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What does a mining/O&G company's NPV mean?


muscleman
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I am really confused about this. I can't find an answer. Please help me. I appreciate it!

Does NPV mean the net present value of all future net income, or does it mean the net present value of all future revenue? I find that a lot of mining and O&G companies are touting the discount of NPV to their EV, but it is unclear what NPV actually means, and most companies use 5% or even smaller discount rate while their borrowing cost is at 7-10%. ::)

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I'm not sure about mining, but I assume its similar.  Oil and gas exploration and production companies (E&P) calculate an NPV of proven and probable reserves in the ground (future projected cash flows).  Not sure how they determine the discount rate.

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O&G E&P usually reports PV10 value where 10 means that they are discounting with 10% for NPV.

 

Here is a very crude, pun intended, introduction: There is oil/gas in place (look up OIP) which represents the total estimated amount of oil in the field/formation but only part of it can be recovered (Recovery Factor) which is the actual reserve. This can be summarized as Reserve = OIP * RF. The trick is to figure out what method is used to estimate OIP (materials balance vs. volumetric), what assumptions are being carried (each field will have its own set due to geology), etc. The same applies to RF. Once the reserve number is obtained, multiply it by price. That gets you to PV. You can then do PV10 by computing NPV with 10% as a discount. Frequently, you'll do price sensitivity analysis (i.e., move the price up down 10/20/30%).

 

PV10 is mandated by the SEC. Here is a good starting point to understand why it was adopted:

https://www.sec.gov/info/smallbus/secg/oilgasreporting-secg.htm

 

This is a pretty decent introduction on oil reserve estimation (slide 9 gives you an idea of how huge of an estimate PV can really be)

 

This is a decent introduction on pricing NPV and Sensitivity

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The meaning is very precise.

P2P NPV(10) is the Net Present Value of the future net cash flow of the proven and probable reserve, at the point-in-time price deck specified, at the specified 10% discount rate. It assumes the reserve is put into immediate runoff, the o/g is extracted at the proven (mostly last 12 months) historic cost/bbl, and is the un-hedged discounted cash flow at the well head.

 

P2P NPV(10) is a requirement of all listed o/g companies, and is an independent appraisal of the NPV of the reserve, prepared by qualified reservoir engineers familiar with the geology of the various reservoirs being assessed. No different to the Auditors Report confirming that year-end numbers are fairly presented.

 

10% is the industry standard, as is the price deck. As a result, all Reserve Reports in the same year are directly comparable.

The cowboys bitch is that it makes poor operation way too visible. Hence everyone screaming that the discount rate is too high, and the price deck is too optimistic/conservative - to avoid anyone looking too closely at their sh1te rock, and low inventory of high-quality drill targets.

 

SD

 

 

 

   

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O&G E&P usually reports PV10 value where 10 means that they are discounting with 10% for NPV.

 

Here is a very crude, pun intended, introduction: There is oil/gas in place (look up OIP) which represents the total estimated amount of oil in the field/formation but only part of it can be recovered (Recovery Factor) which is the actual reserve. This can be summarized as Reserve = OIP * RF. The trick is to figure out what method is used to estimate OIP (materials balance vs. volumetric), what assumptions are being carried (each field will have its own set due to geology), etc. The same applies to RF. Once the reserve number is obtained, multiply it by price. That gets you to PV. You can then do PV10 by computing NPV with 10% as a discount. Frequently, you'll do price sensitivity analysis (i.e., move the price up down 10/20/30%).

 

PV10 is mandated by the SEC. Here is a good starting point to understand why it was adopted:

https://www.sec.gov/info/smallbus/secg/oilgasreporting-secg.htm

 

This is a pretty decent introduction on oil reserve estimation (slide 9 gives you an idea of how huge of an estimate PV can really be)

 

This is a decent introduction on pricing NPV and Sensitivity

 

Most proved reserves would be done using a decline curve analysis (P/Z for gas). Volumetric analysis should only be used (imo) where there isnt production data. And if you dont have production data a pretty healthy dose of conservatism should be applied when assigning proved reserves. Material balance is better, but recovery factor based analyses are no substitute for a proper decline, not least because they dont provide a production rate forecast (at least not directly). And having the economic limit of a well be explicitly calculated in your reserves is important in the current price regime.

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