate specified in the geothermal
    lease, which is from 10 to 15 percent.10 The Act simplifies the process by
    stating that within the 18 months after the effective date of the final
    regulations issued by DOI, lessees who were producing electricity prior to
    passage of the Act have the option to request a modification to their
    royalty terms. This modification allows for royalties to be computed as a
    percentage of the gross sales revenues from the electricity so long as
    this percentage is expected to yield total royalty payments equal to what
    would have been received for comparable production under the royalty rate
    in effect before passage of the Act. MMS has already implemented a
    procedure similar to this provision for the two projects that produce
    electricity at The Geysers, setting their future royalties equal to a
    percentage of gross sales revenues based largely on past royalty histories
    and future projections.

    Royalty revenues from a geothermal lease currently producing electricity
    will remain the same if the lessee elects not to convert to the new
    provision within the Energy Policy Act. In this case, the lessee will
    continue to calculate and pay royalties just as the lessee did before
    passage of the Act. Royalty revenues from a geothermal lease currently
    producing electricity should also remain about the same if the lessee does
    convert to the simpler method of calculating royalties in the Act,
    provided that DOI negotiates with the lessee a future royalty percentage
    based on past royalty history and provided that electricity prices remain
    relatively constant. This situation is illustrated in table 4, which uses
    data based on actual royalty data from a geothermal project on federal
    lands. According to table 4, the lessee pays royalties equal to $20,000
    under the netback process. Royalties are equal to the production of 8,000
    megawatt hours times the sales price of $100 per megawatt hour less
    $600,000 in expenses times the statutory royalty rate of 10 percent.
    Figures in table 4 represent averages over a 5-year period and show that
    royalties are equal to 2.5 percent of gross sales revenue. If production
    remains the same and if electricity prices average $100 per megawatt hour,
    future royalty revenues will remain the same whether royalties are
    calculated under the netback process or if royalties are calculated at 2.5
    percent of gross sales revenues.

    Table 4: Example of Royalties Due under the Netback Process

    Production Sales    Gross Expenses      Net Statutory Royalties  Royalties
                  price    sales             sales   royalty       due       as a
                         revenue           revenue      rate           percent of
                                                                            gross
                                                                            sales
                                                                         revenues
    8,000       $100 $800,000 $600,000 $200,000       10%   $20,000       2.5%

    Source: GAO.

    Note: Production is in megawatt hours, and sales price is dollars per
    megawatt hour.

    However, if electricity prices increase and royalties are based on
    historic percentages of gross sales revenues, royalty revenues will
    actually decrease relative to what the federal government would have
    collected prior to passage of the Act. More revenue would have been
    received under the netback process because expenses for generation and
    transmission do not increase when electricity prices increase and the
    higher 10 percent statutory royalty rate would have applied to all of the
    increase in sales revenues. This impact is illustrated in table 5. Using
    the historic average of 2.5 percent computed in table 4, the royalties
    will actually be $12,000 less than what would have been collected under
    the netback process when the average price increases by $20 per megawatt
    hour. On the other hand, if average electricity prices drop by $20 per
    megawatt hour, royalty revenues will increase by $12,000 relative to what
    would have been collected under the netback process.

    Table 5: Impact of Changing Electricity Prices on Royalties Due under the
    Energy Policy Act and the Netback Process

    Sales Change in Gross sales    Royalties due under Royalties due Change in
    price     sales     revenue                the Act under netback royalties
                 price                                                        due
    $100         $0    $800,000                $20,000       $20,000       $ 0
    $120       +$20    $960,000                $24,000       $36,000 - $12,000
    $80        -$20    $640,000                $16,000        $4,000  +$12,000

    Source: GAO.

    Note: This example is for currently producing leases for which the lessee
    elects to change royalty to a percentage of gross sales revenue. The sales
    price is per megawatt hour. The example assumes constant production of
    8,000 megawatt hours, constant expenses of $600,000, royalty rate equal to
    2.5% of gross sales revenue under the Act, and 10% under netback.

