Assignment Introduction The purpose of this assignment is to have you assess the attractiveness of the oil and gas industry from a variety of perspectives. This is an individual assignment and is...

Assignment Introduction The purpose of this assignment is to have you assess the attractiveness of the oil and gas industry from a variety of perspectives.
This is an individual assignment and is worth 100% of your overall assessment for BSM2519 Oil & Gas Management.
The assignment submission is to be delivered by
9^th
January 2012. Assignment Instructions The assignment is to be carried out individually; neither seek nor accept any advice or guidance from anyone other than the module co-ordinator or relevant academic staff.

You should submit an answer that is a 3500words +/- 10%. Please note that submissions that are too long will be penalised by having one grade deducted. The word count excludes the title page, contents page, reference list and appendices. Please use 12pt Arial font.
The assignment submission must include

• 
  A Title page
  including the Module title, Module reference number and word count of the main body of the finished report.


• 
  A Contents page
  - setting out the structure of the report by producing appropriate headings and subheadings which reflect the different sections.


• 
  Page numbers.

Specific guidance on report structure, quality and referencing standards is located in the Course Assessment Area in Moodle. You are encouraged to use this as your first point of call when sourcing information, or seeking guidance for a specific aspect of constructing your coursework.
Your report should apply theory, models, frameworks, and issues which should be drawn from the whole of the module. It should also include your own research from relevant sources.
Please ensure that:

• All material that has been identified as originally from previously published sources has been properly attributed by the inclusion of an appropriate reference in the text.


• Direct quotations are marked as such (using “quotation marks” at the beginning and end of the selected text), and

Your work should be supported with examples from relevant current journal articles and texts.
The submission must include responses to all of the items set out in the Assignment Tasks below. Assignment Tasks
Background to Task 1

Chevron Texaco (ChevTex) has been evaluating a potential investment opportunity together with an African National Oil Company (ANOC) for some time. ANOC has discovered a large offshore oil and gas field 20km off the Mediterranean coast. Evaluation work has confirmed that field development will require:

• drilling 75 wells;


• developing offshore field facilities for oil and gas processing;


• laying a 20 kilometre pipeline to the coast and a further 200 kilometre pipeline from an onshore reception facility onshore;


• building of a new liquefied natural gas (LNG) terminal.

Although this is a new country entry for ChevTex, the country oil and gas industry is well established. Investment will be through the vehicle of a Production Sharing Contract (PSC) with ANOC. Standard terms for such arrangements with foreign oil companies are in place and are not open for negotiation with new entrant companies. The PSC will have a 25 year duration from signature date to assets being handed over to ANOC.
The PSC terms require the initial investment to be made by ChevTex and capital cost is estimated at £2.5 billion per year for 4 years before any revenue can be secured. It is also anticipated that a further £1 billion will require to be invested by ChevTex after 10 years of production in order to install additional water handling facilities offshore.
Once production commences the field is expected to produce oil at an initial rate of 75,000bpd declining at 5% per annum and gas at a rate of 1,500mmscfpd continuously for the remainder of the 25 years of the PSC (i.e. years 5 to 25 inclusive). There is a 10% range of uncertainty on the estimates of annual production for both oil and gas.
Oil will be shipped by tanker from the onshore reception facility. Gas will be liquefied and shipped to the USA, where it is forecast it can be sold for an average of US$6.80 per standard thousand cubic feet. Operating costs for the offshore and onshore facilities along with shipping costs for both oil and NGLs are assumed to fully variable.
This opportunity has been the subject of extensive work within ChevTex over the past 2 years and is now ready to be presented to the corporate Board as a major investment proposal. A detailed sheet setting out the production and cost estimates together with a summary of the applicable PSC terms for investments into the country is attached.
ChevTex applies a discount rate of 10% to all investment appraisal work in order to achieve comparability across the investment portfolio. You will therefore need to consider and describe specific project delivery risks in a qualitative manner. ANOC is understood to use a discount rate of 12%.

Task 1 (60%)

You are the member of the ChevTex economic evaluation team at the Upstream HQ who is to prepare an investment proposal for the project (Project A) to be considered by the Board. This is in progress but recent work has highlighted another opportunity for investment in the country. You have now been asked to consider both opportunities and make a recommendation to the Board on which should be progressed.
The alternative opportunity (Project B) involves development of a large onshore gas field. The opportunity is of a similar scale to Project A but may have greater upside potential. As evaluation is less mature there are, however, a wider range of uncertainties and a greater number of risks associated with this alternative. An outline description is attached.
The Board has a specific concern around the market for gas. This is due to optimism in the US over the potential for shale gas – this potentially creates a risk that gas from new developments may not realise the price used by ChevTex for evaluating investment proposals.
You are asked to prepare an investment proposal for the Board making a clear recommendation on which of the two opportunities to pursue. There are insufficient funds available to invest in both. Your proposal must state the basis of your assessment and justification for your recommendation.
The investment proposal should include, at a minimum:

• the value to the company of the proposed investment


• a comparison table summarising the two investments in financial terms including any economic indicators helpful to the decision


• the reasons why the selected investment is preferable to the other opportunity which is being rejected


• a view on equitability of the sharing of revenues between ChevTex and ANOC (note: this cannot be changed or renegotiated)


• an indication of the sensitivity of the investment to the range of risks and uncertainties associated with the project


• an indication of the robustness of the development to change in the gas price (this should include an indication of the price below which the project NPV would be zero or less)


• an indication of the potential alternative markets for LNG and the main competitor supplies into those alternative markets. (you should demonstrate research into markets and sources of supply).

