Decision Analysis and

Portfolio
Management
GEOE 530
METU Geological Engineering
Dr. Zeynep Elif Yıldızel
The Lifetime Of A Basin And Succes Ratio

EXPLORATION DEVELOPMENT PRODUCTION

Hydrocarbon
Discovery Economical
Limit

Cummulative
Value
Cummulative
cost

Revenue

Avarage Field Size, mmbo

Years

• There is a decrease with in the amount of volume of

discovered hydrocarbons, since 1970s

• During the decrease in the size of the fields discovered, the

success ratio increases in discoveries

• The frontier opportunities lies within creation of a solution to

technology, economic models and political issues.
CAPEX, OPEX, Cost Oil, Tax, Profit Oil
Main Economic Evaluation Reasons

• Exploration economics- can we find commercially

viable hydrocarbon accumulations?
• Appraisal – ımpact of uncertainties
• Development- regular assessment of remaining field
life
• Late life- aim is to prolong field life and delay
abandonment
• Abandonment- has field really been exhausted
• Acquisition and divestment- portfolio optimization
Major Cash Flows
Cost per Barrel and Break Evens of A Project

• Cost per barrel is important when making technical comparisons between projects
• Cost / bbl= (CAPEX+OPEX)/ production
• PV cost/ bbl= (PV CAPEX+ PV OPEX)/ PV production . This is used for comparing
projects of different sizes
• Break Even occurs when NPV is zero
• PV revenue= oil price x PV production
Recent (before 2014) Upstream Deals

• Before drilling the oil in

2 the rezervoir is
(exploration phase) ~
under 1$/bbl
• After long term
production phase
(development phase)
then oil in the reservoir
$/bbl is >1.5$/bbl
• When you are
confident about your
proven, probable and
contingent resources
then oil in the reservoir
is ~ 2.5$/bbl (This is
3$/bbl in EA)
• After long term
production tests then
the oil in te reservoir is
~10$/%1 WI
$(mm)/%1WI
Sensitivity Analysis
• Typical parameters for sensitivity analysis are
– CAPEX
– OPEX
– Reserves and production forecast
– Delay in first production
– Tax rates
– Level of tax allowance or ring fence issues
– Contract terms
– Oil price
– Inflation
• Sensitivity analysis are not restricted to economical or technical parameters but also
to the potential impact of changing business environment which is usually outside
the control of the company
• Scenario planning involves forecasting of a set of different future political, social and
economic situations
• For a company managing a portfolio of assets, it is important that it arranges these
assets such that in the least favorable scenario the company survives and that in the
most favorable scenario it is positioned to take advantage of the situation
A Field – Scenarios for 300 Mcm

K %50- C %25- A %25 K %50- C %25- A %25

C C

K %50- C %20- A %30 K %50- C %20- A %30

C C

9
Project Screening and Ranking
• Checking the economic performance of a project passes the threshold
• Usually done by IRR and RROR
• Project ranking is necessary to optimize the business when the investor’s
resources are limited and there are more than one project to choose
• After the projects passed the threshold then they are ranked on the basis of
NPV
Business Strategy for E & P Company

Oil
Company

Buy or Merge Bid Rounds

Buy
Companies with Farm out
E&P Aquire E & P
Farm in
Assets E& P Assets
Assets

11
How to Evaluate the Assets

Geology &
Geopgraphy
-Strong geological
expertise
Asset Quality Capability
-Strong experience in the
-Early stage growth plays geographical aspects -Strong operatorship skills
with upside -Development strategy
-geographic proximity
-Easy to market
-Small production fields
-Affordable economic
-Basis for in country value
expansion -Easy to create strong
-Easy to find investor and relationship skills
or loan money from banks -Easy to operate in the
-Technical Security of region
licences - location of management

Targetted
Projects

12
Criteria to be in Targetted Projects

Targetted
Projects

P, C, R
NPV and IRR Reserves
Marketing

$/ bbl

Power

13
Ranking Projects and Portfolio Management

Low Reserve High Reserve

High High CAPEX High CAPEX
High OPEX High OPEX
Duability Scale
Medium

Low Reserve High Reserve

Low CAPEX Low CAPEX
Low

Low OPEX Low OPEX

Low Medium High

Quality Scale

• Ranking projects according to IRR and NPV thresholds

• Decide in what part of the scale company is willing to operate
Oil Business Value Chain

Exploration Transmission Distribution

Production Processing Marketing

UPSTREAM MIDSTREAM DOWNSTREAM

Despite high operational costs, “Upstream Profitability Rules Investment”

