American Oil and Gas Reporter - January 2017 - 53

Outlook 2017
The final months of 2016 saw acquisition deals from the likes

Q: of Anadarko, EOG Resources, Oxy, Concho Resources, Cal-

lon, and RSP Permian, as well as small players such as Krewe
Energy, Silver Run, and Charger Shale Oil. What are the challenges specific to smaller companies in evaluating reserves? If
timing is everything in acquisition deal making, how can smaller companies with limited personnel and less capital to risk level the playing field with respect to both speed and accuracy?
RUSSELL: First, with limited personnel and capital, small
companies must be selective in investing in evaluation efforts; time
spent on failed bids means other profitable work is delayed, or
worse, left undone. They also should follow the guidance on
screening. This includes examining the competition for acquiring a property and avoiding "fighting a big dog in his own backyard," or in other words, outbidding a large company with neighboring operations that can easily (and cheaply) operate the target property with small incremental cost. The key is for small firms
to target properties where they are as much the "natural owner"
as any competitor, or better yet, where they are clearly the natural owner.
Second, they should not worry about reserves until they have
found the right candidate(s), but they should take the time for full
economics on each well. Forecasting and evaluating wells as a
group can lead to misleading results. Undeveloped resources typically are assessed using type wells that usually are reliable when
constructed using both history and forecast. Do not trust type wells
that use history only.
Third, remember that not all evaluation software (forecasting,
economics and reserves) is created equal. Traditional software used
by large U.S. companies was created 40 or more years ago and was
designed to evaluate one well at a time. Modern software is designed
to evaluate thousands of wells at a time. This design difference creates productivity improvements that can be as much as 10-fold. Small
companies are agile enough to realize this benefit.
It also is important to look for assisted forecasting that works.
Most software has assisted forecasting, but the results are not particularly good, compared with what an engineer would accept if
he was to forecast manually. A good assisted-forecast algorithm
should meet internal standards 90-95 percent of the time, requiring the analyst to tweak only a few wells.
Finally, when negotiating a transaction, remember that arguments usually come down to price. From my experience, those with
high success in closing deals look for things other than price to
create a win/win. It is important to take the time to know the seller so a deal can be structured that looks at the seller's other needs.
From the buyer's perspective, what best practices and pro-

Q: cedures are most important to ensuring accurate evaluations

of reserves in place and identifying upside potential? What can
potential buyers do today to ensure they have the right workflows
in place to facilitate property evaluations as deals become available? On the other side of the ledger, how can a seller be certain
an offer represents fair market value?
RUSSELL: The principle of "buyer beware" is important to
remember in any purchase decision. Buyers must be properly cau-

tious with proprietary third-party reports or reserve house audits.
Is it explained why that evaluator was chosen? What experience
does it have with the properties or the area? The acquiring company should review the reports/audits and use them to inform itself, while keeping in mind that although intended as independent results, a reserve evaluation is always subjective. That thirdparty evaluation likely was done from the perspective of the seller's business, its strengths and its goals, so any report prepared
for a disposition may reflect the seller's viewpoint.
Even without this possible situation, offers against a reserve
report always will go to the buyer with the highest price deck and
the most money to spend. Instead, companies should look for real
opportunities that will permit them to bid higher because they have
found more value.
Any workflow should consider both the "micro" and "macro"
levels, or in other words, in detail as well as at a higher level. Let
us examine the micro considerations first. Individual technical staff
will focus on their parts of the evaluation with this guidance. If
the seller has proprietary data, those data would be used in preference to public data. Of importance is the producing hours for
each well, better allocation of production to wells, daily data, and
completion details.
I always start with an assisted forecast of all wells, followed
by a review and subsequent adjustment of the forecasts I do not
like. Regional operating costs then are assigned to create a firstcut economic value that is about 90 percent accurate. Generally, this takes about two hours per 1,000 wells. With more than 1,000
wells, I omit the initial forecast adjustment, which results in an
80 percent solution.
If the acquisition is friendly, I would compare my results with
the company's reserve report to identify any discrepancies. This
sometimes triggers a go/no-go decision if agreement cannot be
reached on the producing value.
Undeveloped assets are valued using type well profiles combined with a rudimentary drilling schedule. If there is a difference
in type well profiles, it usually is the result of incorrect type well
construction methods or using nonrepresentative wells to build
the type well.
When it is determined that the evaluation is close enough that
a deal is possible, then production forecasts are refined, lease operating statements are reviewed to get proper ratios of secondary
products, costs, shrinkage and price offsets. Land records are examined to refine burdens. Finally, the development will be examined closely to identify upside that may be unknown to the seller.
At the macro level, I try to consider broader trends in the data
and ensure consistency in the individual staff work. Individual evaluation areas may not have sufficient data to find such trends, but
across the entire acquisition, the trends may be evident. Examples could be poor performance of wells completed during a period when a new completion was being tried (including frac jobs
that connect with neighboring wells). Typically, a seller will undertake the same evaluation process, but that would have been done
as part of the reserves process.
Decline and material balance forecasting software with an-

Q: alytical tools for economic modeling and risk management

have become the new standard in reserves evaluations. But any
evaluation is only as good as the data input into the process. What
JANUARY 2017 53

American Oil and Gas Reporter - January 2017

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