The previous post did not analyze cost factors for Gazprom's proposed Yamal Peninsula projects, but rather argued that it was more likely than not that Gazprom would produce significant quantities of gas from this region in the intermediate term. An investor would be most interested in whether or not the field would be economical to develop. As such, a range of payback periods (a payback period is defined as the amount of time required to "repay" a project's investment) are presented as follows, with differing assumptions of average production, gas prices and costs.

Note that oil and gas firms would like to see a payback period of 5 years or lower, but will go beyond 5 years if the reserve is a a long lived asset (over 15 years) -- the fields in Yamal appear to qualify as long lived assets as the largest field, Bovanenko, has estimated reserves of 4.4 tcm and a projected annual production of 115 bcm, which implies a field life of 38 years at peak production rates.

Forecasts by the respected consulting firm Oxford Analytica has estimated development costs of all areas of the Yamal Peninsula to total in the range of $US160Bn, spread over the time period from 2008 to 2020. Gazprom has forecasted annual production of 170Bcm by 2020 from all fields in the Yamal Peninsula.

Payback Period Calculation: Base Case

Assumptions: natural gas price per mcfe received of $10, average production of 170 bcm, total costs $US160Bn, operating margin of gas production at 40%: payback period: 6.13 years.

Payback Period Calculation: Cost Overrun Case:

Assumptions: natural gas price per mcfe received of $6, average production of 150 bcm, total costs $US220Bn, operating margin of gas production at 30%: payback period: 21.2 years.

Payback Period Calculation: High Gas Price Case:

Assumptions: natural gas price per mcfe received of $14, average production of 170 bcm, total costs $US160Bn, operating margin of gas production at 40%: payback period: 4.65 years.

Notes: In all calculations, the payback periods are simply done, by taking final total production and not accounting for time periods to reach total production -- so for example, if Gazprom takes 6 years to reach final production of 170 bcm, the payback calculations above do not account for this. Further, natural gas prices are assumed to be constant.

Conclusion:

Gazprom's Yamal projects appear positive under expected cost and production figures, leading to economic development of the Yamal Peninsula, with the exception of the "Cost Overrun Case," which assumes higher costs and a lower price for natural gas ($6 per mcfe). It should be noted that 170 bcm (billion cubic meters) is a huge amount of natural gas, approximately equal to in oil barrel equivalent to 2.9M barrels of production per day -- with high energy prices, this produces a very high future income stream. Note that it is not expected that natural gas prices will fall significantly to the $6 level going forward -- this would be equivalent under an energy equivalent basis to $36 per barrel oil prices -- but it is possible. Further, note that domestic Russian prices of natural gas are expected by Gazprom to reach parity with exported prices by 2012 -- Gazprom is raising Russian prices of natural gas by 20% annually over the next several years -- which means that a calculation requiring separate prices for domestic and exported gas after 2012 is not critical.

## Monday, May 12, 2008

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