You should use the Economic Evaluation spreadsheet provided to undertake any analysis you require to justify your proposals.

Background to Task 2

This part of the assignment requires a change of role. You are now the Business Development Director for an international contractor BUILDCO. BUILDCO is a turnkey contractor, meaning it is able to offer a client a full project service including design, construction, commissioning, project management and operation management. You know that ChevTex has selected their Project A for development. This project will include developing

• onshore oil and gas reception, fluids separation and oil and liquids facilities at the landfall.


• Oil loading facilities for tanker export at the landfall site


• liquefied natural gas (LNG) processing and LNG tanker loading terminal some 200km away.

You understand that the pipeline connecting the landfall facilities to the LNG terminal will be constructed by others.
Completion of all the work is on the critical path for the project and delay and/or failure to perform will have a significant impact on overall project economics.
You believe that ChevTex’s plan for the project is to contract the facilities building with a single company who will have the following scope.

Scope element	Description	% of contract total
1	Engineering Design	Design of the landfall facilities (oil and gas separation, oil clean up, oil tanker loading) and the LNG plant and LNG tanker loading some 200 km away.	10 %
2	Procurement	All materials identified in step 1, from major equipment items, such as compressors and pumps, to minor items like cables and cement.	30%
3	Plant construction	Building, testing, commissioning and start-up of the landfall facilities and LNG terminal	55%
4	Operate (optional)	Run and maintain the plants and pipeline for the first 5 years of its operation	5 %

The selected sites for the landfall facilities and the LNG terminal lie close to populated areas and sites of significant historical and environmental interest.

Task 2 (40%)

In preparation for receiving the tender from ChevTex, create a list of capabilities and characteristics that BUILDCO, as a potential turnkey contractor, will have to exhibit in order to convince ChevTex that your company is capable of delivering all of scope 1-4 above. Indicate the relative weighting of the criteria you identify.
From a commercial perspective you will want to make a particularly strong case for BUILDCO to be awarded scope items 2 (opportunity for high margins) and 4 (opportunity for long term income streams and currently optional scope) but you also have to be able to demonstrate that the company has the capability to do the entire job.
(Answering this question should demonstrate research into the characteristics of the international turnkey contractor market)
Compare and contrast the contract types that might be applied to this work e.g. lump sums, schedule of rates, reimbursable, incentivised, etc) indicating their strengths and weaknesses for you as the contractor.
Consider and describe an incentive scheme that will differentiate BUILDCO’s offer and will increase the likelihood of delivering the project for less than the budgeted cost and on schedule.
Consider and describe how poor performance of the pipeline laying company (currently proposed to be directly engaged by ChevTex) might be contractually handled between yourselves and ChevTex.

Appendix – Project Data


Project A – Production, Costs and PSC Terms

Oil production – initial rate of 75,000 bopd declining at 5% per annum
Gas production – continuous rate of 1,500 million scfd
Both oil & gas production to commence on completion of construction at the beginning of PSC year 5 and subject to +/- 10% range on rates.
Capital costs - £2.5bn per annum for 4 years from PSC commencement date. The breakdown of each year’s capital spend estimate is:

• Offshore facilities construction - £1.0bn


• Offshore pipeline construction - £0.25bn


• Drilling costs - £0.75bn


• LNG terminal construction - £0.4bn


• Onshore pipeline construction - £0.1bn

Operating costs – these are fully variable with production as follows:

• Oil facilities opex - £1/bbl throughput


• Gas facilities opex - £54.75/million scf throughput


• LNG facility opex - £54.75/million scf gas throughput


• Oil shipping costs - £1/bbl transported


• LNG shipping costs - £100/million scf transported

PSC terms – there is a signature bonus payable on acceptance of £10m. Royalty payable on all oil production and 50% of gas production at rates variable from 3% to 15% dependent on daily production rates. ChevTex share of revenues net of royalty is variable from 70% to 90% dependent on an ‘R’ factor calculated from cumulative revenues and costs. 20% tax payable on profits from activity. (Note – PSC terms already fully modelled in the Economic Evaluation spreadsheet provided for analysis work).

