Petroleum Engineering Economics Today (includes associated papers 11246 and 11281 )
Authors: Stanley Lyn T. 
Published: December 2007

Distinguished Author Series articles are general, descriptiverepresentations that summarize the state of the art in an area of technology bydescribing recent developments for readers who are not specialists in thetopics discussed. Written by individuals recognized as experts in the area, these articles provide key references to more definitive work and presentspecific details only to illustrate the technology. Purpose: to informthe general readership of recent advances in various areas of petroleumengineering.

Introduction

The energy industry has been the subject of intense study by economists inrecent years. Impressive advances in modeling and forecasting are reflected inthe published literature. Most publications, however. have been in the field ofmacroeconomics: broad areas of government policy, worldwide supply and demand, capital formation, and exploration strategy. Performance of the evaluationengineer certainly is affected by activity in those fields, but his directresponsibility in economics is likely to be more modest. His concern centers oneveryday but complex considerations such as cash flow, present worth, projecttiming, rate of return, cost of money, future prices, risk factors on reserveestimates, and government regulations(existing and future). The mainstay ofevaluation engineering for many years has been the cash flow/present worthcalculation. It is not a difficult computation; the difficulty usually comes incollating data and meeting deadlines. Economic projections always have tendedto be an iterative enterprise (someone always changes his mind at the lastminute). As uncertainties about the future have increased, the complexity ofeconomic analysis has multiplied. It is fortunate for the evaluation engineerthat development of electronic computers has run closely parallel to this trendof increasing complexity. This discussion surveys economic applications inpetroleum engineering today. The first part is a brief discussion of theprocedures used most frequently, their strong points, and their deficiencies.The second part highlights some modern tools and techniques that can make thetask easier.

Discounted Cash Flow Projection and Profitability Criteria--A Review

All economic evaluations involve a look into the future, but the evaluationengineer is required to take only a limited view. He does not need to considerglobal economic and political structures nor, in most cases, investmentstrategies. He must forecast only the return from investments in wells, plants, and pipelines. To do this, he needs to know annual production rates, futureoperating costs and prices, taxes, inflation rate, cost of money, participationfactors, reversionary interests, and future investments required to keep theproject going. Also he needs to have a good feel for risk factors becausecertitude is not a feature of the current economic climate.

Present Worth and Market Value

The cash flow projection, whereby future netrevenues are discounted at a compound interest rate, is accepted widely in thepetroleum industry as a reliable criterion of profitability. In fact, Silberghand Brons have called it the most reliable criterion in general usetoday.