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Economist's Corner - Exploring the financial roadmap of an independent’s asset. Finance theory is based on a very simple principle: Reward is a function of risk. In other words, when comparing two investments—two “assets”—the riskier one should serve a higher return (yield) than the other. A fair and efficient market is, by definition, a market that serves an adequate level of return for a given level of risk. The reality of finance is obviously somewhat different, and even though we understand the definition of a transparent and efficient market, we still have not witnessed a pure and perfect market. This is probably where finance and geology meet: Neither is a pure science. Although we all know our stated equations, we struggle in our everyday job to approach the perfect system (be it a financial or a hydrocarbon system). Even though risk/reward theory can be challenged (as evidenced by the abundant number of academic papers addressing the inefficiency of the market), it remains a powerful paradigm to understanding the basics of finance, how funding flows into the oil and gas business, and ultimately how money is made available to companies exploring, appraising, and developing oil and gas assets.
Abstract This paper presents an examination of fair market value concepts as they pertain to producing petroleum properties. Conventional producing petroleum properties. Conventional petroleum economic theories of fair market petroleum economic theories of fair market value are examined in light of recent work on the market value of long-life reserves. Their work is expanded to show that sellers rely on comparable sales data for estimating FMV. Both results are used to suggest that current practices over-emphasize the discounted cash practices over-emphasize the discounted cash flow approach to estimating fair market value. Introduction The term "fair market value" is used by many petroleum economists as though it were an engineering concept with precise mathematical derivation and universally recognized definition. Some have even gone so far as to equate the determination of fair market value (FMV) to principles of engineering. In reality, however, economic markets are so complex they usually defy formulaic estimates or predictions. Traditional petroleum economic approaches to the determination of FMV have come under increasing scrutiny. Diggle and David observed in 1987 that oil and gas properties were selling at prices that could properties were selling at prices that could not be explained by most conventional FMV approaches. David and Hickman found similar results in 1990. In a 1991 article, Williams argued that engineers and petroleum economists were confusing the determination of value for investment purposes with a determination of an underlying economic fair market value. David and Hickman similarly concluded that petroleum economists have unnecessarily canonized a discounted cash flow analysis to FMV. This paper begins with a review of traditional practices for estimating. Concerns regarding the appropriateness of these practices are then discussed, followed by a presentation of data-suggesting that sellers of producing properties are typically disinclined to accept properties are typically disinclined to accept traditional petroleum economic valuation approaches. P. 297
- North America > United States > Massachusetts (0.28)
- North America > United States > Colorado (0.28)
- Energy > Oil & Gas > Upstream (1.00)
- Banking & Finance > Trading (1.00)
Every professional group in American life seeks to find rules and formulaeby which correct decisions can be made easily. Any schoolboy likes to be ableto look in the back of the book for the answers to his problems - at least, forthe tough ones. There are no answers in the back of the investor's book; nofoolproof rules to put money to work in any industry, particularly in thedynamic oil industry, in order to achieve the goals desired by "the typicalAmerican investor." We define "the typical American investor" as one who wantsto buy something that has the strength of a Government bond; that yields 10 percent; and that will, at the very least, double in price within six months andone day. Sometime ago a series of valuation reports were prepared for my firm. Theyhad been prepared for investment guidance a a sufficient number of yearspreviously to permit their conclusions to be tested in the market place. It wasdisillusioning to find no important relationship between the conclusions ofthese valuation reports and the subsequent market performance of the commonstocks involved. In fact, one of the issues looked upon with the greatest favorbecause its market price bore an unusually low ratio of about 30 per cent toits then appraised value has had over the years, since the reports wereprepared, one of the smallest price gains of any of the major oil issues. It istoday selling for about 40 per cent of its appraised value. Of course, theissue's appraised value has increased along with all values in the industry, particularly in the post war period of inflation. This stock entered thisperiod with an abnormally low ratio between market price and appraised value, and this low ratio has continued without making it a good purchase at anytime.