    For the second type of lease-leases that were issued before the Act and
    that will first produce electricity within 6 years after the Act's
    passage-royalty revenues are likely to drop somewhat because lessees are
    likely to take advantage of an incentive within the Act. The Act allows
    for a 50 percent decrease in royalties for the first 4 years of production
    so long as the lessee does not elect to pay royalties based on a
    percentage of gross sales revenues and continues to use the netback
    process.11 Because of the substantial reduction in royalties, it is likely
    that lessees owning leases issued before passage of the Act will elect to
    pay only 50 percent of the royalties due on new production for the 4-year
    period allowed by the Act. This incentive also applies to sales revenues
    from the expansion of a geothermal electricity plant that exceeds 10
    percent. Owners of geothermal electricity plants currently paying
    royalties under the netback process may elect to take the production
    incentive for new plant expansions if they perceive that the royalty
    reduction is worth the additional effort and expense in calculating
    payments under the netback process and worth the possibility of being
    audited. BLM officials said that leases in Utah, California, and Nevada
    may become subject to the royalty reduction provisions within the Act for
    new production and new plant expansions.

    It is difficult to predict exactly how royalty revenue from the third type
    of lease-leases that have not yet been issued-will change, but it appears
    that revenue impacts are likely to be minor, based on our review of
    historic royalty data. The Act specifies that the Secretary of the
    Interior should seek to collect the same level of royalty revenues over a
    10-year period as before passage of the Act, but it will be difficult for
    DOI to compare an estimate of what royalty revenue would have been without
    the Act with royalty revenues after the Act because the production and
    expenses of future plants could vary substantially due to their unique
    geological, engineering, and economic attributes. The Act provides that,
    for future leases, royalties on electricity produced from federal
    geothermal resources should be not less than 1 percent and not greater
    than 2.5 percent of the sales revenue from the electricity generated in
    the first 10 years of production. After 10 years, royalties should be not
    less than 2 percent and not greater than 5 percent of the sales revenue
    from the electricity.

    We attempted to analyze the revenue impact on future leases by using
    historic royalty data maintained by MMS and sales revenue data maintained
    by BLM. A detailed description of our methodology is in appendix II.
    First, we attempted to analyze revenue impacts on the first 10 years of
    electricity production, but we had difficulty obtaining relevant royalty
    data so we could not complete this analysis. Next, we examined the impact
    on royalties after the first 10 years of production by analyzing data for
    seven geothermal projects from 2000 through 2004. In analyzing royalty
    data, we found that MMS did not maintain gross sales revenue data so we
    used data that BLM supplied to MMS. We also found that 40 percent of the
    royalty data maintained by MMS was erroneous or missing so we corrected or
    obtained these data as necessary. We then calculated royalties paid as a
    percentage of gross sales revenues for each project. This analysis showed
    that lessees were paying a wide range of percentages-from 0.2 to 6.3
    percent. Three of the seven projects paid under the minimum 2 percent
    royalty rate prescribed in the Act, suggesting that some projects in the
    future could pay more under the Act's new provisions than they would
    otherwise have paid. On the other hand, one project paid greater than the
    maximum 5 percent prescribed in the Act, suggesting that it is possible
    for a plant to pay less in the future than it would otherwise have paid.
    However, both the royalty revenue that the one plant would have overpaid
    and the total of the royalty revenues that the three plants would have
    underpaid are small-about 0.2 percent and 0.01 percent, respectively, of
    all geothermal royalties reportedly paid during the period of our
    analysis.

    Even though provisions within the Act may decrease royalties on direct use
    applications, the impact of these provisions is likely to be small because
    total royalty collections from direct use applications are minimal. In
    fiscal years 2000 through 2004, MMS reported collecting annually about
    $79,000 from two direct use projects, or less than 1 percent of total
    geothermal royalties. In addition, MMS reported collecting an additional
    $222,000 during this period in settlement for royalties owed on a direct
    use project from 1987 through 2003. While a provision within the Act may
    encourage the use of federal geothermal resources for direct use by
    lowering the federal royalty rate, we believe based on challenges facing
    developers that it is unlikely that this royalty incentive alone will
    stimulate substantial new revenues to compensate for the loss in revenue
    due to the lower royalty rate. We believe that, in order to substantially
    increase the development of federal direct use applications, developers
    must overcome the relatively high capital costs for investors, unique
    business challenges, and water rights issues.

