Economic evaluation of oil well: A simple rule of thumb approach

Abstract

Proper investment analysis is critical to successful business in well development. However the current approach of attempting to list and cost all the equipment, infrastructure and material requirements have been cumbersome and unreliable. In this paper, we have suggested a step-by-step approach that readily provides a full package of relevant economic indicators on oil well investment appraisal. We have proposed a simple approach in the estimation of capital outlay on well development. This is further applied along with the exponential flow rate predicting model and financial management tools to provide a step-by-step approach that generates the Net Present Value (NPV) of an oil well as well as Internal Rate Of Return (IRR). We have also suggested a simple approach to estimation of break-even flow rate. The approach has been illustrated with a hypothetical oil well with an initial annual flow rate of 200,000 barrels, annual rate of decline of 4% and economic limit flow rate of 73,000 barrels. In the above analysis, 10% cost of capital or alternative return on the investment capital has been assumed. An operating drainage cost of US$30 per barrel and price of US$70 per barrel were applied. The analysis yielded a capital outlay of US$13.34 million a Net Present Value (NPV) of US$6.06 million and Internal Rate Of Return (IRR) of 17% showing the declining rate of level of viability of oil wells in view of declining oil price and high cost of oil drainage in Nigeria.

Keywords: Exponential model, Capital outlay, Capital recovery, Net Present Value, Internal Rate of Return, Breakeven flow rate.