11.
ECONOMIC EVALUATION OF WATERFLOOD PROJECTS
In this section a simple methodology for economic evaluation of a proposed waterflood
project will be presented. This will not be a comprehensive description of economic analysis theory
and practice but will cover only the basics. However, most waterflood projects can be analyzed with
these techniques. Before discussing the economics of waterflooding, essential economic parameters
and terms used in economic evaluations will be defined.
11.1 DEFINITION OF ECONOMIC PARAMETERS
11.1.1 Cash Flow
Cash flow can be defined as the difference between revenues received and cash dispersed
over a given time period. All cash exchanges (only cash exchanges and not future promises) are
included in the cash flow analysis.
11.1.2 Present Worth
The present worth concept is needed to account for the time value of money. It does so
by "discounting" the value of future dollars. Discounting is the process of calculating the current
(or present) value of a future dollar received or spent, taking into account the applicable interest
rate. For example one dollar invested today at 12% interest (compounded annually) will yield
$3.11 in 10 years. Conversely, one dollar to be received 10 years from now is worth (1/3.11 =
0.32) only 32 cents today. Hence the discount factor for 12% rate, compounded annually for ten
years is 0.32. The present-worth value of future cash flows at a given interest rate (discount rate)
is the sum of the discounted cash flows. Discount factor tabulations are widely available for
different interest rates and different compounding techniques (e.g. continuously or at discrete
points in time) over various time periods. Equation 11.1 can be used for calculating the discount
factors when discrete compounding is used.
1
DF = (11.1)
(1 + i )n
where
DF = Discount factor.
i = interest rate per compounding period, fraction,
n = number of compounding periods.
An example of this calculation is shown in Table 11.1. The initial investment in this case
occurs at the beginning of year 1. The income is received continuously and continuous
Waterflooding – Theory and Practical Considerations
compounding is used in discount factors. The present worth value discounted at 12% (compounded
continuously) for this project is $1,560.
Table ll.1 Present-worth value calculation.
Cash Flow Discount Factor @ 12% Discounted Cash Flow
Year $ $
Initial Investment -8,000.00 1.00 -8,000.00
1 4,000.00 0.94 3,760.00
2 3,000.00 0.83 2,490.00
3 2,000.00 0.74 1,480.00
4 1,500.00 0.66 990.00
5 1,000.00 0.58 580.00
6 500.00 0.52 260.00
Present-worth Value $1,560.00
Table ll.2 Investors rate of return calculation.
Cash Flow Discounted Cash Flow
Year $ 15% Rate 20% Rate 23% Rate
Initial -8,000 -8,000 -8,000 -8,000
1988 4,000 3,714 3,625 3,573
1989 3,000 2,398 2,226 2,129
1990 2,000 1,376 1,215 1,129
1991 1,500 888 746 672
1992 1,000 510 407 356
1993 500 219 167 141
Present-worth value 1105 386 0
11.1.3 Investors Rate of Return
The investors rate of return is the discount rate at which the sum of the discounted cash flows
(excluding investments) equals the investment or at which the total present worth (including
investment) equals zero. The calculation procedure involves calculating the total present worth at
different discount rates and using trial and error to find the discount rate which gives zero total
present worth. This calculation can be done rapidly on a PC using a worksheet program. Table 11.2
shows such a calculation for the cash flow example presented in Table 11.1. The investors rate of
return in this example is 23%.
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Waterflooding – Theory and Practical Considerations
11.1.4 Investment Efficiency
Investment efficiency is the measure of present worth per dollar invested. It may also be
called the present-worth index or profitability index. This parameter is most useful for capital
allocation among alternative projects. It is calculated by dividing the present worth value by the
investment amount. Generally, values should be in the 0.5 to 0.75 range or higher to be considered
attractive.
11.1.5 Payout Period
Payout period is the length of time required for the income from the project (discounted cash
flow excluding investment) to recover the investment. Another way to put this is that payout period
is the length of time after the initial investment that it takes the cumulative discounted cash flow to
equal zero. The weakness of this parameter is that it tells nothing about what happens after payout.
Table ll.3 Payout period calculation.
Discounted Cash Flow ($)
Year Annual Cumulative
Initial -8,000 -8,000
1988 3,760 -4,240
1989 2,490 -1,750
1990 1,480 -270
First 3.3 months of 1991 270 0
Remainder of 1991 720 +720
Payout period is calculated by summing the discounted cash flows by year (or month or any
other time period) until the total equals zero. For the example of Table 11.1, the calculation for a
12% interest rate is shown in Table 11.3. The payout period discounted at 12% is 3 years and 3.3
months. The payout period is sometimes calculated with cumulative, undiscounted cash flow.