    MMS Does Not Routinely Collect the Royalty Data Necessary to Maintain the
    Same Level of Royalty Collections

    MMS does not routinely collect meaningful data on the revenue from
    electricity sales. Since the Act requires the Secretary of the Interior to
    seek to achieve the same level of royalty revenues when issuing new
    royalty regulations, these data are necessary to know how future royalties
    will compare with what would have been collected before passage of the
    Act. To make these comparisons, MMS needs to calculate the percentage of
    gross sales revenues that lessees pay in royalties. MMS requires royalty
    payors to record sales revenue data on Form MMS-2014 under the data field
    "sales value." MMS's Geothermal Payor Handbook instructs royalty payors
    using the netback method to record in this field its net sales revenue,
    which is equal to gross sales revenues less deductions for expenses such
    as generation and transmission. As such, this sales value cannot be used
    as one of the factors to calculate the percent of gross sales revenues
    paid in royalties.

    In preparing an analysis for the Royalty Policy Committee, MMS obtained
    gross sales revenue data from BLM for many of the geothermal projects.
    While BLM regulations require geothermal plant operators to report to BLM
    the amount of electricity produced, these regulations do not require the
    reporting of gross sales revenues. Nevertheless, BLM officials said that
    they collect the sales revenue data. BLM officials in Nevada and southern
    California reported examining the production and gross sales revenue data
    for reasonableness and patterns in order to check on the accuracy of
    royalty reporting. A BLM official also reported collecting sales revenue
    and production data at The Geysers in northern California, but he said
    that BLM lacked the resources to examine these data and was unable to
    compile these data either for MMS or for us. These data from The Geysers
    are important because they represent about 61 percent of total federal
    geothermal royalties. Some royalty data from The Geysers were obtained and
    audited by the state of California, but an MMS official said that it would
    be more efficient and timely if MMS collects gross sales revenue data
    directly, rather than having to ask BLM or the states for these data. The
    official also said that MMS could use the gross sales revenue data in the
    future to conduct general compliance audits by comparing the percent of
    gross sales revenue paid in royalties with percentages prescribed within
    the Act and by examining trends in the data, without having to undertake
    lengthy and expensive on-site visits to the geothermal plants.

    Conclusions

    The Energy Policy Act of 2005 addresses a wide variety of challenges
    facing developers of geothermal resources. The Act incorporates many of
    the lessons learned by state governments and federal agencies in an
    attempt to make federal processes more efficient and provide financial
    incentives for further development. However, the Act is new and
    insufficient time has passed to assess its effectiveness. Several of the
    Act's major provisions will be left to the federal agencies within DOI for
    implementation, and the drafting and public comment period for regulations
    that implement these provisions will take time. Agencies will also need to
    spend considerable time and effort in working out the details for
    implementation and securing the necessary budgets to implement the new
    system. To assist in these efforts, the Congress has authorized the
    agencies to use the federal government's share of royalty collections to
    implement the geothermal program for 5 years.

    All the while, the Act directs the Secretary of the Interior to seek to
    maintain the same level of geothermal royalty revenues over the next 10
    years as would have been collected prior to the Act. This is a tall
    mandate, as one of the factors that can most affect geothermal royalty
    revenue-the price of electricity-is outside the control of the managing
    agencies. Although it is impossible to predict with reasonable assurance
    how these prices will change in the future, the federal agencies must make
    their best effort to mitigate the impact of changing prices if federal
    royalty revenue are to remain the same. This mitigation can only be
    achieved if there is timely and accurate knowledge of the revenues that
    lessees collect when they sell electricity. Without such knowledge, MMS
    will have difficulty collecting the same level of royalties from lessees
    that elect to use the new royalty process.

