Merging Risk Assessment And Portfolio Management

1
Merging Risk Assessment And Portfolio Management
The Search for Value
Modified Version
2002 SPE Distinguished Lecture Tour
Glenn McMaster
Confidential slides removed
2
Acknowledgements

• John Howell Portfolio Optimization
• John Campbell EP Economics
• Peter Rose Exploration Risk Analysis
• Glenn Koller Generic Risk Assessment
• Peter Carragher Decision Analysis

3
Outline

• Integration of
• Risk Assessment
• Portfolio Management
• Inter-relationship between prospects, targets and
  goals
• Impact of Time on Business Decisions
• Importance of Visualization

4
The Problem

• 15 MM Portage Well has been cancelled
• 3 replacement opportunities
• Jasper, Montreal and Vancouver
• 2002 Portfolio consists of 16 wells
• Total Well Budget 100MM
• Todays Date is June 2002

Youre the VP of EP What is your Decision?
5
Prospect Comparison

• As VP you have asked the teams to review
• 1. Geotechnical Information
• 2. Physical Data (resources, production rate,
  costs etc.)
• 3. Financial Data (NPV, IRR, NI, NCF, FD/boe
  etc.)

6
3D Prospect Slides Removed
7
Based on Resource Size Jasper is Best Choice
8
Key Financial Data

• Capex Capital Expenditures on fixed assets
• EMV Expected Monetary Value (risk weighted
  value)
• NPV Net Present Value (at a given discount
  rate)
• NI Net Income
• NCF Net Cash Flow
• F/boe Finding Cost per barrel of oil equivalent
• FD/boe Finding and Development Cost per boe
• IRR Internal Rate of Return (discount rate
  which sets present value of cash flow to zero)

9
Financial Data Removed
10
Whats Missing?

• Risk Assessment
• Portfolio Analysis
• Business Impact

Is there a better way to visualize your choices?
11
Risk Volume Assessment

• Consistent and Systematic Quantitative Approach
  to Prospect Evaluation
• Utilize Skills and Judgments to Assign
  Probabilities and Distributions
• Petroleum System Approach

12
Risk vs. Uncertainty

• Risk is the probability that the parameter of
  interest fails to work at the minimum level
  expected
• Uncertainty is the variation in or the range of
  possible outcomes
• only considering subsurface risk in this
  example

13
How a Risk System Works
INPUT SHEET
Source Parameters
TECHNICAL
CONFIDENCE
Trap Area
Reservoir Thickness
Porosity
Water Saturation
Recovery Factor
Etc.
RESOURCES
14
Distribution Building

• Minimum
• Lowest effective average value for the parameter
• Most Likely
• Base case, what one really expects to find
• Maximum
• Highest average value for the parameter

15
Oil Prospect Reserve Calculation
Minimum
Most Likely

• 1 ITERATION

Seal Efficiency
Oil Saturation
Maximum
Net Trap Volume
Porosity
Volume Gas Cap
Recovery Factor
Gas/Oil Ratio
Formation
Volume Factor
Phase
Access
Transformation
Convertibility
Source Area
16
Monte Carlo Simulation Example

• Variable 1 10 15 5 13 7 13
• Variable 2 265 232 215 219 253 240
• Variable 3 44 62 39 56 31 29
• If Resources (Variable 1 x Variable 2) /
  Variable 3
• Cycle 1 (15x219) / 29 113
• Cycle 2 (13x265) /56 61.5
• Cycle 3 (7 x232) / 39 41.6
• 1500 calculations

17
Chance of Failure

• associated with many variables
• probability that the outcome is less than minimum
  input
• or
• the probability that it is zero and doesnt exist

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Technical Chance of Success

• TCoS (1 - CoF parameter 1) x (1 - CoF parameter
  2) x (1 - CoF parameter 3) x ...
• CoF Chance of Failure

19
Technical Chance of Success Portage

• Source Access Failure 20
• Trap Area Failure 20
• Reservoir Thickness Failure 20
• TCoS (1-0.20) x (1-0.20) x (1-0.20)
• 51

20
Most Likely
Failure Modes
21
Critical Risk Data

• Economic Limit Commercial Threshold for
  Development
• Probability of Economic Success (PES) Chance of
  Success Associated With Economic Limit
• Economic Risk Weighted Resources (ERWR) Level
  of Risked Resource That This Prospect Contributes
  to Portfolio
• Mean Economic Success Volume (MES) the mean
  volume above the economic limit

22
Risk Data Removed for 3 Prospects
23
Key Risk Assessment Questions

• Does the risk model reflect the subsurface?
• Are we using the correct factors for comparison?
• Technical Success vs. Economic Success
• Mean Reserves vs. Risked Reserves
• Gross vs. Net
• What does the curve look like?
• Is the risk data consistent and calibrated?

