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OG 405
Petroleum Project Evaluation
&
Economics
LECTURE 3
PROJECT CASHFLOWS AND MODELING
BY: Fulmence Kaborogo(MSc.PE)
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Project Cashflows
❑Every capital investment project will typically have
cash outflows (disbursements) and cash inflows
(receipts).
─Disbursements are costs of cash expended per year
required for the operations i.e. capital expenditure
(CAPEX), operating expenditure (OPEX),
abandonment costs, production taxes, and sunk
costs.
─Receipts are all revenue from sales of crude and
natural gas.
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Project Cashflows Diagram
❑Typically used for presenting project cash outflows and
inflows at the end of each year over the project’s entire
period.
─cash receipts (positive) are shown as upward-pointing
arrows while;
─ the cash disbursements (negative) are shown as
downward-pointing arrows on the diagram.
─On the diagram, the beginning of Year 1 is considered
time zero at which the capital investment (expenditure)
was spent.
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A Typical Cash-flow Diagram.
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Conventional vs Non-conventional
Cash flows
Conventional Cash Flow (CF) Patterns
Today 1 2 3 4 5
| | | | | |
| | | | | |
–CF +CF +CF +CF +CF +CF
–CF –CF +CF +CF +CF +CF
–CF +CF +CF +CF +CF
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Conventional vs Non-conventional
Cash flows
Nonconventional Cash Flow Patterns
Today 1 2 3 4 5
| | | | | |
| | | | | |
–CF +CF +CF +CF +CF –CF
–CF +CF –CF +CF +CF +CF
–CF –CF +CF +CF +CF –CF
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Cash-Flow Models
❑In reaching the investment decisions for projects, one
must develop a means to determine the value of the
alternatives.
❑ Usually, cash flow models are built to thoroughly
represent the dynamics of the available alternatives and
their behavior.
─It involves gathering data about each investment
alternative through estimation and forecasting of
relevant variables (i.e. cash inflow and outlays) in the
future.
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Cash-Flow Models
─Then, combining the cashflow forecast into
profitability measures (decision criteria) for each
alternative.
─ Finally, making the final decision based on the
calculated criteria and judgment on the non-
quantified information.
Forecasting cash flow is the foundation
of almost all economic analyses carried
out for investment decision-making
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Cash-Flow Models
❑Usually, forecasting cash flow is the most important
step—and the most difficult, especially when it is
about the future.
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Cash-Flow Models
❑The great thing is that in this course ‘’we put the
cookies on the bottom shelf for you’’.
❑Means, provides the tools and practical tips to
generate realistic estimates of future project cash flows.
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A typical Cash Flow Model
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Required Data for Cash-Flow Forecasting
❑Various basic data are required including;
─Reservoir data for generating production forecasts and
the wells required to achieve this forecast.
─Drilling data for generating the drilling cost forecast of
the wells required for the project.
─Identified facilities required for the project, and
estimated the cost.
─Price elasticity, advertising effects, and the state of
economy forecast product prices and fiscal requirements
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Cash-Flow Forecasting: Challenges.
What will happen on cashflow under each situation?
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Cash-Flow Modelling: Approaches.
❖Two ways are used for cash flow modeling;
❑Deterministic decision approach.
─Assumes the results and implications of investment
decisions are known at the time of the decision,
meaning the future is known and it is known with
certainty.
─The variables are treated as if they will result in only
one specified outcome.
─Single-value input is used to calculate through the
model to result in a single-value outcome.
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Conventional Deterministic Approach
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Cash-Flow Modelling: Approaches.
❖Two ways are used for cash flow modeling;
❑Probabilistic decision approach.
─In reality, different investment options have multiple
possible outcomes.
─The range of possible outcomes is significant enough to
warrant attention to the decision
─In this approach, probability distributions are assigned
to uncertain events and variables, to explicitly
incorporate uncertainty.
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Probabilistic Decision Approach.
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A Decision Analysis Approach: Best Practice.
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Cash-in-Flow Forecasting.
❑Cash inflows mainly come from the oil and gas
sales which is dependent on the amount of gas oil/and
gas produced and the product market price.