    Recommendation for Executive Action

    To assist in achieving the same level of geothermal royalties as would
    have been collected prior to the Energy Policy Act of 2005, we recommend
    that the Secretary of the Department of the Interior instruct the
    appropriate managers within the Minerals Management Service to take the
    following two actions:

    o Correct erroneous and missing royalty data, when necessary, so that it
    will have an accurate baseline of royalty collections for each payor; and

    o Routinely collect from royalty payors the gross sales revenues for
    electricity sold in order to compare these revenues with past royalty
    collections and to verify compliance with the percentages prescribed
    within the Act for leases to be issued in the future.

    Agency Comments and Our Evaluation

    We provided a draft of this report to the Department of the Interior for
    review and comment. DOI provided written comments, which are presented in
    appendix II. DOI agreed with our recommendations and emphasized the
    importance of correct and relevant data in fulfilling the requirement to
    collect the same level of geothermal royalties as would have been
    collected prior to the Energy Policy Act of 2005. Specifically, DOI stated
    that MMS plans to take steps to correct erroneous and missing royalty
    data, including initiating an audit and directing payors to correct data.
    DOI also stated that MMS is drafting new geothermal regulations as part of
    implementing the Act and that these regulations will refer to instructions
    that require payors to report to MMS the gross sales revenues for
    electricity sold. MMS also provided several technical comments that we
    have incorporated in the report.

    As agreed with your office, unless you publicly announce the contents of
    this report earlier, we plan no further distribution until 15 days from
    the report date. At that time, we will send copies to other interested
    congressional committees. In addition, we will send copies of this report
    to the Secretary of the Interior, the Director of BLM, the Director of the
    Minerals Management Service, the Secretary of the Department of
    Agriculture, the Chief of the Forest Service, and the Secretary of Energy.
    We also will make copies available to others upon request. In addition,
    the report will be available at no charge on the GAO Web site at
    http://www.gao.gov .

    If you or your staff have any questions about this report, please contact
    me at (202) 512-3841 or WellsJ@gao.gov . Contact points for our Offices of
    Congressional Relations and Public Affairs may be found on the last page
    of this report. Key contributors to this report are listed in appendix
    III.

    Jim Wells Director, Natural Resources   and Environment

    Objectives, Scope, and MethodologyAppendix I

    In this report, we discuss (1) the current extent and potential for
    geothermal development; (2) challenges faced by developers of geothermal
    resources; (3) federal, state, and local government actions to address
    these challenges; and (4) how provisions of the Energy Policy Act of 2005
    (Act) are likely to affect federal geothermal royalty collections.

    To describe the current extent and potential for geothermal development,
    we reviewed key studies on the extent and potential of geothermal
    development that were published by the Department of Energy, the
    California Energy Commission, the U.S. Geological Survey, the Western
    Governors' Association, the Geo-Heat Center at the Oregon Institute of
    Technology, the Geothermal Energy Association, and the state of Utah. We
    contacted and visited the authors of the studies prepared by the
    Department of Energy in Golden, Colorado; the California Energy Commission
    in Sacramento, California; and the Geo-Heat Center in Klamath Falls,
    Oregon. We also visited the Geothermal Resources Council in Davis,
    California. We obtained statistics on federal geothermal leases from the
    Bureau of Land Management (BLM) and data on geothermal heat pumps from the
    Geothermal Heat Pump Consortium, the Department of Energy's Geothermal
    Technologies Program, and the General Services Administration.

