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Graphs on Portfolio Management by eip27422


Graphs on Portfolio Management document sample

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									                             Portfolio Management:
   A Strategic and Tactical Tool for the Oil and Gas Industry
                          John I. Howell III and Anita Howell
                                 Portfolio Decisions, Inc.

                                        Extended Abstract

This paper updates petroleum investor analysts on the oil and gas industry's use of
portfolio management and portfolio analysis and the changes that can be expected in an
organization using these tools fully.

Portfolio management in the oil and gas industry is an emerging business practice with
great promise and uneven implementation. Portfolio management, the organizational
process of using the information uncovered with portfolio analysis to guide business
decisions, requires cultural changes within the oil and gas industry. Used correctly,
portfolio management can link corporate strategy to investment properties. The decision-
makers can incorporate the information that the analysis provides on investment options
and their associated tradeoffs as a supplement to their knowledge and experience when
making decisions. Ultimately, the organization's properties will drive the strategy to some
degree and the strategy will guide the choice of future projects.

Portfolio analysis, the technical, software-driven element of portfolio management, is
certainly a buzzword in the industry, but the methodology employed under the name of
portfolio analysis is not consistent throughout the industry. Using various mathematical
techniques to characterize investment options, portfolio analysis generates suites of
investment options that all meet strategic goals. True portfolio analysis has four
    1. Reflects aggregated business
    2. Links investment options to corporate strategies
    3. Describes aggregated business risk sand uncertainty
    4. Leverages interactions between assets and metrics.

                    October 8, 1999   NAPIA Conference   Scottsdale, Arizona
Additionally, portfolio analysis can provide the likelihood that a suite of options will
meet these goals and can illustrate the robustness of the portfolio to different business
environments such as price, political, and market volatility.

Portfolio analysis has three major applications:
    1. Strategic planning and goal setting
        This analysis examines corporate goals and strategic options for feasibility and
        robustness. The studies focus on changing performance metrics and targets or
        goals in order to learn about strategic possibilities, tradeoffs, and the implications
        of certain changes in strategy.
    2. Exploring investment options
        This analysis studies tradeoffs between portfolios, strategies, and goals. The
        studies compare different investment options. These options may be from
        different strategies or from different project pools.
    3. Investigating projects
        This analysis looks at a project's significance to business goals and strategy.
        Project studies tend to focus on a small number of projects and evaluate them
        relative to a single or limited number of strategies.

Figure 1 Diagnostic graphs for portfolio analysis.

                      October 8, 1999   NAPIA Conference   Scottsdale, Arizona
Figure 1 shows a set of diagnostic graphs that can be used with all applications. These
plots also demonstrate the four attributes of portfolio analysis.

The upper two plots of Figure 1 compare the organization's strategy (bars) to one suite of
investment options, that is, one portfolio solution (heavy solid line). The portfolio total
reflects changes made to the base business via new investments over seven years. Since
the solid line never falls below the bars, the strategy represented by the bars is feasible.
The data reflect the aggregate business, the targets characterize strategic goals, and the
total portfolio incorporates project interactions.

The graph on the lower left of Figure 1 shows an efficient frontier plot of value versus
risk. All points represent feasible portfolio solutions that meet strategic goals, allowing
the organization to balance value and risk. Risk and uncertainty are captured at the
aggregate business level and vary partially in response to project interactions.

The graphs on the lower right of Figure 1 illustrate the probability of meeting strategic
targets in each year. The organization can then determine an acceptable probability and
iterate through the analysis to try to achieve it. These graphs illustrate another dimension
of risk and project interaction at the aggregate business level.

Putting the described process of portfolio analysis to work through an ongoing portfolio
management practice can help management validate the strategic planning process,
improve the decision-making process, communicate the strategy to the organization, and
study the performance implications of various investment options. In an organization
with a working portfolio management process in place, analysts and executives can
expect to find a pro-active management with improved strategic planning and execution
and communication with shareholders. The organization will exhibit a better balance
between value and performance and greater resilience to price, political, and market

                    October 8, 1999   NAPIA Conference   Scottsdale, Arizona

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