Merging Risk Assessment And Portfolio Management

The Search for Value

2003 SPE Distinguished Lecture Tour

Glenn McMaster

Acknowledgements

John Howell Portfolio Optimization

John Campbell E&P Economics
Peter Rose
Exploration Risk Analysis
Glenn Koller Generic Risk Assessment
Peter Carragher Decision Analysis

Outline
1. Integration of:

Risk Assessment
Portfolio Management

2. Inter-relationship between prospects, targets

and goals
3. Impact of Time on Business Decisions
Importance of Visualization

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 Vice President of E&P

What is your Decision?

Prospect Comparison
As Vice President 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, F&D/boe etc.)

Integration & Interactive Interpretation of World Class Technologies

Highly Interactive Visual

Environment

Jasper
Prospect

Meandering Channels
Sandstone Filled with Oil
Display Scrolls through a
seismic volume

~3000 ft beneath the sea

bed

Jasper Prospect

crest~2000m

NW

Well 2

Well 3

SE

Montreal Prospect
Seismic Line

Well 1

W24
P24
P22

P41
P27-25
W22

W41

2099m

2176m

W25
P21

Terrace flt
20-30m

northern flt 70-80m

5
goc 2042

~1 km

Amplitude Map Montreal Prospect

goc 2114

-3 main reservoirs
eastern channel
western channel system
lower western sand
.

Terrace flt
20-30m

Vancouver: Multiple Subsalt Reservoir Targets

Vancouver Prospect

2002 Portfolio

Resource Size Ranking

Jasper
Montreal
Portage
Vancouver
Resources

20

40

60

80

100

120

(mmboe)

Based on Resource Size Jasper is Best Choice

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
F&D/boe = Finding and Development Cost per boe
IRR = Internal Rate of Return (discount rate which sets

present value of cash flow to zero)

Physical & Financial Data

Reserves Peak
mmboe Rate
mboe/d
Jasper
Mont.

Vanc.

110
45
20

44
29
13

Well
Cost
$MM

Capex
$MM

EMV
$MM

NPV
$MM

14
18
16

272
199
64

18
40
43

79
119
76

NI
$MM

210
224
115

NI/boe

4.4
5.7
6.9

Can you see the the answer now?

F/boe

5.1
4.4
3.4

IRR
%

23
41
60

Physical & Financial Data

Reserves
mmboe
Jasper
Mont.
Vanc.
Portage

Peak
Well
Rate
$MM
mboe/d

Capex
$MM

EMV
$MM

NPV
$MM

NI
$MM

NI/boe

F/boe

IRR
%

110
45
20

44
29
13

14
18
16

272
199
64

18
40
43

79
119
76

210
224
115

4.4
5.7
6.9

5.1
4.4
3.4

23
41
60

35

29

18

145

50

113

175

5.7

4.1

56

Reasonable Choice is Vancouver

Whats Missing?
Risk Assessment
Portfolio Analysis
Business Impact

Is there a better way to visualize your choices?

Risk & Volume Assessment

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

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

How a Risk System Works

INPUT SHEET

MONTE CARLO

HISTOGRAMS

Source Parameters

TECHNICAL
CONFIDENCE

Trap Area
Reservoir Thickness

Porosity
Water Saturation
Recovery Factor
Etc.

RESOURCES

Oil Prospect Reserve Calculation

1 ITERATION

Se
O
N
il al E
et
Sa
f
Tr
tu fici
ap
e
ra
P
Vo or
tio ncy
n
lu osi
ty
m
e

Minimum
Most Likely
Maximum

p
Ca
as
or
e G act
m
F
lu
ry
tio
Vo
ve
co l Ra
i
Re
s/O n tor
Ga atio Fac
rm e
Fo lum
Vo

e
as
n
Ph
ss
io
at
ce
Ac
rm
ty
sfo
ili
an
tib
Tr
r
a
e
re
nv
Co ce A
ur
So

Monte Carlo Simulation Example

Variable 1
Variable 2
Variable 3

=
=
=

If Resources =
Cycle 1
Cycle 2
Cycle 3

=
=
=

10
265
44

15
232
62

5
215
39

13
219
56

7
253
31

13
240
29

(Variable 1 x Variable 2) / Variable 3

(15x219) / 29 = 113
(13x265) /56 = 61.5
(7 x232) / 39 = 41.6

1500 calculations

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

Technical Chance of Success

TCoS = (1 - CoF parameter 1) x (1 - CoF

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

Technical Chance of Success for 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%