Cost Breakdown over Value Chain Profit Breakdown over Value Chain
Agreement Types

Agreement Type IOC NOC

Tax and Royalty All Risk/ All Reward No risk, reward dependent on production
and commodity prices
Production Sharing Agreements Exploration risk/ share of reward Share of Reward

Production Service Contracts No Risk, reward is fixed fee All risk

Joint Ventures Share of risk and reward Share of risk and reward

• Each agreement type has different fiscal regimes

• Each country applying any of these types have different fiscal regimes and laws
• Each country can have different clauses for each specific situation
• Mostly mature countries trying to fully control the business applies production service
contracts
• Most of the countries that are willing to increase investment in oil and gas exploration and
production uses production sharing agreements in order to attract companies with
challenging fiscal terms
• Countries lacking enough production for the investors are using tax and royalty where
government is not involved in at each step, but regulates business environment and grants
concessions.
 Fiscal Regimes

Buy-Back
RSC
(Risk Service Contracts)

Iran model
and
Iran has to
change it;if
she wants
IOCs

Cost oil
All
Contractor Profit Oil
Service fee
Cost oil
Gain Contractor
Profit Oil

Government
Gain
Global Regimes
Interest Areas of Parties in Fiscal Regimes
Global Trend in Regulatory Structure

Sets energy policy

Ministry

120o
Equilteral triangle: all
angles and all edges
are equal to each other

Relation
Risk Area
120o 120o NOC
Regulator
IOC’s

Awards contracts, Conducts

regulates activities commercial business

More countries adopting the “separation of roles” policy for their regulatory structure
Oil Business World

Saudi Malaysia Russia Venezuella Australia

Arabia
Kazakhstan Iran Angola Canada

Turkey
Norway Indonesia
USA
Brazil Algeria United
Mexico Kingdom
 Production Sharing Agreements
• First introduced in Indonesia in 1966
• State
– owns mineral resources
– the right to option to participate in different
stages of E&D process
• Company
– Provides technical and financial services
– Has rights to have share of production in
return of risks carried
– Carries entire exploration risks
– Cost recovery
– Profit oil is shared by company and state
– In case of early entry, better terms for more
risks carried
• Fiscal system is amount of royalty and income tax and
other taxes for corporates in that country,
• signature bonuses either considered cost recovered or
not
• Production bonuses usually not cost recovered
• Domestic market obligation in order to fulfill the local
market needs,
• contract duration length for exploration and
production until abandonment
• Work programme seismic, wells, financial and
employments business creation
• State participation back in rights (%5-%50+) carried
through exploration and development phase
• Fixed or sliding scales royalty, cost oil, profit oil and
production bonuses and R factors
R-Factors

• Usually R Factor is a formula that prevents the company to take all the profit production
• When R=1 then this means the company recovered all the expenditures so the host
government increases the taxes and gets more profit oil to themselves
• When R<1 then the companies cash flows can either be negative or not enough to
compensate the expenditures so the host government helps the contractor to make cost
recovery easily so the host government is getting low taxes and giving more from the profit
oil to the company.
 IOC vs NOC Net Cash Flow