❑ The production forecast comes from petroleum
engineers, together with geologists and geophysicists.
❑While prices come from economists and the marketing
department.
❑ Several methods are used to forecast future oil and/or
gas production in the field (All assumed to have been
studied prior to this course)
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Production Forecasting Methods
─Volumetric calculations
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Production Forecasting Methods
─Historical production and reservoir pressure
performance analysis (decline curve analysis)
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Production Forecasting Methods
─Material balance calculations.
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Production Forecasting Methods
─Reservoir simulation.
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Oil and gas Pricing
❑ Prices of crude oils in international trade are
universally quoted in U.S. dollars per API barrel at
Standard conditions (so-called petrodollar).
❑Cruse oil are priced based on the quality i.e. their API
gravity and then the sulfur content.
─ The differences is influenced by the geological
process that produces crude oil.
─ Generally some of crude oils are better than
others.
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Classifying the Crude Oils
❑ Based on weight:
─ light oils are 35° to 45°
─Medium oils 25° to 35° range
─heavy oils below 25°
─Extra heavy below 10°
❑The lighter crudes receive a higher price as compared
to the heavier crude, because they tend to have more
gasoline (highly demanded products) by volume.
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Classifying the Crude Oils
❑ Based on the Sulphur content, the crude is classified
as sweet & sour;
─Sweet crude has low Sulphur content (< 0.5%/w) while
the sour has high in sulfur content (> 1.0%/weight).
─Sulfur content tells the refiner the amount of basic
impurity in the crude oil, consequently,
─high-sulfur crude oil is lower quality — therefore
less expensive — than low-sulfur crude oils.
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Worlds’ Selected Crude Oils
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Worlds’ Selected Crude Oils
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Spot Crude oil Pricing
❑ The crude oil prices are always negotiated on the
differential between the price to be paid and the
price of the marker crude used.
❑ Brent, WTI, and Dubai are the three principal crude
used as reference for spot crude oil pricing.
❑ The prices of these marker crudes are published in
standard price lists: Platts Oil Gram Journal, CME
group, etc.
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Spot Crude oil Pricing
❑ The price indexing considers quality, location, and time
differences of the field and loading port between the
marker and crude.
❑ The equivalent price of a crude equals the price of a
marker plus the adjustment factor.
─Brent is used for Europe, Africa, and the CIS;
─WTI is adopted for Westernsphere;
─While Dubai is currently used for Asia and the Middle
East. Brent
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Spot Crude oil Pricing
❑ The price indexing considers quality, location, and time
differences of the field and loading port between the
marker and crude.
❑ The equivalent price of a crude equals the price of a
marker plus the adjustment factor.
─Brent is used for Europe, Africa, and the CIS;
─WTI is adopted for Westernsphere;
─While Dubai is currently used for Asia and the Middle
East. Brent
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Spot Crude oil Pricing
❑ Generally; a benchmark price crudes with gravity
between 40 and 45 °API, having sulfur content of 0.5% or
less.
─A typical quality deduction by a refiner is then $0.15 per °API for
crudes between 30 and 40 °API gravity.
─For crudes below 30 °API, the deduction is $3.0 plus $0.10 per
°API less than 30 °API.
─For crudes with gravity greater than 45 °API, the price is reduced
by $0.075 per °API.
─While, the sulfur deduction is $0.05 per 0.1% sulfur over 0.5%
sulfur, with no sulfur penalty for crudes of less than 30 °API.
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Spot Crude oil Pricing: Example
❑ Suppose a Rotterdam refinery is able to buy Brent for
$18/bbl FOB Sullom Voe with a freight cost of
$0.40/bbl.
❑ A higher quality crude is produced in West Africa and
the refiner estimates that the quality advantage is
worth $0.50/bbl to him.
❑ The freight cost in West Africa/Rotterdam is
$0.80/bbl.
❑ Estimate the FOB price of West African Crude.
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Spot Crude oil Pricing: Example
❑ If dated Brent on 1st September (loading date in
West Africa): $18.00/ bbl and
❑ Dated Brent on 5th September (date the West
African crude is available in $17.70/ bbl.
❑ Estimate the FOB price of West African crude at the
time of delivery in Europe.