Obviously this is not very useful since it does not consider the time value of money.
Table ll.4 Typical Capital Expenditures in a Waterflood.
Source or Supply of Water
Wells -- drill and equip
Surface -- intakes and equipment
Gathering and Treatment
Lines, manifolds, controls, and pumps
Treating -- skimmers, deaerattors, and filters
Injection
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Waterflooding – Theory and Practical Considerations
Booster/injection pumps and prime movers
Controls, instrumentation, electrical system, and fuel system
Suction and discharge piping
Foundations, buildings, tanks, and safety equipment.
Distribution
Lines, manifolds, controls and instrumentation.
Injection wells
Drill and equip
Workovers
Profile control work
Production wells
Drill and equip
Workovers
Profile control work
Add or upgrade artificial lift equipment
Production facilities
Construction and upgrading of process systems, including gathering lines, liquid and gas
treating facilities, and test equipment
Automation and telemetry systems
11.1.6 Profit-to-Investment Ratio
This is an undiscounted parameter that is simply the ratio of the total cash flow without
investment divided by the total investment. The weakness of this parameter is that the timing of
investments and incomes is not taken into account. Although it is often used, this parameter is not
very useful for making decisions. The profit to investment ratio of the example in Table 11.1 would
be calculated as profit/investment = (4,000 + 3,000 + 2,000 + 1,500 + 1,000 + 500)/8000. Therefore
the ratio would be 1.5 for this project. Note that this ratio is not affected by the prevailing interest
rate, since it ignores the time value of money.
Table 11.5 Example of a waterflood capital cost estimate.
Water supply -- Convert well No. 5 to source well
Well workover 32,000
New tubing string 11,500
Electrical submersible pump 60,000
Miscellaneous 15,000
------------
118,500
Contingencies 15,500
Subtotal $134,000
Injection Facility
Injection pumps, motors, controls and associated piping and electrical equipment in insulated
building 160,000
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Waterflooding – Theory and Practical Considerations
Source water tank 13,500
Produced water tank 17,500
Location preparation 10,000
Electrical Power system 14,000
Piping 12,000
Trucking 2,500
Miscellaneous 10,000
-----------
239,000
Contingencies 35,500
Subtotal $275,000
Injection Distribution System
Plastic coated steel pipe 65,000
Laying cost and labour 27,500
Trucking 3,000
Damage claim by landowner 7,000
Miscellaneous 13,000
-----------
115,000
Contingencies 17,000
Subtotal $132,500
Injection Wells -- Convert Wells No. 1, 2, 4, and A-4 to injection
Well workover costs 93,000
New tubing 162,000
Wellheads 15,000
Miscellaneous 21,000
-----------
291,000
Contingencies 98,500
Subtotal $389,500
Revision of Production System
Consolidate batteries with new lines 54,700
New treater and free water knockout 47,000
New insulted building and location 25,000
Damage claims 4,200
Trucking 3,000
Miscellaneous 12,500
----------
146,400
Contingencies 63,600
Subtotal $210,000
Grand Total $1,141,000
11.2 System Cost Estimation
The two principal cost types to be included in the economic analysis of waterflooding are:
(1) capital costs and (2) operating expenses. These costs are treated differently and must be kept
separate, especially for tax calculations.
11.2.1 Capital Costs
The major costs associated with initiating a waterflooding project are capital investments. A
typical list of the capital expenditures that may be required in a waterflood are listed in Table 11.4.
All costs incurred before the start of waterflood, whether major purchases or small expenses, should
be included in capital investment. The timing of investments also needs to be considered to develop
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Waterflooding – Theory and Practical Considerations
a cash flow tabulation for the evaluation.
Costs should be determined with reasonable accuracy. Sources of cost information include
recent quotations for equipment and installations, manufacturers and their representatives, local
construction firms and in-house purchasing agents. It is also a good idea to include some
contingency funds. For major purchases, such as turbines, pumps, treating systems etc., a
contingency factor of 5 to 7 % should be adequate. For other expenses a contingency allowance of
15 to 25 % is recommended. An example of a cost estimate for a water flood (dated 1985) is shown
in Table 11.5. Because of the uncertainties about the condition of wells and the tank batteries, a high
contingency allowance was included in this estimate.
11.2.2 Operating Costs
The cost of operating the waterflood must also be taken into account in the economic
evaluation. The important factor is the incremental cost compared with the continuation of primary
production. Operating costs for the properties before waterflooding can be averaged to get an
estimate for the cost per barrel of fluid produced under the primary phase. These costs, multiplied
by the remaining primary production can be subtracted from the estimated waterflood operating cost
to get the incremental values.