Portage Risk Model

100
Economic Threshold

90
80

Economic Risk Weighted Reserves

70

Cumulative
Probability
(%)

17.5

60

Mean Econ Success (MES)

50

34

40

Prob Econ Success

30

50

20

Failure Modes

90

80

70

60

50

MMBO

100

file: Portage Most Likely

Det: 21.1
COFs(%): SrcAcc(20) Trap(20) Rsvr(20)

40

30

20

10

10

Risk2000 V5.5
05/08/02 19:41:58 (last save)

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

Risk Information
Probability
Success
Jasper
Montreal
Vancouver

38
54
78

Mean
Volume

Risked
Resource

MES

ERWR

166
45
22

50
18
14

Can you see the answer now?

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 Reserve vs. Risked Reserve
Gross vs. Net
What does the curve look like?
Is the risk data consistent and calibrated?

Amoco 1990 - 1993 Risk Results

Probability of Economic Success
PES %

Probability of Economic Success Ranking

80

70

Commercial Success
60

Quality
50

40

30

20

High Risk
10

Wells

80.

100

Amoco
1994-1998 Risk Results
Probability of Economic Success

Quality

40

60

Dry Hole

20

High Risk

PES %

Commercial Success

Wells

BP* Success Rate:1983 2002

Economic Success Rate
High Risk Wells (<20% TCS)

Onset Formal Risk Assessment

80%
70%
50%

Late 90s >50% Success

Rate

40%

~ 10% High Risk Wells

60%

30%
20%
10%

20
01

19
99

19
97

19
95

19
93

19
91

19
89

19
87

19
85

19
83

0%

Late 80s <20% Success rate

Over 50% High Risk wells
*BP data 83 90, BP + Amoco 90- 98, bp 99 02

BP* Discoveries 1983 - 2001

Discovered Volume
mmboe
2500

Averages

Resources

2000

4 per. Mov. Avg. (Resources)

1500
1000
500

Late 80s

~800 mmboe / year

Early 90s

~<500 mmboe / year

Late 90s ~>1500 mmboe / year

01

00

20

99

20

98

19

97

19

96

19

95

19

94

19

93

19

92

19

91

19

90

19

89

19

88

19

87

19

86

19

85

19

84

19

19

19

83

Year

Driving Choice towards Lower Risk, Larger, Growth Oriented Prospects

*BP +Amoco 83 - 98, bp 99 01

Jasper Risk Model

100
Economic Threshold

90
80

Economic Risk Weighted Reserves

70

Cumulative
Probability
(%)

50.5

60

Mean Econ Success (MES)

50

167

40

Prob Econ Success

30

30

20

400

364

328

file: Jasper Gross

Det: 110
MMBO
COFs(%): SrcAcc(20) SrcPhs(25) Trap(30) Oil Seal(10)

292

256

220

184

148

112

40

76

10

Risk2000 V5.5
05/08/02 19:50:44 (last save)

Montreal Risk Model

100
Economic Limit

90
80

Economic Risk Weighted Reserves

70

Cumulative
Probability
(%)

18.3

60

Mean Econ Success (MES)

50

45

40

Prob Econ Success

30

40

20

120

96

84

72

60

MMBO

108

file: Montreal
Det: 25.6
COFs(%): Trap(25) Rsvr(20) Oil Seal(10)

48

36

24

12

10

Risk2000 V5.5
05/08/02 19:56:50 (last save)

