IB - Energy
Consensus
the consensus monthly forecast of the price of crude oil among private sector companies; often used as as rice case in valuation
Well
the boring drilled into the ground through which oil and gas flow to the surface
T/F For A&D, there is usually no control premium paid for the assets
True
Price Decline Factors for Oil
- Strong US Dollar - Supply Glut due to US Shale revolution - OPEC's unwillingness to stabilize production - Declining demand from Europe and developing countries (ex: China)
2 main means of onshore production
1. Conventional 2. Unconventional
Two sides investment bank advises in a restructuring and what they do
1. Debtor - company that is in financial trouble ---> advisors will represent the interests of the equity holders of the company 2. Creditor - lenders to whom the company is indebted. ----> group of creditors organize and hire one legal and one financial advisor. -----------> Goal is to convert debt to new higher-lien debt or to equity before re-emerging from bankruptcy ----------> Distressed debt investors operate in this space
2 reasons what EBITDAX is used in energy
1. Different E&P companies use different accounting methods 2. Industry is asset-heavy so exploration expenses are extremely high -> best to exclude these to best compare financial health of companies
What are some multiples that are commonly used in Energy Sector?
1. EV/EBITDAX EBITDAX exists because some companies capitalize (a portion of) their exploration expenses and some expense them. You add back the exploration expense to normalize the numbers to account for these company specific differences 2. EV/Daily Production looking at energy reserves as a value driver rather than revenue or profit 3. EV/Proved Reserve Quantities
List some popular North American Shale Plays and their respective locations (5)
1. Eagle Ford - Near Houston (South Texas) 2. Barnet Shale -Central Texas 3. Bakkan - Northern US, North Dakota 4. Marcellus - throughout the northern Appalachian Basin. 5. Permian Basin - West Texas into New Mexico
Give 3 different examples of types of Oilfield Services
1. Experts on Fracking ~ Halliburton 2. Land Drilling Expoerts ~ Payne 3. Transporting workers via helicopters to offshore well sites ~ CHC 4. Companies that transport water and sand to well sites for fracking .... Really the realm of oilfield services is endless
What are the 4 sectors within the oil & gas industry
1. Upstream/Exploration and Production/Exploration 2. Midstream 3. Downstream 4. Oinfield Services
What are the 3 P's?
3P oil reserves are the total amount of reserves that a company estimates having access to, calculated as the sum of all proven and unproven reserves. The 3Ps stand for proven, probable, and possible reserves. 1. Proved Reserves (90%) 2. Probable Reserves (50%) 3. Possible Reserves (10%)
fishing analogy for the # P's
Another way to think about the concept of different reserve categories is to use a fishing analogy where: 1. proven reserves are the equivalent of having caught and landed a fish. It is certain and in hand. 2.Probable reserves are the equivalent of having a fish on the line. The fish is technically caught, but is not yet on land and may still come off the line and get away. 3. Possible reserves are a bit like saying, "there are fish in this river somewhere." These reserves exist, but it is far from certain that an oil company will ever fully discover, develop, and produce them.
You could say that acquisition and divesture (A&D) is M&A at the ___________ level
Asset Level, not corporate level
Why do Exxon/Chevron / really large companies / do the refining?
Because they are the only ones that can afford to. [lower profit further down the oil chain]
Where does exploration and production happen? [Sector 1 Questions Begin]
Can occur onshore or offshore (think of those huge multi-billion dollar structures you see in the Gulf)
Full-Cost Accounting
Capitalize all costs of exploration regardless of the success of finding oil and gas Large companies often use this method
Dominant source of energy supply over past several decades. Explain what it is
Crude Oil - Crude oil means a mixture of hydrocarbons that exists in liquid phase in natural underground reservoirs and remains liquid at atmospheric pressure after passing through surface separating facilities.
Since ________ Industry had slow and stable business, transaction activity is limited here
Downstream
Third sector in oil and general overview of what it does
Downstream Refining (the big refineries you see in the middle of no-where Texas) and marketing (gas stations) There are so many other products that come from oil, including crayons, plastics, heating oil, jet fuel, kerosene, synthetic fibers and tires Depending on what temperature you heat the oil to during the refining process will determine what purpose it will be used for --> "The downstream sector is the refining of petroleum crude oil and the processing and purifying of raw natural gas, as well as the marketing and distribution of products derived from crude oil and natural gas."
