exploration economics - ccop · exploration economics... a petroleum exploration project ... an...

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August 2004 3rd PPM Philippines Case Study Workshop 1

Exploration Economicsby Mari Kvaal


Exploration Economics

Major gamble.Discovery of an unexpectedly large fieldOr no oil or gas at all

Sequential decisions.Exploration investments are relatively small considered to further investment in case of success.Investments without further commitments if failure

…characteristics

2


DISCOVERY

PDO

DEVELOPM. DRILLING

PROD. STARTLICENSING

Flexibility

UncertaintyInformation

(reservoir, resources)

Exploration Economics…characteristics – options and sequential decisions

Time


Information is revealed over time – options and sequential decisionsDecision trees focus on critical uncertainties and decisions that reveal uncertainties

Exploration Economics…characteristics – decision tree

appraisal

development

too small

dry well

explorationdrilling

20%

80%

50%

50%

3


Start with the decision node to the right.For every outcome - calculate the expected valueFor every decision node - choose the branch with highest expected value

…Decision TreeExploration Economics


Exploration and Appraisal costs

Drill a wildcat

Yes

No

Developthe field Net cash flow

of a fielddevelpment

Explorationcosts

Success

Failure

0,09

0,91

0,80

0,20

Yes

No

100 MM US$

2,8 MM US$

2,4 MM US$


4


Exploration Economics...

A petroleum exploration project

A field development decisionCash flow elements and uncertaintyDecision criteria: Net present value (NPV)

An exploration decisionNew cash flow elements and uncertaintiesDecision criteria: Expected Monetary Value (EMV)


Field development decision

Cash flow elements and uncertainty

Production strategy

?

??

time

Oil price

Development conseptCapexOpex

5


0

5

10

15

20

25

30

35

40

Balder Varg Jotun OsebergSør

OsebergØst

Visund Åsgard

Bill

ion

NO

K

60%23% 20%

10%8%

15%

22%

Source: MIE

Profitability and the riskTechnological uncertainty

…costs overruns in Norwegian Projects 1998


…to calculate the NPV

...where:

Vt - the net income in year t r - discount rate

N - total numbers of years (project duration)

V1

(1 + r)1

V2

(1 + r)2

VN

(1 + r)N= + + ...... +V0 +

Vt

(1 + r)t( )∑t = 0

N

NPV =

Cash inflow (revenue)

Cash outflow (expenditures)


6


Drill a wildcat

Yes

No

Developthe field Net cash flow

of a fielddevelpment

Exploration and Appraisal costs

Explorationcosts

Success

Failure

0,09

0,91

0,80

0,20

Yes

No

100 MM US$

- 2,8 MM US$

2,4 MM US$



Evaluation of petroleum projects Decision making method

Base case Inflows and outflowsNPV and IRR

Sensitivity analysisSpider diagram”What if” - analysis

Scenario analysisProbabilistic analysis

Decision tree

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Sensitivity analysis

Petroleum pricesAlternative production profilesInvestment estimatesProduction start-up


NPV

$/bbl 8 10 15 20

0 137 270 410

NPVMM $

$/bbl5 15 200

150

300

450


Sensitivity analysis – an example

By calculating the NPV with different price assumptions you can make this graph. The graph also shows the price that gives NPV equal to zero –the break-even price

10

8


NPV(MM $)

OpexMM $

8 16 240

150

300

450


Sensitivity analysis – an example

This operation can be done for every assumption. These graphs gives us important information of the project


However, it is not so easy to get an impression of what factors that are most important for the projects profitability.Using spider plot can sum up all the other graphs in one single graph.


Sensitivity analysis – Spider plot

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NPV (mill $)

% change from base case0 30- 10- 25

Oil-price

Production profile

Opex

Start of production




A falling curve - the profitability reduces (increased opex and postponed start of production)A rising curve - the profitability improves (higher oil price and higher production)The steeper the curve the more sensitive is the profitability of the project to changes. As you can see the oil price is the factor that is most critical for the profitability, while changes in opex will influence less.



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What-if analysis – assessments of changes in inputMost used techniqueEasily interpretedEasily to visualizeEasily understood

MethodOne factor at a time approachSpider plots

These analysis don’t take into account the probability of the different changes

Sensitivity analysis



Scenario analysis

The effect on NPV due to changes in input variables and parameters.The main difference to sensitivity analysis is that in scenario analysis a combination of changes in input variables and parameters is considered.Restricted to those combinations that are regarded as being realistic (plausible and consistence).

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Scenario analysis – an example Scenario Factor value Results (NPV)Base case Oil price 18$

5 years lead time from start investment to start production

600 millions US$

Optimistic Oil price, production, OPEX increase by 10%4,5 years lead time from start investment to start production

920 millions US$

Pessimistic Oil price, production decrease 15%OPEX decrease by 10%6 years lead time from start investment to start production

-230 millions US$


Scenario analysis and sensitivity analysis illustrates the effect of the ”worst case”. How robust is the project to ”worst case”?Could we improve any assumptions?How can we build in any flexibility to make the project more robust to the ”worst case”?

None of these methods consider the possibilities of different outcomes of the input variables and parameters.


