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Mar 11 2014 Lecture Notes From Slides
Mar 11 2014 Lecture Notes From Slides
ENPE 475
Discounted Cash Flow (DCF) is the basis for all public (and private) oil company valuations Cash Flow:
Revenues less:
Royalties and other Burdens (Eng. Eval.) Operating Costs (Eng. Eval.) Capital Expenditures (Eng. Eval.) General and Administrative Expenses (Corporate) Interest and Bank Charges (Corporate) Income Taxes Cash Basis (Eng. Eval.)
All parameters must be forecast over the ENTIRE evaluation period (could be 30+ years) Need to be able to justify how you are forecasting these parameters!!
ENPE 475
Income Taxes are the final deductions from the wellhead revenue stream for the purposes of Engineering Evaluations Income Taxes include two components
Provincial Income Taxes Federal Income Taxes
Dependent upon the cumulative tax pools of the particular company (CCA, COGPE, CDE, CEE) Calculation Procedure depends on whether income is:
Working Interest (ie., active) Income Royalty (ie., inactive) Income Processing Income (ie., subject to Manufacturers & Processors Tax)
ENPE 475
Considering only Working Interest Income for the purposes of this course, but other types of income have similar procedures Refer to the Income Tax Act (Canada) for more details Income Tax is calculated on Net Taxable Income - NTI NTI = Revenues - Operating Expenses & Overhead - Capital Cost Allowance - Production Royalties (FHPT, etc.) - Crown Royalties - Resource Royalties (GORRs) - Cdn Oil & Gas Property Expense - Cdn Development Expense - Cdn Exploration Expense - Bank Interest NTI can be taken to zero; amounts below zero in any given year must be carried forward to the next year. Large Business (Federal): $50,000,000 Capital Employed Canadian Controlled Private Corporation eligible for Small Business rate
2014 Corporate Income Tax Rates General Federal Alberta BC Manitoba New Brunswick Newfoundland & Labrador Nova Scotia Northwest Territories Nunavut Ontario Prince Edward Island Qubec Saskatchewan Yukon 15% 10% 11% 12% 12% 14% 16% 11.5% 12% 11.5% 16% 11.9% 12% 15% Small Business 11% 3% 2.5% 0% 4.5% 4% 3% 4% 4% 4.5% 4.5% 8% 2% 4% Business Limit $500,000 $500,000 $500,000 $425,000 $500,000 $500,000 $350,000 $500,000 $500,000 $500,000 $500,000 $500,000 $500,000 $500,000
ENPE 475
1. 2. 3. 4. 5. 6. 7.
Deduct Interest on Debt, if any Check NTI <= $0 If Small CCPC: Determine NTI for Small Business Income Threshold (Fed) Purposes If Small CCPC: Apply appropriate Small Business Federal Income Tax Rate to first $500K of NTI - Check NTI <= $0 Apply appropriate Regular Federal Income Tax Rate to NTI (if Small CCPC, only on NTI > $500K) - Check NTI <= $0 If Small: Determine NTI for Small Business Income Threshold (Provincial) Purposes
For Saskatchewan, threshold is $500K
13. 14.
If Small: Apply appropriate Small Business Provincial Income Tax Rate to first $500K of NTI (SK) - Check NTI <= $0 Apply appropriate Regular Provincial Income Tax Rate to NTI (if Small, only on NTI > $500K - Check NTI <= $0
ENPE 475
Example:
Oil and Gas Revenues $10,000,000 Saskatchewan Crown royalties paid (2,000,000) Operating and Overhead costs (excluding interest) (1,500,000) Class 41 Tangible Equipment Expenditures (4,000,000) Canadian Exploration Expenditures (1,000,000) Canadian Development Expenditures - Drilling Costs, etc. (4,000,000) Canadian Oil & Gas Property Expense (2,000,000) Interest on Debt ( 300,000) Before-Tax Cash Flow $(4,800,000)
ENPE 475
1. 2. 3. 4. 5. 6. 7.
