A Portfolio Management Approach to Assessing Acquisition and Divestiture Candidates

Abstract

Abstract The trend towards consolidation in the E&P sector has resulted in significant opportunities for smaller companies to acquire the non-strategic assets of larger companies as portfolios are rebalanced and assets are rationalized. Properties or prospects viewed as non-core or materially insignificant to the majors may have the potential to significantly impact the portfolio of an independent. This paper outlines a specific approach to evaluating acquisitions and divestitures in terms of portfolio value and risk management. Case studies are used to demonstrate how portfolio management can assist a company in appropriately evaluating an asset by quantifying the impact an asset has on the company's ability to meet its targets. The concept of portfolio value as opposed to deal value is described in an effort to demonstrate the interactions between project selection and targets within a portfolio. The examples will demonstrate the benefits of a portfolio management approach, particularly when dealing with the complexity of multiple projects, timing variability, market risks, and variability in asset performance. Introduction The basic concepts behind portfolio optimization and asset diversification are widely recognized and understood, however application of these ideas has proven to be a bit more complicated. Many companies with highly sophisticated risking and economic modeling methodologies still rely on independent project evaluation, prescriptive evaluations (layering the asset in and out of an existing base), intuition, or luck when evaluating acquisition or divestiture opportunities. The justification for a particular divestiture or acquisition (or the rationale as communicated to the marketplace) may involve one or more of the following:Positions the company for future strategic growthAllows the company to exploit strengthsPositions the company for consolidationIncreases exposure to additional opportunitiesEliminates inefficiencies While many companies may recognize the general benefits of a particular acquisition or divestiture, quantifying these benefits and accurately projecting the impact of a deal may be very difficult. This paper outlines a specific approach to evaluating acquisitions and divestitures in terms of portfolio value, business performance, and risk management. Examples and case studies will be used to demonstrate the benefits of a portfolio management perspective in assessing the relative worth of an asset. Background As the ideas and concepts related to portfolio management of assets and opportunities have gained increasing attention over the last several years, the definition of portfolio management has taken on a number of different meanings. To some organizations, portfolio management is a method of aggregating all available assets and using a rank-cut methodology to cull the portfolio. To other organizations, portfolio management implies a method for reviewing the resulting output from a given combination or selection of assets. While both of these methods are still widely used, they are limited in that they both begin with the asset base available (or the portfolio of assets) and yield an output based on a combination of these assets. The portfolio management methods presented in this paper refer to a goal seeking or goal central process. This method involves specifying an initial set of goals or constraints and using a linear solver to optimize the selection of opportunities to best achieve the desired goals. Starting the portfolio optimization with a set of constraints (or goals) insures that the company objectives are not directly tied to the current asset base or past mistakes the company may have made. The goals may not be attainable given the current asset base, but the requirements for attaining the goals or the differential between current assets and aspirations is more clearly defined.