Lowest profit margin out of all verticals of oil and gas
Downstream sector
sector associated with refining, processing, marketing, and distribution of oil, natural gas, and NGLs ---> NGLS = Natural gas liquids (NGLs) are hydrocarbons—in the same family of molecules as natural gas and crude oil, composed exclusively of carbon and hydrogen.
Downstream sector
__________ companies usually have the _________ profit margins
Downstream; Lowest Cuts of profits are taken as the oil moves down the industry supply chain (highest cut is taken by the exploration and production companies). Low profits are the reason that the big guns (Exxon Chevron) are the ones doing the refining
Oil and Gas industry is dynamic. Name some factors that can effect it
Geopolitical, economic, financial, technology, regulatory, legal factors can all effect the oil and gas industry
What does a lot of capital come from in energy?
Given the high risk of exploration and production, a significant amount of capital comes from private equity shops seeking to return 25-30% on their investment
Name 2 major players in Oilfield Services
Halliburton (Fracking) and CHC (Helicopter Transportation)
How are reservoirs (oil and gas shale areas) created
HyrdoCarbons get trapped beneath a relatively less-porous cap rock (naturally occurs) E&P companies use drills to penetrate the cap rock and extract the minerals
How are Master Limited Partnerships (MLPs) [Midstream Companies] valued?
MLP companies valued using distributable cash flow (DCF) --> Cash available to common unitholders after paying General Partners DCF = EBITDA - Int Exp - Maintenance CapEx
Most midstream companies are __________ ____________ ___________ - publically traded companies that receive tax benefits of a partnership (are not double taxed at the corporate and the dividends level) Why is this good?
Master Limited Partnerships This is good because midstream companies are known to pay high dividends
Explain sector 2 and broadly what it does
Midstream Sector Transportation of the oil via pipelines (barges if offshore) Think of it like paying a toll on a toll road... the midstream company is simply transporting the oil and charging oil companies fees based on the distance they move the oil
Explain a key Valuation method in the oil and gas industry
Net Asset Valuation (NAV Method) Used only for upstream companies; basically you pretend like all the proved reserves of the company are being depleted today and you value what they would be worth
Why is NAV preferable to DCF for oil and gas companies?
Net asset valuation models are a nice alternative to traditional discounted cash flow, or DCF, models because energy companies CANNOT ASSUME PERPETUAL GROWTH The amount of reserves an oil or gas company currently has, for example, can significantly affect its net asset value per share, or NAVPS. This method allows investors to assume a production decline rate and calculate revenue until reserves run out.
Price of oil and gas today
Oil : $80 per barrel of oil equivalent (BBL) [measured in barrels] Natural Gas: $2.50 measured in mcf (measured in cubic feet) Natural Gas
Oil and Gas - Recent History
Oil and gad is a boom and bust industry -> Mid 2008, Crude Oil prices reached histrorical highs in excess of $140/bbl -> Summer 2014 Crude Oil around $115/bbl -> Thanksgiving 2014: OPEC failed to reach an agreement on production cuts, sending prices tumbling to below $70/bbl -> February 2016: Trough Oil - oil prices fall to under $27/bbl the lowest since 2003 ->[2016ish] Now industry has rebounded somewhat from lowest point, but major sentiment is that prices will stay "lower for longer" This is the worst slump since the 1990's with prices around $56/bbl -> Today around $80/bbl
What are reserves in oil and gas?
Oil and gas reserves denote discovered quantities of crude oil and natural gas that can be profitably produced/recovered from an approved development.