    To identify the challenges facing geothermal developers and to assess
    actions taken by federal, state, and local governments, we interviewed a
    variety of government and industry officials, reviewed substantial
    supporting documentation and the Act, and visited geothermal facilities.
    We interviewed BLM officials in Washington, D.C.; California; Nevada; and
    Utah, as well as Forest Service officials in Washington, D.C.; Minerals
    Management Service (MMS) officials in Lakewood, Colorado; and Department
    of Energy officials in Washington, D.C.; and Golden, Colorado. We
    contacted state officials in California, Nevada, and Idaho. We also
    interviewed geothermal industry representatives in Washington, D.C.;
    California; Nevada; and New Mexico and toured geothermal electricity
    plants in California and Nevada and direct use facilities, including
    heating districts, food processing plants, greenhouses, aquaculture
    operations, and a spa in Idaho, Nevada, Oregon, and Colorado. Specifically
    to assess financial challenges faced by the geothermal industry, we also
    interviewed officials with public utilities and officials who specialize
    in arranging financing for geothermal plants. In assessing challenges
    specific to federal lands, we also reviewed processes for approving lease
    applications and conducting environmental analyses under the National
    Environmental Policy Act of 1969; examined federal regulations addressing
    leasing, geothermal operations, and royalty valuation for both electricity
    production and direct use; and read the 148-page Geothermal Valuation
    Handbook.

    To assess how provisions within the Act will affect federal geothermal
    royalties, we interviewed MMS employees in Lakewood, Colorado, and BLM
    employees in California, Utah, and Nevada and reviewed a report authored
    by the Royalty Policy Committee. We reviewed in detail how provisions of
    the Act address the disbursement of federal geothermal royalties and
    specifications for geothermal royalty collections from leases that are
    currently producing electricity, leases that will first start to produce
    electricity within the 6 years following passage of the Act, and leases
    that have not yet been issued.

    To assess how provisions of the Act could impact royalty revenue from the
    sale of electricity, we started by trying to obtain monthly geothermal
    royalty data and sales revenue data from MMS for January 2000 through
    December 2004 for 10 geothermal projects paying royalties according to the
    netback process. We discovered that MMS does not require payors to submit
    gross sales revenue data but instead collects these data from BLM. We
    assessed whether MMS's royalty data and BLM's sales revenue data were
    complete enough and accurate enough for MMS to determine what percentage
    of gross sales revenues is equivalent to the current level of royalties
    being paid, should lessees elect to convert to paying a percentage of
    gross sales revenues, as allowed by the Act. We reviewed MMS's and BLM's
    data for reasonableness and completeness. While we found BLM's data to be
    reasonably complete and accurate for the 10 geothermal projects, we found
    that BLM could not furnish us with sales revenue data for the 2 steam
    projects at The Geysers Geothermal Field in northern California. We also
    found that about 40 percent of the monthly royalty data maintained by MMS
    for the 10 projects was missing or erroneous. The most common error,
    accounting for 73 percent of erroneous and missing data, was not paying
    the 0.1 percent minimum royalty required by MMS regulations. This error
    did not result in significant monetary underpayments; monthly
    underpayments for this type of error generally amounted to less than $500.
    After assuming that the correct royalty due was 0.1 percent of net sales
    revenue for those months in which underpayments were less than the minimum
    royalty calculation, we determined that royalty data was reasonably
    accurate and complete for January 2000 through December 2004 for 6 of the
    projects and for January 2003 through December 2004 for one additional
    project.

    Comments from the Department of the InteriorAppendix II

    GAO Contact and Staff AcknowledgmentsAppendix III

    Jim Wells (202) 512-3841

    In addition to the individual named above, Dan Haas, Assistant Director;
    Jeanne Barger; Ron Belak; John Delicath; Randy Jones; Frank Rusco; Anne
    Stevens; and Barbara Timmerman made key contributions to this report.

    (360566)

    www.gao.gov/cgi-bin/getrpt? GAO-06-629 .

    To view the full product, including the scope

    and methodology, click on the link above.

    For more information, contact Jim Wells at (202) 512-3841 or
    wellsj@gao.gov.