- Energy > Oil & Gas > Upstream (1.00)
- Banking & Finance > Trading (1.00)
- North America > United States > South Dakota > Williston Basin (0.99)
- North America > United States > North Dakota > Williston Basin (0.99)
- North America > United States > Montana > Williston Basin (0.99)
Introduction Three years ago the program of the Petroleum Branch of the AIME included one session on the general subject of petroleum valuation and economics. The program of the current meeting includes few subjects outside of this field. What has happened in this short period to change the emphasis? Has it been that the interim merely brought overdue recognition to the importance of' the subject? Or have trends and events within the industry combined during this short period to give increasing importance to petroleum economics and, in particular, to the economics of exploration and production? We believe the latter to be the case. When your representative extended an invitation to speak to you today he suggested that we again talk about the use of valuation reports in making investment decisions. We replied that we doubted that we had anything new to say on the subject. When pressed for a title of the talk before preparation of the paper had begun, we chose "An Oil Investor Looks at 1956" on the theory that the title was sufficiently broad to permit us to include any subject we wished. But we shall not exercise this open-ended option. We shall restrict our comments to subjects important to the owner of oil securities —his problems, his triumphs and his frustrations. Problems of the Oil Investor Consider the oil investor. His position is the end result of a host of decisions made by other men, few of whom can be personally known to him. Yet somehow — by logic, by hunch or by accepting the views of others — he must formulate a view on a matter more important to him than any other. He must evaluate management in a field where ratio analysis of financial statements is less likely to give him the answer than in a manufacturing enterprise. More than ever before, he must consider the general business outlook while making investment decisions. Heretofore there was ample historical precedent to assume that oil unit consumption would suffer little in a period of deflation.
- Energy > Oil & Gas > Upstream (1.00)
- Energy > Oil & Gas > Downstream (1.00)
- Banking & Finance > Trading (1.00)
Abstract The discounted-cash-flow method has been used for years in the field of finance and banking. It has been gaining stature for several years in the money management for certain industries, and the oil and gas industry is rapidly recognizing its merit for choosing investment alternatives. The method is suggested as a measure of market value because it is conceptually realistic and suffers from none of the limitations that the other yardsticks do. Data are presented that are indicative of profitable levels of return. Comparisons of various measures of value for five actual sales or valuations are given, and the effects of using any one of the parameters of value have been calculated to show the superiority of the discounted-cash-flow method. An oil and gas investor must place a time value on his money; hence, the discounted-cash-flow method is gaining its acceptance in directing management toward new capital expenditures. It is hoped the method will be utilized and accepted for determining fair market values. Introduction Most engineers whose profession involves evaluating oil, gas, or other mineral interests must sooner or later create hypothetical sales to ascertain the fair market values of mineral reserves. The principal causes for these perplexing situations are the necessities of providing bases for settling estate, gift and ad valorem taxes. If an engineer were pursuing a valuation so that he could advise management or a client concerning the worth of an investment, his requirement would be extremely similar and should be treated no differently. Any profit-conscious investor must either determine if a desirable level of return is realized for a quoted price or the maximum price that can be paid to yield a desirable level of return. In essence then, this problem leans heavily on the basic requirements of engineering valuations; however, the engineer is often faced with defending his basis for determining worth in the ground in addition to the calculated reserves for the interest. The experienced engineer or investor can often determine the approximate value of an oil and gas interest by prudent examination of the engineering computations; however, many officials are reluctant to ascribe to the experience and prestige the valuator has attained in his profession. It then behooves appraisers to utilize a definitive concept for determining fair market values. There have been many concepts formulated and utilized, and each is characterized by varying intrinsic weaknesses. it is the purpose of this paper to propose a method that eliminates most of the conjectural features.
- Energy > Oil & Gas > Upstream (1.00)
- Banking & Finance > Trading (1.00)