Sector 4 within Oil/Gas/Energy and Brief description
Oilfield Services Provide special services and products to any part of the industry. For example, companies like Schlumberger and Halliburton are experts at hydraulic fracturing E&P companies will hire companies like these to just do the fracking part of the drilling. Or, there are land drilling companies that will be hired by upstream companies to just drill the well itself (like Helmrich and Payne for example) Another example: Ex: CHC, flying workers to offshore sites
sector that provides equipment and services to companies doing oil and gas activities
Oilfield Services (OFS)
OPEC
Organization of petroleum exporting countries; an economic cartel consisting of 12 major oil exporting countries major players are saudi arabia, iran, russia, and venezuela; OPEC aims to set the price of oil by agreeing on supply levels; its 2014 decision to continue increasing production is a precipatiting factor in the fall of oil prices
Breakdown of Proved Reserves (P1): 90% Certainty of Extraction -> 3 Categories of Proved Reserves
PUD: proved, undeveloped PDP: proved, developed, producing PDNP: proved, developed, not producing
Why is fracking controversial
Poor understanding of its adverse effects
Possible Reserves
Possible reserves are oil reserves for which the estimated likelihood of successful extraction is between 10% and 50%
Probable Reserves
Probable reserves are oil and gas resources determined to have between a 50 and 89 percent likelihood of commercial recovery.
Proven Reserves
Proven reserves are the best estimate of oil that will be extracted from a formation given the current technology, economic evaluation, and available data 90% probability of commercial recovery
What is Shale energy?
Shale energy is both natural gas and oil produced from shale, a fine-grained sedimentary rock found in at least 22 onshore shale basins in more than 20 states across the U.S. Shale deposits have long been known to contain large quantities of oil and natural gas, but the resources were not economically recoverable until recently.
Successful Efforts Accounting Explained
Successful Well = Capitalize the cost of exploration Unsuccessful Well = Expense the cost of exploration Smaller companies often use this method so that cash flows are more stable
EV/2P Ratio Definition
The EV/2P ratio is a ratio used to value oil and gas companies. It consists of the enterprise value (EV) divided by the proven and probable (2P) reserves. EV compared to proven and probable reserves is a metric that helps analysts understand how well a company's resources will support its growth
Difference between full cost and successful efforts accounting?
The primary characteristic of successful efforts reporting is that only costs directly associated with productive properties are capitalized; by contrast, full cost reporting capitalizes all costs incurred in finding and developing oil and gas reserves.
Explain why oil refining needs to be done in the first place [problem with what?] + + Explain the process to address the issue here
The problem with crude oil is that it contains hundreds of different types of hydrocarbons all mixed together. You have to separate the different types of hydrocarbons to have anything useful. Fortunately there is an easy way to separate things, and this is what oil refining is all about. Hydrocarbons are jumbled together as thick black crude oil. The most efficient way to separate them into smaller fractions is by a process called fractional distillation. separation of a liquid mixture into fractions differing in boiling point (and hence chemical composition) by means of distillation, typically using a fractionating column.
Smaller companies like ConocoPhillips have shown a recent trend of spinning-off their downstream business (created Phillips66). Why would a company want to spin-off a certain aspect of their business?
They believe the market is not giving full value to the business as a whole and spin-off a division to "unlock" the value of that division
Give an example of Midstream Sector (something to compare it to in everyday life)
Think of it like paying a toll on a toll road.
Why does the oil and gas industry need investment bankers?
This industry is very capital intensive (it costs millions of dollars to drill a well, etc.) which is why oil companies need investment bankers and why there is so much deal flow
Trends in unconventional drilling
Trend is to reutilize conventional wells with new technology to extract more hyrdocarbons (retooling old wells to be capable of fracking)
T/F Oilfield Services companies resemble traditional industry corporations for valuation purposes - not oil and gas specific
True
True or False: Midstream companies are more stable than Upstream Companies Which is more highly levered?