    Highlights of GAO-06-629 , a report to the Ranking Minority Member,
    Committee on Energy and Natural Resources, U.S. Senate

    May 2006

    RENEWABLE ENERGY

    Increased Geothermal Development Will Depend on Overcoming Many Challenges

    The Energy Policy Act of 2005 (Act) contains provisions that address a
    variety of challenges that face the geothermal industry, including the
    high risk and uncertainty of developing geothermal power plants, lack of
    sufficient transmission capacity, and delays in federal leasing. Among the
    provisions are means to simplify federal royalties on geothermal resources
    while overall collecting the same level of royalty revenue. The Act also
    changes how these royalties are to be shared with local governments
    (disbursements). This report describes: (1) the current extent of and
    potential for geothermal development; (2) challenges faced by developers
    of geothermal resources; (3) federal, state, and local government actions
    to address these challenges; and (4) how provisions of the Act are likely
    to affect federal geothermal royalty disbursement and collections.

    What GAO Recommends

    GAO found that it will be difficult for the Department of the Interior to
    demonstrate that it intends to collect the same level of royalties as
    called for in the Act because the Minerals Management Service (MMS) does
    not systematically collect the necessary revenue data from electricity
    sales. Therefore, GAO recommends that the Secretary of the Interior
    instruct the appropriate managers within MMS to systematically collect
    future sales revenues for electricity, and Interior agreed.

    Geothermal resources currently produce about 0.3 percent of our nation's
    total electricity and heating needs and supply heat and hot water to about
    2,300 direct use businesses, such as district heating systems, fish farms,
    greenhouses, food-drying plants, spas, and resorts. Recent assessments
    conclude that future electricity production from geothermal resources
    could increase by 25 to 367 percent by 2017. The potential for additional
    direct use businesses is largely unknown because the lower temperature
    geothermal resources that they exploit are abundant and commercial
    applications are diverse. One study has identified at least 400
    undeveloped wells and hot springs that have the potential for development.
    In addition, the sales of geothermal heat pumps are increasing.

    Developers of geothermal electricity plants face many challenges including
    a capital intensive and risky business environment, developing technology,
    insufficient transmission capacity, lengthy federal review processes for
    approving permits and applications, and a complex federal royalty system.
    Direct use businesses face unique business challenges, remote locations,
    water rights issues, and high federal royalties. The Act addresses many of
    these challenges through tax credits for geothermal production, new
    authorities for the Federal Energy Regulatory Commission, and measures
    that streamline federal leasing and that simplify federal royalties, which
    totaled $12.3 million in 2005. In addition, the Department of Energy and
    the state of California provide grants for addressing technology
    challenges. Furthermore, some state governments offer financial
    incentives, including investment tax credits, property tax exclusions,
    sales tax exemptions, and mandates that certain percentages of the
    electricity within the state be generated from renewable resources.

    Under the Act, federal royalty disbursement will significantly change
    because half of the federal government's share will now go to the counties
    where leases are located. Although the Act directs the Secretary of the
    Interior to seek to maintain the same level of royalty collections, GAO's
    analysis suggests this will be difficult because changing electricity
    prices could significantly affect royalty revenues. Also, MMS does not
    collect sales data that are necessary to monitor these royalty
    collections.

    Glenwood Hot Springs, Colorado (left) and Geothermal Power Plant at The
    Geysers, California (right)

    GAO's Mission

    The Government Accountability Office, the audit, evaluation and
    investigative arm of Congress, exists to support Congress in meeting its
    constitutional responsibilities and to help improve the performance and
    accountability of the federal government for the American people. GAO
    examines the use of public funds; evaluates federal programs and policies;
    and provides analyses, recommendations, and other assistance to help
    Congress make informed oversight, policy, and funding decisions. GAO's
    commitment to good government is reflected in its core values of
    accountability, integrity, and reliability.

    Obtaining Copies of GAO Reports and Testimony

    The fastest and easiest way to obtain copies of GAO documents at no cost
    is through GAO's Web site ( www.gao.gov ). Each weekday, GAO posts newly
    released reports, testimony, and correspondence on its Web site. To have
    GAO e-mail you a list of newly posted products every afternoon, go to
    www.gao.gov and select "Subscribe to Updates."