Deduct Interest on Debt, if any ($300,000; NTI = $3,300,000) If Small CCPC: Determine NTI for Small Business Income Threshold (Fed) Purposes If Small CCPC: Apply appropriate Small Business Federal Income Tax Rate to first $500K of NTI $500,000 * 0.11 = $55,000 Apply appropriate Regular Federal Income Tax Rate to NTI (if Small CCPC, only on NTI > $500K) ($3,300,000 - $500,000) * 0.15 = $420,000 Total Federal Income Tax Payable (2014): $55,000 + $420,000= $475,000 If Small: Determine NTI for Small Business Income Threshold (Provincial) Purposes
For Saskatchewan, threshold is $500K
13. 14.
If Small: Apply appropriate Small Business Provincial Income Tax Rate to first $500K of NTI (SK) $500,000 * 0.02 = $10,000 Apply appropriate Regular Provincial Income Tax Rate to NTI (if Small, only on NTI > $500K ($3,300,000 - $500,000) * 0.11 = $308,000 Total Provincial (SK) Income Tax Payable (2014): $10,000+ $308,000 = $318,000 Total Federal and Provincial Income Taxes Payable (2014): $475,000 + $318,000 = $793,000 Effective Income Tax Rate (2014): 24.0% ($793,000 / $3,300,000)
St=0 {(A.I.T. CF)t * 1/[(1+i)(t -t +0.5)]} Not a great comparative indicator; doesnt take into account CAPEX level required Eg., NPV (Project A) = $1.0MM NPV (Project B) = $1.0MM BUT. CAPEX (Project A) = $1.0MM CAPEX (Project B) = $0.1MM
n n o
ENPE 475
Discount Rate (i)
Set by the Cost Of Money COM that the company experiences Companies are capitalized with Debt and Equity; the proportion of each, the expected rate of return associated with each, and a provision for risk sets the COM Eg., Company A is capitalized with
2/3 Equity shareholder return expectation is 20% to 30% per year 1/3 Debt Bank return expectation is prime rate plus 1 point, so in the range of 4-6% per year
COM (Co. A) = 2/3 Equity * 21% + 1/3 Debt * 6% + 1% Risk Provision COM (Co. A) = 14% + 2% + 1% = 17% Accordingly, Company A will need to conduct its internal evaluations for projects using a 17% discount rate to ensure that the effect of the Cost Of Money is accounted for Company A will still be responsible for providing public information on its reserves values at the discount rates prescribed in National Instrument 51-101
ENPE 475
Discounted Cash Flow Rate Of Return (DCF ROR) B.I.T. or A.I.T.
The discount rate at which NPV = $0 Can be determined iteratively or graphically Provides an indication of Financial Risk Tolerance (ie., how high can the interest rates go before the project craters financially) Poor comparative indicator, since CAPEX is not considered, and neither is NPV or payout
ENPE 475
Discounted Profit-to-Investment Ratio (DPIR)
Also referred to as Present Value Profit Ratio DPIR = NPV (B.I.T. or A.I.T.) / Disc. CAPEX Excellent comparative indicator because it is essentially independent of CAPEX required, or NPV generated Weakness is that payout period is not considered; strength is that this ratio is a DIRECT comparator from one project to another
ENPE 475
Payout
Simple Payout Period is defined as the amount of time necessary to recapture the initial capital investment out of the projected net operating income Discounted Payout Period is defined as the amount of time necessary to recapture the initial capital investment out of the projected discounted net operating income Poor comparative indicator, since CAPEX is not considered, and neither is return
ENPE 475
All tax and economic indicator calculations pertain to WORKING INTEREST cashflow streams of the client; Gross (ie., 100%) economics can be evaluated on a before-tax basis (for partner information purposes, as an example), but AFTER-TAX calculations must pertain to the particular client only, since his tax situation is unique
ENPE 475
ASSIGNMENT:
Create a tax module for your economics model Create a summary cashflow statement including cashflow B.I.T, Taxes, cashflow A.I.T, and NPVs @ 0%, 10%, 15% and 20% both B.I.T. and A.I.T Due via email to pilgrimenergy@accesscomm.ca prior to 2pm Tuesday March 18, 2014