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Crude oil Prices History
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What drives the petroleum prices??:
❑ As global consumption tends to increase results in
high prices for petroleum products, matching the
demand.
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Oil Prices Determining Factors
❑ Generally, oil price volatility will exist for reasons such as;
─excess oil production capacity available in the world (i.e., supply
is more than the demand).
─changes in the overall state of the global economy (recession
versus growth) induced by pandemic and disasters e.g., Covid-
19
─new exploration and the success of exploration activities
─production in non-OPEC and political stability of OPEC countries
─rise of alternate fuels and unconventional resources.
─Geopolitics and induced panic from fear of supply cutoffs
(OPECs)
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Gas Pricing
❑ The price of natural gas is based on $ per million
BTU.
❑ One million BTUs are taken as 1000 Scf (1 Mscf) of
1000 BTU gas.
❑ If the price of a certain gas is $2/MMBTU and the
gas is 1200 BTU, then the price translates into $2 "
1.2 = $2.4 per Mcf.
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Capital Expenditures (CAPEX)
❑They are one-off costs, usually incurred at the
beginning of a project, often several years before any
revenue is obtained
─typically consists of Geological and geophysical costs
─Drilling costs; tankers; offshore platform construction
and installation,
─Process facilities; wellheads, flowlines, and trunk lines
to transport oil and gas;
─supply bases; camps and accommodation; storage tanks
or vessels;
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Capital Expenditures (CAPEX)
❑The capital costs may also occur during the economic
life of a project, for example:
─Recompletion of wells into another formation.
─Sidetracking an existing well with a horizontal well.
─Installing artificial lift facilities if the wells were initially
on natural flow.
─Major upgrading/replacement of existing facilities.
─Installing facilities for secondary recovery or enhanced
oil recovery (EOR), etc.
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Estimation Approaches for CAPEX.
❑Several techniques are used; including
─ approaching various contractors for quotation, or
─compare your current requirements with some of the
analogous surveys conducted in the past.
─power law and sizing model for equipment cost
estimating.
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Operating Expenditure (OPEX)
❑They occur periodically and are necessary for the
day-to-day operations of the field.
─The operating costs typically consist of fixed costs,
─variable cost per unit of production,
─ maintenance of facilities and workover of wells,
─and overheads.
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Operating Expenditure (OPEX)
❑Usually;
─ Production Costs—35% of total OPEX
─Evacuation Costs—23% of total OPEX
─Insurance Premium—21% of total OPEX
─Maintenance Costs—17% of total OPEX
─Overhead—4% of total OPEX
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Estimation Approaches for OPEX.
❑Several approaches are used;
─ use of actual historical unit OPEX in $/barrel.
─Operating cost data generally must be developed
from historical records for the project or from
analogous operations.
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Estimation Approaches for OPEX.
❑Several approaches are used;
─Rule of thumb for most of the field;
• 5% of engineering CAPEX
• $1/barrel of oil production for offshore and
$0.60/barrel for onshore field
• workover 10% of the wells every year, each
workover on average costs $130,000 for offshore
and $22,000 for onshore wells.
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Abandonment Costs and Sunk Costs
❑Abandonment costs are a special category of
CAPEX
─they are associated with the environmentally safe
abandonment of the wells and facilities at the end
economic life of the project.
─they may be as high as the original development
costs in real terms.
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Abandonment Costs and Sunk Costs
❑Sunk costs are costs incurred before the first period of
a cash-flow projection.
─They are usually historic costs—for instance, previous
exploration costs incurred before a development being
analyzed gets underway.
─We cannot do anything about sunk cost, therefore not
considered in investment decisions.
─By definition, they have already been spent and
therefore cannot directly affect future decisions in a
financial sense.
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Opportunity Costs
❑Defined as the potential benefit lost or sacrificed
when the choice of one course of action requires
giving up an alternative course of action.
─When estimating the cash flow of a proposed capital
investment project, the opportunity or alternative
costs, and not just the direct outlay costs, must be
taken into consideration.
─In the absence of an alternative use, (i.e., opportunity
cost is zero); no cost should be charged to the new
project.
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The Accuracy of the Estimates
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THE END