Vancouver Risk model

100
Economic Threshold

90
80

Economic Risk Weighted Reserves

70

Cumulative
Probability
(%)

14.4

60

Mean Econ Success (MES)

50

22

40

Prob Econ Success (PES)

62

30
20

file: Vancouver Stack

MMBO

50

45

40

35

30

25

20

15

10

10

Risk2000 V5.5
05/08/02 20:02:44 (last save)

Risk Information
Probability
Success

Mean
Volume

Risked
Resource

PES
PES

MES

ERWR

Vancouver

30
40
62

55
45
22

15
18
14

Portage

50

35

17

Jasper net
Montreal

Reasonable Choice is Montreal

Do We Have The Answer Now?

TIME
Whats Still Missing?

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!

Portfolio Management Perspective

Historical
Indirect Tie
Individual Cutoffs
(PES, EMV, NPV)

Future
Strategy
Direct Tie
&
Performance
Balanced Financial Measures
Metrics
(Risk, Profit, Growth)

Project by Project Decisions

Sum of Project
Characteristics
Project Ranking

Total
Portfolio
View

Portfolio Decisions
Probability of Achieving
Performance Targets
Portfolio Tradeoffs

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

Lets Look at the 2002 Portfolio

Net Cash Flow Input Data

Negative below the line

Do you see anything unusual?

Yearly Production (mboe/d)

20 14

200 0

Color Coded by Country

Do you see anything unusual?

2002 SPE Portfolio

SPE Model: Economic Discoveries

25

20

Percent of
Cases

15

Predicted
Success Rate = 62%

10

0
file: SPE MultiWell
Risk-weighted: 9.84

Discoveries

10 11 12 13 14 15 16
Risk2000 V5.5
04/10/02 18:13:59 (last save)

SPE Total Portfolio

100
90

Limit Value

80

Cumulative
Probability
(%)

159.2

60
50
40
30
20

file: SPE MultiWell

MMBOE

350

315

280

245

210

175

140

105

70

35

10
0

Expected
Resources = 159 mmboe

Risk Weighted Reserves

70

Risk2000 V5.5
04/11/02 14:41:15 (last save)

Yearly Targets & Long Term Goals

2002 Constraints & Targets

Total Spend $150MM

Well Spend $100MM
Success Rate >55%
Resource Addition 175mmboe

Long Term Goals

Grow Production Rate by 5% per year
Grow Resource Additions by 5% per year
NCF positive in 2006

Net Cash Flow ($MM)

Selected
Portfolio
Portfolio
Selected
Portfolio

Yearly
YearlyTarget
Target

300

NCF ($MM)

200

2000+2001
2000+2001Base
Base

100
0

-100 2000
-200
-300

2003

2006

2009

2012

Portfolio Six Pack

Total Exploration Spend ($MM)

200

Exploration Well Cost ($MM)

150

150

50

0
2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

Total Resources (mmboe)

Missed 2001

200
-200

2014
2012
2010
2008
2006
2004
2002
2000

50

600
400

100

100

250
200
150
100
50
0

Slightly Over Budget

Net Cash Flow ($MM)

-400
F&D/boe

Total Production (mmboe/d)

4

200
150

challenge

100

50

0
2014

Portfolio Selection

2012

Yearly Targets

2010

Base Case

2008

2006

2004

2002

2000

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

2000-2002 Portfolio January 2002 Budget

Total Exploration Spend ($MM)

200

Exploration Well Cost ($MM)

100

100

50

$ available

200
0
2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

Total Resources (mmboe)

400

-200

2014
2012
2010
2008
2006
2004
2002
2000

50

250
200
150
100
50
0

600

150

150

Net Cash Flow ($MM)

-400
F&D/boe

Total Production (mmboe/d)

4

200
150

Problem

100

2003 & 2004

challenge

Possible problem

3
2

50

0
2014

2012

2010

2008

2006

2004

2002

Some major challenges exist

2000

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

June 2002 Status

Total Exploration Spend ($MM)