True! Midstream companies lock people into long-term contracts (5-10 years). Creditors more willing to lend to these type of companies -----> Highest leverage companies
Explain and name sector 1
Upstream/Exploration and Production/Exploration Finding the oil and rilling the well
WTI Crude
West Texas Intermediate crude oil; the commodity underlying futures contracts traded on the CME and NYMEX; WTI is the benchmark for the price of US crude oil; it is lighter and sweeter then Brent crude, and is closely traded to Brent and the OPEC Basket; WTI is usually traded at a discount to Brent, though the lifted export ban on US crude has made the spread tighter
Shale
a form of sedentary rock that contains crude oil or natural gas
Explain the high-pressure mix involved in fracking
a high-pressure mix of water, sand, and chemicals are directed toward shale rock to crack it open and release natural gas
Contango
a market condition in which future commodity prices are greater than spot prices; the higher future price is often associated with storage and insurance of the commodity
Henry Hub
a natural gas distribution hub in Lousiana; the required price settelement point for natural gas futures contracts on the NYMEC
Working Interest
a party's equity interest in a project before reduction for royalties or production share owed to other parties
Dry Hole
a well that is incapable of producing sufficient quantities to justify completion
Take or Pay
an agreement in which the buyer (often a pipeline company) will agree to pay the seller (often an E&P company) for a set amount of product at a set price, regardless if the buyer takes possession of it
BOE
barrel of oil equivalent; all reserves are converted to BOE to measure the amount of energy producible
Term for unprocessed oil
crude oil
Explain unconventional production
drilling directionally (drilling downward and then at a horizontal curve) and engaging in hydraulic fracturing (cracking the rock to allow more oil to be taken from the well)
What is fracking and why is it important https://youtu.be/Tudal_4x4F0
fracturing - cracking the rock to allow more oil to be taken from the well Has changed the potential for oil production domestically in the US - we could be oil independent as early as 2050 Fracking was pioneered by George Mitchell in the 1980s and 1990s and is not used to maximize unconventional shale plays on almost every well site in America
Hydrocarbons
in this case refers to coal, oil, and natural gas
IOCs
international oil companies, refers to international super-powers like ExxonMobil
Explain Conventional Production
literally drilling straight down into the ground
NOCs
national oil companies; oil companies that are owned by national governments; account for closer to three-quarters of global production
NGLs
natural gas liquids that are often found mixed with oil and natural gas in a reservoir; not the same as liquefied natural gas
Liquefied Natural Gas
not the same as NGLs; natural gas mixed with ethane and converted into liquid form for ease of storage or transportation
Downturn in oil and gas prices has forced many energy companies into bankruptcy; as a result firms need to:
restructure the debt on their balance to avoid bankruptcy
Strip
the average price of a certain number of futures contracts; 12 month strip will be the average price of futures contracts for the next 12 months from today; strip will often defer from spot prices; reflecting sentiment on the direction of prices
Name some services that oilfield services provide
supply of rigs, actual drilling of wells, fracking, transportation of rig workers, seismic testing, maintenance of equipment [DO NOT ACTUALLY PRODUCE OIL]
PV-10
the after-tax precent value of proved reserves discounted at 10%
Maintenance Capex
the cost necessary to maintain EBITDA at current levels
spot
the current market price at which the commodity can be traded for immediate delivery; spot prices for oil are Crushing, OK and natural gas is at Henry Hub, LA
Wellhead
the equipment at the surface of a well that controls the pressure
Cushing, OK
the major American trading hub for crude; the delivery location and required price settlement point for all NYMEX WTI futures contracts
crude oil
the natural occurring state of oil before it is refined
Rig Count
the number of rigs operating at any given time in the US; rig count data is often provided by services company Baker Hughes
Fractionating
the process of separating NGLs from pure natural gas
Decline Rate
the rate at which well production is expected to decline; not constant
IDR Split
the split of distribution rights between GP and LPs
peak oil
the theoretical day that oil reaches its maximum global production level, after which production will decline
High Splits
then the IDR split between GP and LPs reaches 50/50 - the highest tier
SCOOP / STACk
two plays in the Anadarko basin of Oklahoma that have recently attracted investment; horizontal drilling activity has picked up in these plays
Trend
used synonomously with the term play to describe an area rich with hydrocarobs
Hedging
using derivatives on commodities to reduce the risk of adverse price movement; companies can lock in commodity prices for a period of time by hedging
Supermajor
vertically-integrated international oil companies like Shell Vertical integration is the business arrangement in which a company controls different stages along the supply chain. Instead of relying on external suppliers, the company strives to bring processes in-house to have better control over the production process.
Much transaction activity in oil gas is in acquisition and divesture (A&D) space... why?
~ spinoffs to capitalize value of assets E&P companies aim to optimize their portfolio of producing assets, acquire or divest assets away
