Doing my homework on an O&G interview. I read previous threads on E&P valuation/NAV model but am still confused.
So, I'm pretty clear what DCF is: discounting back future FCF and terminal value at WACC to arrive at total asset value. NAV, by definition, is the difference between market value of assets minus market value of liabilities. Market value of assets is estimated by an SOTP of oil reserves and exploration sites.
But how to estimate the value of an oil reserve? What cash flow should I discount (FCF/FCF - interest expense)? at what rate(equity rate of return/WACC)?
My understanding for now is that I should discount FCF generated by a reserve (projected production*oil price - operating costs - royalty - capex - cash tax) at WACC. Then do a SOTP. But if this is the case how does it differ from a DCF?
Correct me if anything above is wrong.
Thanks very much.
The DCF uses assumptions regarding production growth and oil prices like you said. Really all you did in your OP was describe the DCF twice.
NAV differs because you're usually not making as in-depth of an assumption regarding cash flows. Rather, what you typically do is get a feel for the quality of their reserves and apply a multiply to the different types of reserves based on comps for what other reserves have sold for recently. Think of NAV as a comps analysis, only that instead of doing comps on companies, instead, you are doing a SOTP of the value of the reserves based on reserve comps. For example, shale gas reserves will be worth $x/barrel, light sweet onshore will be worth y, heavy sour offshore will be worth z, etc. You find out how much the company has of each (adjusting for P1, P2, P3), and compute a value that way.
Companies will value a specific individual reserve much more in-depth (not going to go into detail since not relevant to what you'll be doing), but since companies tend to own various reserves, you can just ballpark based off the nearest reserve comp.
Of course, these methods are usually mixed and matched according to what data is available, valuation is often just as much art as science.
^^^Btw a similar NAV analysis is often done on drillers. You can value drillers based off their cash flows, or you can compute an NAV based off what each rig is worth (using comps that take into account rig type, age, etc.).
How do I value drillers based off their cash flows? Is it DCF all over again?
So basically NAV valuation of O&G is a combination of DCF and comp?
NAV Valuation for Oil and Gas? (Originally Posted: 04/11/2018)
I have an interview with an Oil and Gas group in the next few weeks and was told to know the general info regarding NAV. Can anyone shed some light? Specifically, what are some big components/factors to the valuation?
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