Internal rate of return
The internal rate of return is value of discount rate at which the net profit from investment is equal to the sum of investment, i.e. capital investment pay off. In other words, this is value of discounting rate at which net present value is equal to zero:
where,
IRR – internal rate of return;
Pt - profit on oil realization;
Dt - depreciation charges in t-th year;
It - capital investment into oil reserves development in t-th year.
Т - period of estimation;
Ен – rate of discounting;
t, tp - accordingly current and settlement year.
IRR defined thus is compared with demanded rate of return on the invested capital. If expected value of IRR is equally or more than demanded rate by the investor, investment into the given project are justified.
Index of profitability (pi)
Index of profitability characterizes economic feedback of capital expenditures and represents rate of the total resulted net profit and depreciation charges to the total discounted volume of capital investment:
where,
PI - index of profitability;
Pt - profit on realization in t-th year;
It - capital investment into oil development in t-th year;
Ен – rate of discounting;
T - period of an estimation;
t, tp - accordingly current and settlement year.
Period of pay back of capital investment
Period of pay back is period during which initial negative values of cash flows completely are compensated by its positive values. In other words, this is period through moment when NPV becomes positive.
Production cost of oil
Production cost of oil is value defined as rate of operational expenses and depreciation charges sum to volume of produced oil.
where,
Ex - sum of expenses;
D - depreciation charges;
Qr - volume of oil recovery.
Except for parameters of efficiency following parameters also pay off:
capital investment;
operating expenses and expenses of oil transportation.
Capital investment
Capital investment are determined by years of oil development input into operation and further outside this term if there is necessity. For oil developed field the purpose of capital investment is defined according to production structure: new construction, expansion, reconstruction or modernization. Calculation of capital investment at drawing up of the design documentation for developed reserves, especially if they territorially adjoin to other oil field, should be carried out in view of opportunity of available capacities use.
Calculation of capital investment is made in the separate directions including expenses for wells drilling and infrastructure development. Capital investment into wells drilling are defined on the basis of budget cost of 1 drilling meter established depending on depth, quantity of the production well, injection well and other wells.
Capital investment into construction facilities and equipments on oil gathering and transportation, complex automation of technological processes, water supply of industrial targets, electric power supply, communications and into other production bases are defined by multiplication of specific capital expenses in corresponding direction and quantity of oil wells entered into operation.
Capital investment on preparation of oil, clearing constructions are calculated as multiplication of specific capital expenses in corresponding direction and quantity of constructions entered into operation.
Capital investment on infrastructure are calculated in percentage terms to the sum of expenses for oil-field construction. Expenses for nature protection actions are estimated in percentage of a total sum of capital expenses including cost of drilling works.
Operating expenses
At estimation of oil development operating expenses can be defined by kinds of charges - to clauses of calculation or elements of expenses. In this case the way of calculation of these expenses is used based on clauses of accounting.
Operating expenses are calculated according to specific current expenses and volumetric technological parameters in a cut of following clauses:
- maintenance of production and injection wells;
- power expenses for the mechanized oil recovery;
- maintenance of reservoir pressure;
- gathering and transport of oil;
- technological preparation of oil;
- well workover;
- depreciation of the equipment.
Expenses for maintenance of production wells are defined depending on quantity of operating wells and include wages (the basic and additional) of industrial workers, shop charges, production charges and also charges on equipment handling.
Power expenses are calculated depending on volume of the mechanized oil recovery and using average cost of the electric power and its specific charge.
Expenses on gathering and transport of oil, technological preparation of oil are calculated depending on volume of extracted liquid without taking into account depreciation charges.
Expenses on maintenance of reservoir pressure consist of injection wells maintenance expenses and water injection expenses. For definition of water injection expenses it is necessary to account volume of injection water, its costs and power expenses. The rate for definition of power expenses at water injection is based on specific rate charge of the electric power and on 1 kw-h of electric power cost.
Depreciation of fixed assets is calculated based on balance historical cost and effective norms of depreciation. Depreciation charges are sources for reproduction of fixed assets. For their estimation various ways of depreciation calculation can be used: line, accelerated and etc.