    Order by Mail or Phone

    The first copy of each printed report is free. Additional copies are $2
    each. A check or money order should be made out to the Superintendent of
    Documents. GAO also accepts VISA and Mastercard. Orders for 100 or more
    copies mailed to a single address are discounted 25 percent. Orders should
    be sent to:

    U.S. Government Accountability Office 441 G Street NW, Room LM Washington,
    D.C. 20548

    To order by Phone: Voice: (202) 512-6000 TDD: (202) 512-2537 Fax: (202)
    512-6061

    To Report Fraud, Waste, and Abuse in Federal Programs

    Contact:

    Web site: www.gao.gov/fraudnet/fraudnet.htm E-mail: fraudnet@gao.gov
    Automated answering system: (800) 424-5454 or (202) 512-7470

    Congressional Relations

    Gloria Jarmon, Managing Director, JarmonG@gao.gov (202) 512-4400 U.S.
    Government Accountability Office, 441 G Street NW, Room 7125 Washington,
    D.C. 20548

    Public Affairs

    Paul Anderson, Managing Director, AndersonP1@gao.gov (202) 512-4800 U.S.
    Government Accountability Office, 441 G Street NW, Room 7149 Washington,
    D.C. 20548

    In assessing revenue impacts from leases that were currently issued and
    producing electricity, we considered MMS's past history of approving
    royalty calculations based on a percentage of gross sales revenues at The
    Geysers. We also reviewed MMS's calculations of the percentages of gross
    sales revenues that appear in the report to the Royalty Policy Committee.
    Based on these considerations, we assumed that MMS could determine a
    percentage of gross sales revenues equal to what would have been collected
    prior to the Act if electricity prices do not change. We also determined
    the impact of changing prices on royalty revenues as illustrated in table
    5. In assessing revenue impacts from leases that were currently issued and
    not producing, we contacted BLM officials to ascertain the likelihood for
    these leases to first start producing in the next 6 years and the
    likelihood of producing leases to expand their production by more than 10
    percent. We also discussed with industry officials their opinions on
    paying royalties according to the netback process.

    To assess how royalty collections from future leases could be impacted, we
    began to examine royalty data from the first 10 years for the 15 federal
    geothermal projects, all of which first started producing prior to 1987.
    We abandoned this attempt after conversing with MMS officials. MMS
    officials noted that contracts for the sale of electricity prior to 2000
    were different and would probably not be representative of future
    situations. In addition, sales in the 1980s often involved the sale of
    geothermal resources such as steam and hot water rather than electricity,
    complicating the use of MMS's royalty data. Although some industry
    officials said that their projections suggest that royalties during the
    first 10 years of a project's life are substantially less than the
    royalties during the remainder of the project's life, we could not verify
    this estimate without actual royalty data.

    To assess how royalty collections from future leases could be impacted 10
    years after they first produce, we proceed with examining royalty data for
    7 of the projects from our original sample of 10 geothermal projects. We
    calculated royalties as a percentage of gross sales revenues from January
    2000 through December 2004 and compared their range with the range of
    percentages prescribed within the Act for production after the first 10
    years. We also compared royalties as the percentages of gross sales
    revenues for five of the flash plants with royalties as a percentage of
    gross

    sales revenues for two of the binary plants.1 We found that flash plants
    paid royalties from 0.6 to 6.3 percent of gross sales revenues while
    binary plants paid from 0.2 to 2.6 percent of gross sales revenues. It
    appeared to us that each project, whether flash or binary, faces unique
    geological, economic, and engineering situations that can combine to yield
    different percentages of gross sales revenues. In addition, the small
    number of observations and the significant overlap in range of the data
    indicated to us that generalizations about the difference in percentages
    between the two types of plants would be inaccurate.

    To determine the impact of the Act on royalties from direct use of
    geothermal resources, we obtained direct use royalty data from MMS and
    reviewed the calculations on an alternative to the current calculation of
    direct use royalties that appears in the report to the Royalty Policy
    Committee.
    *** End of document. ***