Our approach to the valuation of investment opportunities is based on the Petroleum Resource Management System (“PRMS”). PRMS is a fully integrated system that is focused primarily on estimated recoverable sales quantities. It is based on an explicit distinction between the chance or commerciality of the development project that has been or will be implemented to recover petroleum and the range of uncertainty in the petroleum quantities that are forecast to be produced and sold in the future from the development project. Each project is classified according to its maturity or status, broadly corresponding to its chance of commerciality, using three main classes: Reserves, Contingent Resources, and Prospective Resources. (Figure 12)

The decision to invest in a project is made based on the evaluation of estimated recoverable sales quantities (and the range of uncertainty in that estimate) as well as the assessment of future costs related to the production, processing, and transportation facilities that enable the delivery of petroleum from the accumulation to a product sales point (or to an internal transfer point between upstream operations and midstream/downstream operations). A project may involve the development of a single petroleum accumulation, or a group of accumulations, or there may be more than one project implemented on a single accumulation. Examples of projects include: a development plan that is based on a primary recovery only, a development plan for a single well, the installation of a gas-compression facility that will require economic justification and capital commitment decision, etc..

Projects may change in character over time and can aggregate or subdivide. For example, a development project may be considered by the current owners as a single project. But, after studying all the data, and due to the level of uncertainty, our team may decide that is more prudent to implement a pilot project first. The current concept of a single field development is transformed into two separate projects: the pilot project and the subsequent development of the remainder of the field, with the later project contingent on the successful outcome of the first.

For almost all projects, there will be some uncertainty in both the estimated in-place quantities and in recovery efficiency, as well as commercial risks. If the project satisfies all the criteria for Reserves, the low, best, and high estimates are designated as Proved (“1P”), Proved plus Probable (“2P”), and Proved plus Probable plus Possible (“3P”) respectively. (The three estimates may be based on deterministic methods or probabilistic methods.) For very mature producing projects, it may be considered that there is such a small range of uncertainty in estimated remaining recoverable quantities that 1P, 2P, and 3P reserves can be assumed equal. Typically this approach is used where a producing well has sufficient long-term history that a forecast based on decline curve analysis is considered to be subject to relatively little uncertainty. Any assumption that the uncertainty is not material to the estimate should be carefully considered, and the basis for the assumption should be fully documented, because, in reality, the range of uncertainty is never zero, especially when considered in the context of remaining quantities.

Figure 12. Petroleum resource classification framework based on PRMS.(SPE, 2011).

Commercial risk can be expressed quantitatively in PRMS as the chance of commerciality which is defined as the product of two risk components: the chance of discovery (the chance that a potential accumulation will result in the discovery of petroleum), and the chance of development (the chance that, once discovered, the accumulation will be commercially developed. Because Reserves and Contingent Resources are only attributable to discovered accumulations, and hence the chance of discovery is 100%, the chance of commerciality becomes equivalent to the chance of development. For a project to be assigned Reserves, there should be a very high probability that it will proceed to commercial development i.e. very little, if any, commercial risk. Hence, commercial risk is ignored in the estimation and reporting of Reserves. However, for projects with Contingent or Prospective Resources, the commercial risk is likely to be quite significant and should always be carefully considered and documented.