Valuing Reserves in a Volatile Oil & Gas Market

With few certainties in the last 15 months, there has been one in the oil and gas industry – volatility!  Commodity prices have had huge swings.  Who would have predicted in April 2020 when the WTI closed just under $19 per barrel that in 14 months the closing price would be over $75 per barrel? How many firms divested or shut down operations of their oil and gas properties in the first half of 2020 only to see a huge spike in prices a year later?  Even more recently, the WTI spot rate at December 31, 2020 was $47.02 while the NYMEX strip pricing at December 31, 2020 had crude no higher than $41 through 2024.  Yet, here we are in July 2021 with the WTI hovering around $70 per barrel.

Commodity prices are a critical driver in determining the fair market value of an investment in the mineral assets.  One thing to keep in mind is that valuations are forward looking.  No one has a crystal ball, so the use of estimates is required. The fluctuations in prices can make valuations of reserves quickly obsolete with huge swings in the price of commodities. This volatility puts added pressure on the valuation and fair value measurements for investments in oil and gas reserves. 

Why do investors or company management teams need valuations performed for these assets? There are a variety of reasons. It could be to measure fair value of the assets in an acquisition or emergence from bankruptcy, impairment of assets (goodwill or tangible assets), capital planning or strategic decision making.

Regardless of what method is used to value the investment in mineral assets, commodity prices have an impact. When using the market approach, a drop in commodity prices can put downward pressure on traded multiples or transaction prices.  Adjustments can be made to these historical multiples to see the affect in different price environments. Likewise, a valuation practitioner can run simulations (such as Monte Carlo) to estimate the price of oil and gas based on historical prices and volatility assumptions.  This simulation can then be used in a detailed discounted cash flow analysis projecting oil and gas produced quantities and prices under different scenarios to see how these outcomes might affect the fair value of the assets.

With the difficulty in estimating Fair Value in this volatile price environment, we have the following recommendations for investors or executives when the fair value of mineral assets is needed:

  1. Update valuations quarterly during periods of high volatility.
  2. Confirm other estimates used (volume or production estimates) if they are more predictable.
  3. Perform sensitivity analysis regarding certain volatile assumptions (e.g. future prices). 
  4. Perform price simulations as well as scenario analyses. 
  5. Maintain perspective that there is market over-reaction.  In the long term, markets tend to be efficient, in the short term they tend to be more volatile. 


Our Valuation Team

Our trained and experienced valuation professionals hold business valuation certifications issued by national appraisal societies including: the American Society of Appraisers (ASA), the American Institute of Certified Public Accountants (AICPA), and the National Association of Certified Valuation Analysts (NACVA). Our experience and credentials enable us to perform the diverse range of valuations including but not limited to those involving marital dissolutions, commercial litigation, fair value measurements for financial reporting, tax reporting, bankruptcy, insolvency, and restructuring, employee stock ownership plans (ESOPS), mergers, acquisitions, and reorganizations, buy/sell agreements, and ownership transactions. Read more here.


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Jamie Burress

Forensic, Litigation & Valuation Managing Director