American Institute of Mining, Metallurgical, and Petroleum Engineers, Inc.
The paper examines the impact of current petroleum economics on the valuation procedures used by banks to determine the value of oil and gas properties for production loan purposes. properties for production loan purposes. In the past determination of collateral value and debt repayment ability was generally made using rule of thumb methods derived from actual lease sales during periods of economic stability. Increasing oil prices, FEA price regulations, and cost inflation have made former rules unreliable for determining current property values. The paper studies the Rate of Return discount method as a means of relating Fair Market Value determinations to prevailing economic conditions.
The paper expands on previous work by developing a variable discount rate system for determination of the appropriate Rate of Return for discounting. The variable system combines long-term projections of prime lending rate and projections of prime lending rate and investment interest rate with historical industry earning trends. The variable system allows the Rate of Return method of valuation to be applied to all properties regardless of economic category properties regardless of economic category or location. The addition to the system of lending and investment rates in foreign countries along with a country risk factor allows the variable rate approach to be used in foreign property valuations.
The techniques described in the paper are primarily designed to provide the production loan borrower a means of production loan borrower a means of evaluating the financing potential of his existing properties. Secondary applications include the general determination of the value of properties for sale or acquisition. The paper concludes that traditional rule of thumb models based on historical lease sales are unreliable in terms of prevailing economic conditions and both domestic and foreign regulation and tax structures.