The three major cost categories are: (1) obtaining and treating water; (2) the pump station
and injection system expenses; and (3) production operations. Estimating these costs is best done
with comparable values from other similar waterfloods in nearby fields. Generally, parameters such
as the cost per barrel of source water produced, water treated, water injected, and fluid produced can
be applied to the predicted waterflood volumes to estimate operating costs for the waterflood. The
expense estimates should be increased in future years to account for inflation.
The additional costs for processing difficult emulsions and sour-gas (H2S) operations must
be included in operating costs if appropriate. As a general rule, one should guard against
underestimating, not overestimating, future operating expenses.
When the operating costs (including taxes and overhead) have been estimated, the
incremental costs are calculated by subtracting the cost of continuing the primary production on a
year by year basis. Having estimated the investment and incremental expense of the waterflood and
knowing the waterflood production and revenue predictions, economic evaluation of the project can
be made.
Table ll.6 Economic evaluation showing cash flow.
Parameter Year Year Year Year Year Year 6
1 2 3 4 5 to End of Flood
Oil Production, bbl
Gas Production, Mcf
Revenues, dollars
Investments, dollars
Operating Costs, dollars
Overhead costs, dollars
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Waterflooding – Theory and Practical Considerations
Taxes, dollars
Cash flow, dollars
11.3 Calculations and Presentation
Generally, the best method of presenting the economic evaluation is in the form of tabular
data showing the cash flow of waterflood project by the year and listing various criteria that can be
developed from these data. A tabular presentation will usually include columns of data with
headings as shown in Table 11.6. Discounted cash flow calculations are included in this type of
table. A summary of the economic parameters -- including present-worth value, rate of return on
investment, total incremental oil, total investment and payout period -- should also be presented. An
example of such a listing is shown in Table 11.7. Table 11.8 shows an example of calculations that
are summarized by tabulations such as those in Tables 11.6 & 11.7.
Figure ll.1 Triangular probability distribution for sensitivity calculations.
Table ll.7 An example of economic summary.
Oil Price ($/bbl)
10 15 20
3
Gross oil, 10 bbl 2,531 2,978 2,993
3
Gross Investment, 10 dollars 1,141 1,141 1,141
Payout, years 0.79 0.61 0.51
Profit/Investment Ratio 9.0 18.2 28.0
Investors rate of return, % >100 >100 >100
Present value, 106 dollars
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Waterflooding – Theory and Practical Considerations
At 8% discount factor 7.1 13.5 20.1
At 10% discount factor 6.5 12.3 18.1
At 12% discount factor 6.0 11.1 16.5
At 15% discount factor 5.3 9.8 14.4
11.4 Sensitivities
Table 11.7 shows sensitivity of the economic parameters to oil price. In many cases it is
desirable to calculate the effects of changes in variables with high degree of uncertainty. In
waterflooding, the variables which have a significant degree of uncertainty include rate of
production, oil price, inflation and operating costs. The economic parameters are calculated for
different values of these parameters while holding all other factors constant. In calculating
sensitivities, the range of variation for the different factors must be estimated to ensure that the most
probable outcome is properly bracketed. In most cases. a simple probability distribution, such as the
triangular one shown in Fig. 11.1, will be sufficient. In this case the oil price was estimated to be no
less than $8/bbl and no higher than $30/bbl. The most likely value (with a 40% probability of
occurrence) was estimated to be $20/bbl.
11.5 Monte Carlo Technique
For most waterfloods, the technique of varying one factor while holding all others constant
will be sufficient for calculating sensitivities. However, in more complex cases, the Monte Carlo
technique provides a more accurate assessment of the risk. The basic procedure for Monte Carlo
calculations is fairly simple. The process involves the following steps:
(1) Set up probability distribution for every significant variable in the evaluation.
(2) Pick a value at random from within each distribution (a random number generator can be
used here).
(3) Calculate the cash flow for the picked values of the variables.
(4) Calculate the desired economic parameters,
(5) Repeat steps 1 through 4 many times (50 to 100 calculations are usually sufficient).
(6) Statistically analyze the resulting distribution of parameter values to yield a mean value for
the parameter and a range about the mean value.
Figure 11.2 shows an example of the distribution display. In this case the Monte Carlo
results showed a fairly broad distribution with a mean of $5,000,000 and a range of $2,500.000 to
$8,000,000 at 95% confidence limits. The graphical display gives an instant "eyeball" estimate of
the risk and probable outcome of investing money in the waterflood.
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Waterflooding – Theory and Practical Considerations
Figure ll.2 An example of Monte Carlo results.
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Waterflooding – Theory and Practical Considerations
Table ll.8 An example of economic calculations
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