As you may already know, there are many reasons to conduct a thorough business valuation. Some are more apparent and general, as well as necessary, and some are elective and pertain specifically to unique circumstances such as the buying and selling of companies, mergers and acquisitions, buyouts, insurance purposes, and more. Whatever the reason may be, it’s important to conduct meticulous business valuation regardless of the industry you’re in.
When it comes to oil and gas, valuing your company is absolutely essential for long-term strategic planning. Considering that oil and gas is a complex field with a cumbersome supply chain (the upstream, midstream, and downstream industries), it’s important to take several key steps to heart in order to maximize the value of the company when the time comes to sell.
The exploration and production companies are big businesses with multi-million-dollar assets, processes, and supply chains, all of which you need to valuate to maximize your ROI. Let’s take a look at the five key steps you need to take to properly value your oil and gas company.
Industry factors to consider
First things first, it’s important to gain a deeper sense and an accurate insight into the state of the oil and gas industry, in order to establish a comprehensive valuation plan for your company. This is a complex and cumbersome process that takes into account various industry factors and key considerations for business leaders in this space.
To start, it’s important to consider the price volatility. Oil and gas is an industry with a generally high price volatility, influenced by numerous economic, political, sociological, and consumer factors, to name a few.
Next, you have to consider technology and how it impacts the industry. Because oil and gas tech is evolving rapidly, adopting new technologies has the potential to impact the market in a big way. Oil and gas production is becoming more efficient and effective, costing less but producing more while enhancing the safety of processes.
Thirdly, consider the regulation. This industry is heavily regulated to ensure companies meet certain criteria in all processes, from safety and worker well-being to environmental protection and market stability. Regulations vary across regions and countries, which can impact the valuation process.
Finally, consider the variation by oil and gas sources. It’s important to note that drilling economics vary greatly between regions and sites. Some sources are easier and thus cheaper to tap into, while other sources are more difficult to exploit, effectively impacting the value of an E&P company by its location.
Use the asset-based approach
To start the valuation process, you can consider the asset-based approach. Put succinctly, this approach provides insight into the market value of a company’s assets, minus the market value of its liabilities. Given the fact that investors will make their decisions based on the projected and rates of return, it’s important to maximize the company’s assets and of course, minimize its liabilities in order to elevate its investment value.
Related: About Enterprise Value
Should your equipment and technology start to deteriorate or suffer from wear and tear as well as time, the asset value of the company will consequently begin to suffer as well. This leads to lower overall value in the competitive market. With that in mind, the asset-based approach is highly informative and valuable in this process, but it is influenced by other economic and industry trends.
For example, if the need for vertical drilling surpasses the need for horizontal drilling in your region, then the asset value of your vertical drilling equipment will invariably suffer in the new oil and gas market.
How To Value An Oil & Gas Company - SRCI:NYSE | Sensible Investing
Equipment and capabilities
While we are on the subject of equipment and material assets, it’s important to consider the investments you can make to maximize your ROI down the line when the time comes to sell. Stabilizing and increasing the value of your oil and gas business with meticulous asset management, upkeep, and investment is a crucial step in the valuation process, but it’s more focused on the desired outcome than the current state of the company.
For example, investors might have a difficult time deciding to buy if you still have subpar equipment, but if you invest in top-quality parts like the crucial gate valves and other important equipment and technologies, you can bring the value up and attract more affluent investors. This is why investing in your assets is so important, and why you should use the valuation process as a way to define a strategy for elevating the value of your business in the current market.
Consider the income approach
The income approach will give you an insight into your earnings and the state of your cash flow, comparing the findings market risks and returns. You can use this to calculate the present net value of your business. You can consider three major factors that influence the value of your business using this method, and those are cash flows, growth, and risk.
Unsurprisingly, the higher the risk, the lower the value of the company. Risk can include many internal and external factors, debt being one of the biggest factors that can affect the value of the company. However, by improving the cash flow and the growth potential of the business, you can elevate the overall value of the enterprise. It’s important to take historical earnings into account and work out an earnings projection to gain a deeper insight into the state and the potential of the company. As income is a major driver of value in a business, it’s important to maximize the return on your asset investments in a reasonable timeframe.
Using the market approach
Finally, you can use the market approach to calculate the value of the company based on competitor analysis, industry averages and shifts, consumer trends, and the supply chain factors mentioned before. It’s also important to take key technology changes into account that are affecting the modern industrial sectors as a whole.
Note that companies with different financial capabilities and in different financial positions are able to command different price points. This means that larger players are able to sell for more while smaller companies might need to settle for less, which directly influences the market value of the company. With the market value approach, you’re able to determine just how much someone is willing to pay for a company, which is a crucial step in the competitive and volatile oil and gas sector.
Over to you
Valuing an E&P business in this industry is a time-consuming and cumbersome process, but it is nonetheless an essential step. Whether you’re looking to sell or are facing other challenges, use these tips to properly value your business, elevate its value in the process, and achieve your goals.