Profit Share Breakdown

• Usually more than %60 of the contract goes for the government
• There is a contract with 98% state-%2 company
• Always there is a ceiling for cost recovery
• After profit oil company pays all the taxes applicable in that country
Tax and Royalty System
Tax and Royalty
• Royalty is payable from start of the production
– Royalty= royalty rate % x Gross Production
• Royalty, opex, capital allowance can be used for tax deductions
– Taxable income = gross revenue- tax deductions
– Tax=taxable income x tax rate%
– Annual cash flow= revenue-royalty-capex-opex-taxes
• Other corporate taxes are paid due to the laws and regulations of the host country
Production Service Contracts
• Signature bonuses usually not cost recoverable
• Company is independent from the production, she can only take a fixed fee for each
barrel produced
• The fee for barrel can be formulated with R Factor in order not to make the company
earn much from the highest production especially during plateau production
• Costs are recoverable
• Government holds the license and only production of the license is granted to the
company
Contract Types
Production Service
Contracts
• Company doesn’t own the
resources underground
• Company can not find funding
for operations
• There is no transfer of rights
• Company earns a fee for
every barrel they produce
• Company cannot sell the oil
produced themselves
• Company can reimburse the
predefined petroleum costs
• Company can be
consortium with any private
company
• Company can not sell her
portions
• Company need huge cash
amount and relaxed cash flow
• In practice payments depend
on Project performance or
profitability
Production Sharing Buy Back Model
Tax and Royalty
Contracts Risk Service Contracts
• Company owns the resources • Company holds a licence • Company doesn't own the
underground • Company has right to perform resources underground
• Company can find funding for exploration operation • Company can not find funding's
operations themselves for operations
• Transfer of rights are available • Transfers of rights are • There is no transfers of rights
• Company earns the profit of the oil available • Company holds exploration risk
they produced • Company can sell the at their own risk
• Company can sell the oil produced produced oil by themselves • Company defines an IRR and
themselves • Company pays tax and royalty paid back due to this
• Company can reimburse the to the host government predefined IRR
petroleum costs • Company owns the resources • State can dismiss the company
in • Company can be in partnership with underground at any point with a predefined
NOC and/or any other private • Company doesn't need to IRR
company make a partnership with NOC • State can allow the company to
• Company has right to sell her own produce the field by a fee per
portion or part of a portion barrel after a discovery
• Company carries the exploration
risks at their sole risk; but when a
discovery made all the petroleum
costs are reimbursable
• Company can obliged to carry the
Host Government interest and the
back in rights for HG
• Can lead double taxation
• Royalty is seen an ensuring
immediate cash flow from first
production to State before IOCs cost
recovered, where cost recovery cap
also achieves same goal
Risks in a Contract
• Surface Risks
– External factors affecting execution of work under a licence excluding sub surface risks
• Country Risk
– Different onshore and/or offshore
– Environmental
– Security
• Social and Environmental issues
• Contractual issues
• State behavior
– Robust license agreement
• Contractual Issues
– Uncertainty, opacity in government legislation and regulations, contracts and agreements
– Government limitations to Access to data
– Global social pressure state behavior (Sudan, Iran,Venezuela, )
– Government role in operations
– Risks in dealing with local vs international JV partners
– Expropriation threat or reality
– Government technical data not available
– State preferential rights
– Operator uncertainty, When does the NOC operates? Costs, accountability
– Acceptance of international laws especially for arbitration
– International licence struggle due to un attainable state regulation
– Government role in transactions and transfer of rights, costs, approvals
Main Aspects of Energy Business Chain

POWER
UPSTREAM MIDSTREAM DOWNSTREAM
GENERATION

• Exploration • Pipeline • Refining • Industry

• Production • Trucking • LNG • Domestic
• Shipping • Retail sales
• LNG
terminals

We need to secure We need to be gas We have enough

We need to have more
strategic reserves hub as our country power generation
LNG terminals and
outside country by underground gas is at the cross roads today but we have
our national and storage facilities for of supply and to secure supply
private companies our supply security demand for the future needs
Risk Management in Energy

Funding Risk
Management

Teknical Risk
Management
Relation Risk
Management
Transportation
PIPELINES
•Transportation of oil and gas
through a pipe with pumping
stations responsible for to maintain
the pressure in the pipe needed for
the transport of the oil or gas
•Pipelines can cross deserts, forests,
cryal zones and seas
•Pipelines cross countries so to
construct a pipeline many contracts
and host government agreements
are urgent
•The hardest and major task in
pipeline is to get the contracts and
agreements done before technical
work; as so many partners are
included in
•You can not change destination, the
selling point and the buying point is
fixed and limited with the supply
around the starting point and
demand by the end point.
•Total of 3.5 million km of pipeline in
120 countries of the World (2014)
•190.905 km of pipeline is planned
and under construction
SHIPPING
•Transporting of oil and on ships
designed for the bulk transfer of oil
•Crude tankers move large amounts
of crude oils to refineries
•Crude tankers were being used
since 1863, of course a lot in design
had been changed
•Average life cycle for an crude
tanker is 10 years and costs below
or above hundred million $
according to DWT
•You have to clean the tanker each
time you change the crude location
•You are free for the route. You don’t
have to carry the Cargo to the same
direction every time. You can
change buyer and seller
destinations
LNG
• Natural gas is carried that has been
converted to liquid form. You can
have 1/600th volume of natural gas in
order to easily store and transport
• It can be transported by spherically
designed cryogenic sea vessels or
cryogenic road tankers
• You need to have a liquifaction and
regassifaction surface facilities at the
selling and buying points. So you are
not as much as free on the destination
as shipping but you are more free
than pipelines on destination.
• From the destination to the market
after regassification a pipeline is
needed to the end buyer
• This is the only way to carry natural
gas via sea transport.
• It is most feasible if you have a gas
field remote from the land and also
remote from the markets
• There are 15 LNG exporting countries
and 17LNG importing countries on
World
• 6 new LNG plants will come in to
market
• There are many contracts and
agreements running in one LNG
project