COST/BENEFIT ANALYSIS OF A PHYSICAL SALES PRICING AGREEMENT

Client: NYSE listed E&P Company 

 

Problem: The client was considering a pricing formula that would allow them to sell production at the higher of two market locations. The counterparty proposal provided netback pricing formulas for West Texas Intermediate (WTI) and Louisiana Light Sweet (LLS), which would be used to determine the client’s sale price each month. The key issue was whether the discounts imbedded in the pricing formulas favored the client or the counterparty.

 

Solution: R^2 reviewed the details of the proposal and created a valuation model using a range of statistically generated best- and worst-case assumptions. The analysis indicated that the proposal represented a positive valuation ranging from +$22M to +$262M, net to the client. R^2 then compared internal valuations to those provided by a thorough sampling of market makers not involved in this negotiation. The client was presented with the data and our conclusion that the deal would generate a significant lift to revenue for the client.

 

Conclusion: R^2’s team of financial engineers determined that the proposed purchasing agreement represented an attractive opportunity for the client based on historical and forward looking data. By quantifying the cost/benefit of the proposed transaction, senior staff at the client’s firm was able to act with confidence and document the basis for their decision.