Project B – Project Description

The base case for Project B involves drilling 100 wells and constructing onshore gas processing facilities in a remote part of the country. This is a step out from an already developed gas province into a more volatile area where disputes with sections of the local population have resulted in some terrorist activity. To resolve local tensions, ANOC has agreed that liquids extracted in the course of gas production will be extracted and refined (at ANOC sole cost) for delivery to the local population as fuel.
There is uncertainty over reservoir flow properties. This means there is a 33% chance that annual production rates will be curtailed by 40% from the estimates used in the assessment of production potential. There is also, however, another similar structure within the PSC area. If found to contain gas, this will deliver similar production rates to the base case for the known accumulation and success probability is estimated at 40% with no concerns over reservoir flow properties.
There is no need to build pipelines to transport gas to the LNG terminal which is to be built. The operator of the adjacent province has oversized the export pipeline in anticipation of further development in the region and will transport the gas for a tariff. There is currently sufficient ullage available to meet all of the throughput requirements of the project. The LNG facility can be constructed close to the pipeline’s termination point. PSC terms are identical to those set out above for Project A.

Project B – Production and Costs

Base case prodn – 1,750 million scfd from PSC year 5 (net 40% prob)
Curtailed prodn – 1,050 million scfd from PSC year 5 (net 20% prob)
Upside prodn – adnl 1,750 million scfd from PSC year 10 (net 40% prob)
(Note: it will be necessary to evaluate each case separately and compute a risk weighted NPV from the 3 deterministic cases based on probability.)
Capital costs - £1.8bn per annum for 4 years from PSC commencement date. The breakdown of each year’s capital spend estimate is:

• Facilities construction - £0.7bn


• Drilling costs - £0.7bn


• LNG terminal construction - £0.4bn

These capital costs apply for both base and curtailed cases. In the event of development of the additional structure, further capital costs will be incurred over another 4 years commencing PSC year 6 – costs will be 50% of those for the original development for each component.
Operating costs – these are fully variable with production as follows:

• Gas facilities opex - £54.75/million scf throughput


• Gas pipeline tariffs - £54.75/million scf throughput


• LNG facility opex - £54.75/million scf gas throughput


• LNG shipping costs - £100/million scf transported

Criteria	A weak answer would have these attributes	A strong answer would have these attributes	Maximum available marks
1 (60%) Prepare an investment proposal for the Board making a clear recommendation on which of the two opportunities to pursue.	Provides a clear recommendation on which proposal to pursue. Does not provide sufficient supporting detail to offer a good justification for the choice made. Considers each issue as independent of other issues. No or limited attempt at making cause and effect linkages. Limited discussion of proposed investment with an overemphasis on theory and limited or no use of economic indicators to support the argument. Makes single proposal and no attempt at sensitivity analysis to support range of choices together with rationale for proposed course. Limited or no use of evaluation spreadsheet. Little or no evidence of research on topic of the emerging global market for LNG deliveries. Limited or no consideration of market supply issues and alternative sources of LNG supply.	Demonstrates capacity to view situation from perspective of role outlined in case. Demonstrates capacity to consider a balance of quantitative economic and qualitative risk related issues for the business environment in which the company is operating. Describes the expected range around the expected outcomes and use evaluation spreadsheet to determine sensitivities. Provides a detailed assessment of the most important risk issues at play drawing on a comprehensive analysis of the case and explains why these are important. Confidently uses the evaluation spreadsheet to show the comparative potential returns and uses sensitivity analysis to model range of outcomes linked to quantitative upsides, downsides and follow on opportunities. Assessment of gas market influences in the US and impact on new sources of LNG. Demonstrates research on markets for LNG across different geographical areas and an understanding of competitor sources of LNG supply and the geopolitical significance of new LNG developments.	60
2 (40%) Draw up, and provide a rationale for, a list of the capabilities and characteristics BUILDCO, as a potential pipeline contractor, will have to exhibit to win the work. Describe the type(s) of contract (e.g. lump sum, schedule of rates, reimbursable) that BUILDCO might be asked to negotiate on	Provides a list of key criteria in the form of bullet points with no explanation of relative importance. Does not provide any supporting detail. Considers each issue as independent of other issues. Little or no evidence of research on nature of pipeline construction business. Little or no analysis of specific challenges and opportunities outlined in the case. Provides a list of contract types in the form of bullet points demonstrating little evidence of understanding their nature or critically analysing their suitability for this case or for the selected service being delivered. Does not provide any supporting detail.	Demonstrates capacity to change role and view situation from perspective of new role outlined in this part of case. Provides a well defined list of criteria in ranked order with clear analysis of choices made. Critically analyses issues specific to case and makes informed judgement identifying trade offs and risks inherent in proposal. Demonstrates clear understanding of different contract types and their generic applicability. Provides a detailed assessment of the potential issues at play drawing on a comprehensive analysis of the case and explains why these issues are considered to be important. Demonstrates a strong appreciation of the risks requiring to be managed for selected contract type. Offers a credible incentive model with a clearly argued rationale for selection.	40