24
PES
Quality
High Risk
Wells
25
Amoco
1994-1998 Risk Results
Probability of Economic Success
100
Quality
80.
Commercial Success
Dry Hole
60
PES
40
High Risk
20
0
Wells
26
BP Success Rate1983 2002
Economic Success Rate High Risk Wells (lt20 TCS)
Onset Formal Risk Assessment
Late 90s gt50 Success Rate 10 High Risk Wells
Late 80s lt20 Success rate Over 50 High Risk
wells
BP data 83 90, BP Amoco 90- 98, bp 99 02
27
BP Discoveries 1983 2001 Removed
28
Individual Risk Curves Removed

• Concepts Discussed
• Gross vs. Net
• Relationship between Economic Limit and
  Deterministic or Base Case Reserves
• Stacked Pay
• Hump in curve for adding different size
  accumulations
• Dont add several high risk zones to achieve a
  quality project
• Independent vs. Dependent Impact

29
TIME

• It is June 2002
• 8 wells have finished
• 5 successful
• 3 failed
• Yearly Targets have been set
• Five Year Plan Still in Effect

Need to understand the gap!
30
Portfolio Management Perspective
Historical Future
Indirect Tie Direct Tie
Individual Cutoffs Balanced Financial
Measures (PES, EMV, NPV) (Risk, Profit,
Growth) Project by Project
Decisions Portfolio
Decisions Sum of Project
Probability of Achieving Characteristics
Performance
Targets Project Ranking
Portfolio Tradeoffs
Strategy Performance Metrics
Total Portfolio View
31
Predicted Success Rate 62
Expected Resources 159 mmboe
32
Perspectives Software

• Uses financial and physical data
• Interactive Real Time Visual Analysis
• Tool to understand interactions between
  projects through time
• Tool to look at portfolio options, tradeoffs
  and probability of
• achieving targets
• Facilitate Discussion

33
Perspectives Portfolio Management Software

• Developed and Marketed by John Howell
• of Portfolio Decisions Inc.
• Houston Texas
• John I. Howell jihowell_at_portfoliodecisions.com

34
Net Cash Flow Input Data
Negative below the line
Do you see anything unusual?
35
Yearly Production (mboe/d)
2014
2000
Color Coded by Country
Do you see anything unusual?
36
Yearly Targets Long Term Goals

• 2002 Constraints Targets
• Total Spend 150MM
• Well Spend 100MM
• Success Rate gt55
• Resource Addition 175mmboe
• Long Term Goals
• Grow Production Rate by 5 per year
• Grow Resource Additions by 5 per year
• NCF positive in 2006

37
Net Cash Flow (MM)
Selected Portfolio
Yearly Target
Portfolio
300
200
20002001 Base
100
NCF (MM)
0
-100
2000
2003
2006
2009
2012
-200
-300
38
Slightly Over Budget
Missed 2001
challenge
39
available
Possible problem
2003 2004 challenge
Problem
Some major challenges exist
40
Portfolio 6 Packs for 3 new prospects shows
varying results

• None of the 3 choices achieves 2002 reserve
  target
• Jasper although large has no production for 5
  years
• FD/boe may become a problem
• Production gap in 2003-2005 still a major problem

41
Can You See the Answer Now?

• Choice Dependent On
• Short Term Targets
• Long Term Goals
• Recent Results
• Interaction Between Opportunities

Best Choice today is Vancouver
but
42
What about the Risk?

• Each project has a Probability of Economic
  Success (PES)
• So you could actually Monte Carlo the portfolio
  just like we did the resource calculation
• Determine the Probability of Achieving Your
  Targets

43
One Monte Carlo Result
Not good
Impossible to fill in 2003
disaster
44
Probability of Achieving Target
43 Chance of Meeting 2002 Target
Total Resources
Total Production
45
Is There Another Option?

• Portfolio Optimization
• Make remaining 7 wells and 3 new wells all
  options
• Allow more than one choice
• Allow choice of working interest
• Allow choice of year

Portfolio interaction vs. single well substitution
46
Optimization

• Constraints (must achieve)
• Well Spend lt 100MM
• Resources gt 175mmboe
• FD/boe lt 3.50
• Maximize
• Production in 2004 and 2005

47
On budget
Resources met
Production achievable
Is this an option you would have considered?
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Solutions to our Problem

• Based on Geotechnical Review Jasper
• Physical and Financial Data Vancouver
• Risk and Resource Evaluation Montreal
• Portfolio Perspective Vancouver
• Optimization Jasper and Montreal, drop 3

There is another approach
.
49
Efficient Frontier

• Risk vs. Reward Portfolio Approach
• Criteria Depend on Objectives of the Firm
• Maximize Return, Minimize Risk within Certain
  Parameter Constraints
• Drilling Budget, Success Rate, Exposure to Loss,
  Production Rate, Seismic Costs etc.
• Select Optimum Portfolio

50
Efficient Frontier
Various Portfolios
51
Key Portfolio Questions

• Is the data consistent and calibrated?
• Net vs. Gross, Currency, Unrisked vs. Risked
• Have the right metrics been chosen?
• Are any prospects strategic?
• Cannot achieve constraints without well
• Is there a feasible solution?
• Are there too many constraints?
• Is the probability of achieving targets and goals
  acceptable?

52
Risk Assessment Portfolio Management

• Its all about the discussion not the answer
• The decision is dependent on
• - projects available
• - short term targets and long term goals
• - performance metrics chosen
• - time

Visualization allows you to see project
interactions all at once
53
Deliberate Search for Value

• REQUIRES
• Integration of Risk Assessment and Portfolio
  Management
• Understanding the inter-relationships between
  prospects, targets and goals
• Continually evaluating the impact of time on key
  performance measures

Seeing is Believing