The cost of finding hydrocarbons to replace depleting reserves is one of the major concerns of the Canadian petroleum industry. Its importance to the profitability of the industry is self-evident. However, despite this importance, the difficulties incumbent in determining it precisely have either deterred extensive analysis or minimized the value of the analysis that has been done. The purpose of this paper is to outline a methodology estimate Alberta erode oil, natural gas, and crude-oil-equivalent finding costs, to present the results of the analysis, and to identify key implications of these results for both industry and governments.
The determination of finding cost should be a simple calculation: the total exploration costs incurred in discovering reserves divided by the total reserves discovered. However, this simplicity is immediately lost when one tries to match the appropriate expenditures to given discoveries. Moreover, since the initial reserves estimate typically increases as the find is developed, the true size of the discovery is often not known with any degree of certainty until several years afterward.
These factors make an initially simple calculation very complex. Nevertheless, finding costs may be estimated by careful analysis of both the reserves and the expenditures data to determine how they should be employed in the calculation.
Data on reserves by year of discovery are published annually by the Canadian Petroleum Association (CPA). Using a methodology suggested by Arrington and Megill, it is possible to estimate the rate of growth of the initial reserves estimates. Application of this technique using the CPA data for the 1970 to 1983 period indicates that reserves of oil and gas appreciate from the initial estimate by factors slightly greater than 3 (CERI, 1985).
Finding cost calculations can be based on the CPA reserves data. However, the data present some difficulties in that as of year-end 1984, the CPA adopted the reserves estimates of the Alberta Energy Resources Conservation Board (ERCB) for small oil and gas pools, including some small pool discoveries that had previously been excluded from the CPA data. Preliminary analysis indicates that the variations in the initial reserves estimates of the two data sources are now very small given the change in the CPA methodology. Some differences in initial estimates will continue but these could be attributed co the different reporting procedures of the two agencies (e.g., the possible discretionary time lag in reporting discoveries by CPA member companies).
As previously mentioned, the initial reserves booking underestimates the true size of the reserves discovered in that reserves do appreciate as development occurs. One way to account for this is to apply an appreciation rate to the initial booking to estimate the "true size" of the discovery.
An appreciation rate is a measure of the amount by which an initial reserves discovery increases over time and, as such, is a critical factor in the calculation of finding costs.