Petroleum Industry Workshop Monday 20 th March, 2017
Cost elements that contribute to ROI- Oil Industry Perspective Razia Pricing & Costing Manager DISCLAIMER: The views, issues and insights raised in this presentation contains personal views, research and does not necessarily reflect Pacific Energy or any other organisation s views. These are for the specific purpose of generating thoughts and providing an understanding of the topic.
What is ROI? (Return on Investment) 1 st thing that comes in your mind when you see the acronym ROIare you investing your funds wisely. ROI is a key performance indicator (KPI) that often used by businesses to determine profitability of an expenditure. The ability to calculate ROI for any business big or small is extremely valuable as this determines if its logical for the business to invest on a project, which sectors could use improvement, which countries the business should invest more in and which countries the business should not invest in. ROI measures the performance of an investment by measuring the gain from an investment and the cost of the investment. After all knowing if you are getting your moneys worth is a basic concept for an individual or a business who spends. 3
ROI Calculation The ROI calculation is extremely versatile and can be used for any investment. Managers can use it to measure the return on invested capital. Investors can use it to measure the performance of their stock and individuals can use it to measure their return on assets like their homes. Any positive ROI is considered a good return that means that the total cost of the investment was recovered with some margin where by a negative ROI means that the revenues weren't even enough to cover the total cost. The simplest form of the formula for ROI involves only values the cost of the investment and the gain from the investment. The formula is as follows: 4
ROI Calculation ROI = Net Income (G.P Exp) / Investment ROI = (revenue cost of goods sold) / cost of goods sold Simple Example 1. An investor buys $1,000 worth of stocks and sells the shares two years later for $1,200. The net profit from the investment would be $200 and the ROI would be calculated as follows: ROI = (200 / 1,000) x 100 = 20% The ROI in the example would be 20%. It is easy to calculate ROI when cost and gains are constant but this is rarely the actual case. Different factors may affect the cost and gains over time. Other similar formulas that measure profitability are return on equity, return on assets, and return on capital, among others. 5
Return Ratio Formula 6
Most Common elements used to Calculate ROI Petroleum Industry Current Assets and Current Liabilities Current Assets 1.Trade Debtors and Other Receivables 2.Inventories Tangible and Intangible Assets 1.Buildings (Offices and Warehouses) 2.Computers (Laptops, Desktops, Printers and fax machines) 3.Fixtures & Fittings (Selves, Racks and Air conditions) 4.Land & Oil Depots & Storage Tanks 5.Plant, Machinery and equipment (Gantry Meter, Fence and Shoreline Barrier Boom) 6.Transportations (Trailers and Trucks) and Software Current Liability 1.Creditors 7
How this cost impacts Petroleum Industries ROI? Trade Debtors and Other Receivables Cash is the most efficient way to do business. It eliminates the risk of credit checks and costly monitoring of receivables and it minimizes the chances in operating loss but if you don t offer credit you may lose sales to customers. For Petroleum Industries the challenge is always there to collect the debts and have a healthy cash flow and pay your creditors on time. Good collection could assist in eliminating overdraft cost. But to do business in the pacific you have to offer credit terms or you risk losing volumes that can assist the business to earn profit. Then the risk is always there for provisions of doubtful debt leading to bad debt. The debtors days measures how quickly the cash is collected from debtors. 8
How this cost impacts Petroleum Industries ROI? Trade Debtors and Other Receivables The challenge to have a low DSO value Days Sales Outstanding. The low DSO indicates that it takes fewer days to collect accounts receivable. Generally its company's best interest to collect outstanding receivables as quickly as possible to do prepayment for the stock or to have a chance to put the cash to use again more quickly. Ideally the company would like to have the cash to reinvest. 9
How this cost impacts Petroleum Industries ROI? Inventories (Stocks) Inventory is a company s goods on hand. For Petroleum Industry inventory serves as a buffer between a company's sales of goods or purchase on goods. They strive to find the proper amount of inventory to avoid loss on sale, disruptions and high holding stocks. The challenge the oil company faces is to ensure there is always safety stocks available. Safety stock is like a small emergency stocks that is used when the going gets tough and it looks like you are in the verge of selling out. Then again the challenge to ensure that there is enough stock but then not too much that the carrying costs end up straining the finances. While this sounds reasonable but then how much safety stock to carry is always a challenge. Disruptions to the operations where by unpredictability happens. Supply transportation needs maintenance. 10
How this cost impacts Petroleum Industries ROI? Inventories (Stocks) For example it s a known fact for Tonga Market that Pacific Energy beared the loss and assured there was no disruption in supply with the LCT in dry docks. Cyclones Example Cyclone Winston where the business needs to close, some customers are badly hit, supply is not required, cleaning is required, maintenance is required, petroleum industry needs to assure the health safety and security standards are always adhered to. Due to this the supply is affected with delays this puts pressure on the safety stocks. The temptation to stock enough to last for next shipment comes through but then the question always is there the more you stock the higher your carrying cost becomes. The challenge is to ensure whatever is sold is also covering the carrying cost. 11
How this cost impacts Petroleum Industries ROI? Tangible and Intangible Assets Fixed Assets are assets used for long term use and are not likely to be converted into cash. Preference for petroleum industry is to provide and maintain the fixed assets for there customers. As Petroleum industry we have HSSEQ policies and we don t want to compromise the standards. But maintaining the policies and ensuring that safety is not compriomised does come at a cost. But for any business ROI is important. No investor would like to spend money and have no returns but that for a petroleum industry is highly dangerous. Taking shortcuts, compromising international safety and standards of maintaining terminals and aviation business can lead to :- Something for all of us to think about. 12
When HSSE Policies are compromised? Fatal Samoa tank fire The dead man and another injured in the explosion were employees 13
How this cost impacts Petroleum Industries ROI? Creditors A person or company who has provided credit. Stocks mostly received by oil companies needs to be paid (prepayment). To facilitate the creditor request is always a challenge. This is where the overdraft facility is utilized by the company. 14
Rate of Return for Petroleum Industry? How much rate of return should be allocated for fuel industry is addressed and challenged by the oil companies. As per SPC newsletter 15
Conclusion ROI is exceptionally useful for measuring success overtime and taking the guesswork out of making future business decisions. For Petroleum industry it has been always a challenge to explain to stakeholders the importance of adhering to HSSEQ policies. For petroleum industry the relevance and compliance of maintaining international standards is a must if we all want to avoid accidents. Then question comes the investors interest to invest. They will only want to spend on those countries who has healthy ROI as this determines if its logical for the business to invest on a project or not. ROI also pastes a picture for regulators whose responsibility from my understanding is to maintain a balance and be fair to the customer and as well as the supplier and to avoid business exiting the Pacific Island countries. In the end we all want our economy to grow. 16