The popular method now is line or proportional method of depreciation charges. This method provides calculation of depreciation based on average term of fixed assets life. Balance cost of fixed assets is completely charged on production costs during this term. As a rule, the average norm of depreciation in oil branch is at a level of 10-20 %. If oil field is already developed and there are assets input into operation earlier these assets should be also taking into consideration at calculation of depreciation charges. The accelerated depreciation provides transferring balance cost of fixed assets on production costs in shorter terms than it is stipulated on usual norms of depreciation charges. That offers opportunity of reserve fund creation used for new capital investment and expansion of capacities.
Except of traditional clauses of accounting in structure of operational expenses for oil recovery charges on ecology, payments for credit and taxes related production cost are considered.
Tax system
The estimation of development should be spent according to the tax system established by state. Below is the list of the basic taxes listed in budgetary and extrabudgetary funds of Russian Federation:
the value-added tax (rate is 18 % of price cost)
oil production cost (rate is 419 RUR multiplicated on special coefficient depending on export oil price and rate of dollar);
export duty (progressive rate depending on export oil price);
property tax (rate is 2,2 % of average mid-annual cost of fixed assets);
profit tax (rate is 24 % of tax profit calculated based on Tax code).
Social tax (regressive rate based on company gross payroll).
Most economically projects (oil development, production facility) are which have less time of pay back, less internal rate of return, less oil production cost but higher cash flows. Besides calculation of capital investment, production expenses and cash flows in dynamics on years for analyzed period are necessary.
Choice of investment project variants
The final objective of economic estimation of development is a choice of the best variant providing expediency of production development and greatest efficiency of oil recovery. Comparison of various variants and choice the best of them are recommended to do using this system of parameters. This system of parameters used for definition of development project efficiency takes into account interests of project realization participants and also interests of federal and local budgets. During economic estimation geological-physical, technological, technical and ecological features connected with oil field development are reflected. Economic parameters of oil development are defined in strict conformity with levels of technological parameters projected by variants.
For establishment of economic factors influence on parameters of development efficiency it is recommended to carry out estimation of technological variants in several economic variants reflecting, for example, various conditions of oil selling (domestic, external markets), changes of current tax system (presence of preferential taxation or reduction of tax rates), conditions of depreciation calculation (line method or accelerated), various factors of discounting, etc.
Economic estimation usually contains technological variants of the development differing by wells density, way and speed of drilling, methods of impact on a reserve, levels of produced oil and liquid, input into operation production and injection wells, volume of waters, reagents, ways of operation, etc. All options of development systems are exposed to economic estimation by years, development cycles and also as a whole for design term. Economic efficiency expresses parity of expenses and results with reference to considered technological options. Result of economic estimation is revealing the most rational variant of development adequating to criterion of maximal economic benefit achievement from oil production under requirements of ecology, protection of bowels and environments.
The basic parameter is the net present value (NPV). The best variant is that has maximal value NPV for term of development. Distinctive feature of this parameter is we can apply this for new oil development and for oil development which are already being development. Calculation of NPV answers about efficiency of a variant as a whole.
The internal rate of return (IRR) defines rate of return demanded by the investor on the invested capital and compared with current interest rate on a bank credit. If expected IRR is equal or more this interest rate the investment into the planned project is justified. Here it is necessary to note a fact that IRR plays the important role at an estimation of projects on new entered oil reserves required significant capital expenses. IRR plays an secondary role and, as a rule, does not participate in process of the best variant choice in projects of further development which, basically do not require significant capital investment and also in the projects providing methods of production rate increase at late stages of oil recovery required, basically, raised operation expenses,.
Profitability index, as IRR, has same value if input of oil reserves with big capital expenses is projected. In this case its value is interpreted as follows: if PI> 1, the variant is effective, if PI <1 variant of development is unprofitable.
If development project is in progress or being at late stages this parameter is defined taking into account existing fixed assets.
The pay back period is determined by time of initial expenses compensation. This parameter, as two previous, is usually used for new oil development required considerable expenses. The more effective considered variant is that has less value of this parameter.
It is necessary to define sources of capital investment financing at estimation of development variants. The sources are own funds (profit and depreciation charges) and borrowed funds (loans). Besides company shares can be directed for investment.