The Oil and Gas sector is broadly divided into upstream, midstream and downstream segments.
• The upstream companies focus on the exploration and extraction of oil
• Midstream companies transport the crude from the oil fields to the refinery
• Downstream companies refine the crude oil and market the end products to consumers.
Some companies are involved in all the above segments and are termed as Integrated oil e.g ExxonMobil, Royal Dutch Shell etc.
Crude Oil classification
• Sweet / Sour : Depends on the amount of sulphur content of the crude. Lower the sulphur content, sweeter is the crude grade
• Light / Heavy : Depends on the proportion of high value outputs produced on refining. Light crude will produce more quantity of diesel, petrol etc. that fetch higher price in the markets.
Light sweet crude will be costlier than Heavy sour crude. Brent crude is an example of light sweet crude.
• Straight Run or Hydroskimming – Crude oil is refined through a vacuum distillation process • Complex Refinery – Heavy oil, produced during straight crude oil processing, is further processed to produce higher proportion of lighter output products such as Diesel, Petrol, Kerosene, etc.
Complexity of the refinery is expressed by the Nelson Complexity Index (NCI). Higher the NCI value, greater is the complexity of the refinery. It also indicates ability of the refinery to process more quantity of heavy variety of crude. NCI of Reliance’s Jamnagar refinery is close to 14.
Refinery margins signify the profitability of a refinery. It is calculated as the value of the refinery output less the value of crude processed less the crude processing cost.
Analysis of valuation drivers
The Oil and Gas company valuations are highly sensitive to the global news-flows since oil as a commodity reacts sharply to international developments.
The key valuation drivers for the upstream companies are
• Price of the crude oil
• Amount of crude oil extracted and available for sale
• Reserves and resources owned by companies
• Energy demand
• New wells explored
• Quality of reserve – sweet / sour, Light / Heavy etc.
• Geographies where the company has a presence
The key revenue drivers for the downstream companies are
• Price of the crude oil
• Amount of crude oil extracted and processed
• Prices of the processed crude output
• Marketing outlets
• Growth in refinery margins
• Increased petrochemical products demand
• Fall in oil prices
• Political pressure for royalty payments
• War among countries
• Terrorist attack
• Currency fluctuation
Valuation metric to be used
• Oil wells are valued as independent assets depending upon the oil reserves they have and the production rates and oil prices expected. Discounted cashflow is used to calculate the valuation of each oil field.
• Another approach is to use the oilfield valuation as available with proprietary databases like Wood Mackenzie.
• Refinery valuation is based on the discounted cashflow of the refinery profits.
• Relative valuation multiple can be also used.
o Oil fields can be valued using the Price / boe reserves multiple. (boe = barrels of oil equivalent).
o Refinery is valued using the Price / Refining capacity
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