200

Exploration Well Cost ($MM)

150

150

Slightly Over Budget

50

200
0
2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

Total Resources (mmboe)

-200
-400

F&D/boe

Total Production (mmboe/d)

4

200
Problem

400

2014
2012
2010
2008
2006
2004
2002
2000

50

250
200
150
100
50
0

600

100

100

Net Cash Flow ($MM)

150
100

Big Problem

3
2

50

0
2014

+ Jasper

2012

2010

2008

2006

2004

2002

2000

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

June 2002 Status

Total Exploration Spend ($MM)

200

Exploration Well Cost ($MM)

150

150

50

0
2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

Total Resources (mmboe)

Still a
problem

200
-200

2014
2012
2010
2008
2006
2004
2002
2000

50

600
400

100

100

250
200
150
100
50
0

Slightly Over Budget

Net Cash Flow ($MM)

-400
F&D/boe

Total Production (mmboe/d)

200

150

100

Better

50

0
2014

+ Montreal

2012

2010

2008

2006

2004

2002

2000

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

June 2002 Status

Total Exploration Spend ($MM)

200

Exploration Well Cost ($MM)

150

150

Still high

50

2002 resources
Still a problem

200
0
2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

Total Resources (mmboe)

400

-200

2014
2012
2010
2008
2006
2004
2002
2000

50

250
200
150
100
50
0

600

100

100

Net Cash Flow ($MM)

-400
F&D/boe

Total Production (mmboe/d)

200

150

100

2003 better

50

+ Vancouver

2014

2012

2010

2008

2006

2004

2002

2000

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

June 2002 Status

Small concern

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

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

One Monte Carlo Result

Total Exploration Spend ($MM)

200

Exploration Well Cost ($MM)

150

150

100

100

50

0
2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

Total Resources (mmboe)

250
200
150
100
50
0

F&D/boe

Total Production (mmboe/d)

200
150
100

disaster

400
300
200
100
0
-100
-200
-300

2014
2012
2010
2008
2006
2004
2002
2000

50

Net Cash Flow ($MM)

Impossible to
fill in 2003

50
0

Not good

+ Vancouver

2014

2012

2010

2008

2006

2004

2002

2000

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

June 2002 Status

6
5
4
3
2
1
0

Probability of Achieving Target

43% Chance of
Meeting 2002 Target

Total Resources

Total Production

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

Portfolio Optimization
Constraints (must achieve)
Well Spend < $100MM
Resources > 175mmboe
F&D/boe < $3.50

Maximize
Production in 2004 and 2005

Total Exploration Spend ($MM)

200

Exploration Well Cost ($MM)

150

150

100

100

50

Resources met

On budget

400
200
0

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

Total Resources (mmboe)

250
200
150
100
50
0

600

-200

2014
2012
2010
2008
2006
2004
2002
2000

50

Net Cash Flow ($MM)

-400

Total Production (mmboe/d)

F&D/boe

200

Production

150

achievable

100

50

0
2014

2012

Is this an option you would have considered?

2010

2008

2006

2004

2002

2000

2014
2012
2010
2008
2006
2004
2002
2000

2014
2012
2010
2008
2006
2004
2002
2000

2000-2002 Portfolio June 2002 Drop 3 wells add Jasper & Montreal

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

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

High

Efficient Frontier

EXPECTED RATE OF RETURN

EFFICIENT FRONTIER
B

C
A

Low

Various Portfolios

Low

EXPECTED RISK

High

The efficient frontier: that set of opportunities that has the maximum return
for every given level of risk, or minimum risk for every level of return
Every opportunity on the frontier has either higher return for equal risk or
lower risk for equal return than some portfolio beneath the frontier

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?

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

Deliberate Search for Value

REQUIRES
1.

Integration of Risk Assessment and Portfolio

Management

2.

Understanding the inter-relationships between prospects,

targets and goals

3.

Continually evaluating the impact of time on key

performance measures

Seeing is Believing