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It is not necessary and not profitable to decide everything at time zero. In many projects, where the uncertainty is revealed over time, the decisions can be taken in sequence over time.

DISCOVERY

PDO

DEVELOPM. DRILLING

PROD. STARTLICENSING

Flexibility

UncertaintyInformation

(reservoir, resources)


…sequential decisions


Take into account the probability of different outcomes of the input variables and parametersTake into account the dynamic process involved in investment selection and management.


Probabilistic methods and Decision trees

13



Sensitivity analysisScenario analysisProbabilistic analysisDecision criteria – NPV

NPV > 0

Go ahead with the investment

…a summary



New cash flow elements:Exploration costs

Seismic acquisitionWild-cat wellAppraisal wells

More uncertainty:Success vs failureThe resource size if success

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Field development NPV has to include the exploration costsThe development NPV must be discounted to the date for the exploration decisionConsequently the NPV is sensitive to the lead time from discovery to development



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Troll II

Gyda Veslefrikk

Sleipner Øst

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Petr. res 9612067

Year of discovery

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om d

isco

very

to p

rodu

ctio

n

Profitability and the riskUncertainty in time profile

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….exploration costs and lead time - effect on NPV Assume 320 mill $ in exploration costs

Pre Development Pre explorationLead time 5 years

Pre explorationLead time 10 years

NPV (7%) 2.131 billion $ 1.120 billion $ 713 billion $



New cash flow elements:Exploration costs

Seismic acquisitionWild-cat wellAppraisal wells

More uncertainty:Success vs failureThe resource size if success

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EMV = (Reward x P) - (Risk Capital x (1-P))

DRILL

Yes

No

Find

No

Yes

(1-P)

P

Risk Capital(Exploration costs)

RewardNPV (field dev. minusexploration & appraisalcosts)

Exploration Economics…dicision criteria – Expected Monetary Value


Exploration Economics…probability of success

The Risk Assessment estimates the probability of success

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Resource size

Probability

Exploration Economics…resource assessment

p90

p10

MEDIAN (p50)MODE (Most likely)

MEAN (average – ”centre of gravity”)


EMV = (Reward x P) - (Risk Capital x (1-P))

DRILL

Yes

No

Find

No

Yes

(1-P)

P

Risk Capital(Exploration costs)

RewardNPV (field dev. minusexploration & appraisalcosts)

Exploration Economics…dicision criteria – Expected Monetary Value

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Two different approaches to calculate the EMV:

Expected resource sizeResource distribution

…Expected Monetary Value


Resource size

Probability

…resource assessment

p90

p10

MEDIAN (p50)MODE (Most likely)

MEAN (average – ”centre of gravity”)


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In the simplest model we use E(R) to represent the full range of possible discovery volumesIf oil is present, the mean recoverable amount is 48 million bbl.

…expected resource size - an example


E(R)= 48 million bbls

Resource size

Probability

E(R)


DRILL

Yes

No

Find

No

Yes

0.25

0.756 MM US$

- 12 MM US$

EMV = (0.75 * 6) - (0.25 *12) = 1.5 MM US$


…expected resource size - an example

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The minimum economic resource (MER)- a minimum size below which a discovery

would not be worth developing at all.

Assume a linear relationship between the size of a discovery and the NPV of development.


…expected resource size


-40

0

40

80

120

160

0 50 100 150 200

Discovery size, MMbbl

NP

V M

M U

S$ MER = 25 MMbbl


…minimum economic reserve

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Resource size

Probability

E(R)=48 MM bblMER

Resource size

Probability

E(R*)=69 MM bbl

The minimum economic resource (MER) is 25 MM bbl.

If oil is present the probability to find resource outcome higher than MER is 63% (the probability of commerciality).If commerciality the mean resource outcome is 69 MM bbl.



DRILL

Yes

No

Find

No

Yes

0,25

0,75

(34-12) MM US$

- 12 MM US$

EMV = 0,75*(0,63*22-0,37*12) - (0.25 *12) = 4 MM US$



Yes0,63

No0,37- 12 MM US$

Develop

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The increase represents the value of not being obliged to develop non-economic discoveries.




We improve the analysis by considering the whole resource distribution.

Minimum economic reserveEconomy of scale

…Expected Monetary Value…resource distribution

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Three-point distributionMonte Carlo simulation


…economy of scale


Drill

Success

Failure

415

83

16

0,47

0,53

0,3

0,4

0,3

40 MM US$

40 MM US$

30 MM US$-12 MM US$


…economy of scale - three-points distribution

EMV = 0.47(0,3*40+0,4*40+0,3*30) - (0.53 *12) = 11 MM US$

Develop

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…Monte Carlo Simulation

Reserve distributions

Production forecast

Costs

Economics

Geoscientist

Reservoir engineers

Engineers

Economists



…Monte Carlo Simulation

It takes into account the probability distribution of the values for the input variablesPresence of uncertainty in many variables at the same timeThe parameters can be estimated from historical dataIt takes into account correlation between variables

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Major gambleSequential decisionsNew cash flow elementsDecision criteria – EMVEMV>0Go ahead with the investment!

…a summary

exploration economics - ccop · exploration economics... a petroleum exploration project ... an...

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