Jargon free volume on upstream fiscal design

Takings from upstream oil and gas projects, whether they are small scale or big ticket ones, ultimately determine their profitability – the stuff that shareholders, venture sponsors and governments alike have a keen interest in.

It is why oil and gas companies, both state or privately held, deploy an army of petroleum economists to offer conjecture or calculated projections on what the final fiscal share of such ventures might be.

In this complex arena, both budding petroleum economists and established ones could do with all the help they can get. Industry veterans Ken Kasriel and David Wood’s book Upstream Petroleum: Fiscal and Valuation Modeling in Excel (published by Wiley Finance) goes a long way towards doing just that, and quite comprehensively too.

In a volume of 370 pages, with eight detailed chapters split into sequential sub-sections, the authors offer one of the most detailed subjective discussions and guidance on fiscal modeling that is available on the wider market at the moment in the Oilholic's opinion.

The treatment of fiscal systems, understanding and ultimately tackling the complexities involved is solid, predicated on their own views and experience of understanding the tangible value of upstream projects before, during and when they ultimately come onstream, and what the takings would be.

Kasriel and Wood have also included five appendices and a CD-ROM (in the hardcover version) to take the educational experience further, and accompanying the main text of the title are over 400 pages of supplementary PDF files and some 120-plus Excel files, with an introduction to risk modeling.

What is particularly impressive is the authors’ painstaking effort in cutting through industry jargon, putting across their pointers in plain English for both entry-level professionals and experienced practitioners. Furthermore, the sequential format of the book makes it real easy for the latter lot to jump in to a section for quick reference or for a subject specific refresher. 

Generic treatment of taxation, royalties, bonuses, depreciation, profit sharing mechanics, incentives, ringfencing, and much more, including decommissioning finance, are all there and should withstand the passage of time as both authors have called their combined 48 years of experience in the industry into play, to conjure up a reasonably timeless discussion on various issues. 

Above everything else, Kasriel and Wood’s conversational style makes this book a very purposeful, handy guide on a subject that is vast. The Oilholic is happy to recommend it to fellow analysts, (aspiring, new and established) petroleum economists, policymakers, industry professionals, corporate sponsors and oil and gas project finance executives.

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© Gaurav Sharma 2015. © Photo: Front Cover – Upstream Petroleum: Fiscal and Valuation Modeling in  Excel © Wiley Publishers, March, 2015.

Buyers' market & an overdue oil price correction

Recent correction in the price of crude oil should come as no surprise. The Brent front month futures contract fell to a 26-month low last week lurking around the US$98 per barrel level.

The Oilholic has said so before, and he’ll say it again – there is plenty of the crude stuff around to mitigate geopolitical spikes. When that happens, and it has been something of a rarity over the last few years, the froth dissipates. In wake of Brent dipping below three figures, a multitude of commentators took to the airwaves attributing it to lower OECD demand (nothing new), lacklustre economic activity in China (been that way for a while), supply glut (not new either), refinery maintenance (it is that time of the year), Scottish Referendum (eh, what?) – take your pick.

Yet nothing’s changed on risk front, as geopolitical mishaps – Libya, Sudan, Iraq and Ebola virus hitting West African exploration – are all still in the background. What has actually gotten rid of the froth is a realisation by those trading paper or virtual contracts that the only way is not long!

It’s prudent to mention that the Oilholic doesn’t always advocate going short. But one has consistently being doing so since late May predicated on the belief of industry contacts, who use solver models to a tee, to actually buy physical crude oil, rather than place bets on a screen. Most of their comparisons factor in at least three sellers, if not more.

Nothing they've indicated in the last (nearly) five months has suggested that buyers are tense about procuring crude oil within what most physical traders consider to be a "fair value" spot trade, reflecting market conditions. For what it’s worth, with the US buying less, crude oil exporters have had to rework their selling strategies and find other clients in Asia, as one explained in a Forbes post earlier this month.

It remains a buyers’ market where you have two major importers, the US and China who are buying less, albeit for different reasons. In short, and going short on crude oil, what’s afoot is mirroring physical market reality which paper traders delayed over much of the second quarter of this year from taking hold. Furthermore, as oversupply has trumped Brent’s risk premium, WTI is finding support courtesy the internal American dynamic of higher refinery runs and a reduction of the Cushing, Oklahoma glut. End result means a lower Brent premium to the WTI. 

However, being pragmatic, Brent’s current slump won’t be sustained until the end of the year. For starters, OPEC is coming to the realisation that it may have to cut production. Secretary General Adalla Salem El-Badri has recently hinted at this.

While OPEC heavyweight Saudi Arabia is reasonably comfortable above a $85 price floor, hawks such as Iran and Venezuela aren’t. Secondly, economic activity is likely to pick up both within and outside the OECD in fits and starts. While Chinese economic data continues to give mixed signals, India is seeing a mini-bounce. 

Additionally, as analysts at Deutsche Bank noted, “With refineries likely to run hard after the maintenance period, this will support crude oil demand and eventually prompt crude prices, in our view. This may be one of the factors that could help to eliminate contango in the Brent crude oil term structure.”

While the general mood in the wider commodities market remains bearish, it should improve over the remainder of the year unless China, India and the US collectively post dire economic activity, something that’s hard to see at this point. The Oilholic is sticking to his Q1 forecast of a Brent price in the range of $90 to $105 for 2014, and for its premium to WTI coming down to $5.

Meanwhile, Moody's has lowered the Brent crude price assumptions it uses for ratings purposes to $90 per barrel through 2015, a $5 drop from the ratings agency's previous assumptions for 2015. It also reduced price assumptions for WTI crude to $85 per barrel from $90 through 2015.

The agency’s price assumptions for 2016 and thereafter are $90 per barrel for Brent crude and $85 for WTI crude, unchanged from previous assumptions. Moody’s continue to view Brent as a common proxy for oil prices on the world market, and WTI for North American crude.

On a closing note, here’s the Oilholic’s second take for Forbes on the role of China as a refining superpower. Recent events have meant that their refining party is taking a breather, but it’s by no means over. That’s all for the moment folks! Keep reading, keep it ‘crude’!

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© Gaurav Sharma 2014. Photo: Russian Oil Extraction Facility © Lukoil. Graph: Brent curve structure, September 19, 2014 © Deutsche Bank