1. Implementing Portfolio Management: Issues, Insights, and Answers? John I. Howell Portfolio Decisions, Inc. Roger N. Anderson Columbia Enterprise Systems 1999 SPE Hydrocarbon Economics and Evaluation Symposium © Portfolio Decisions, Inc. 1999

2. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Three Issues for Consideration: 1. Why use Portfolio Management? 2. Who is the End User? 3. What are some Critical Success Factors for Implementing Portfolio Management?

3. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Why Implement Portfolio Management? Because Current Performances are all over the Map!

4. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas 1. Why use Portfolio Management? Quantify volatility in performance, Test feasibility of strategies, Identify significant and detrimental projects, Define unique value of investments, Evaluate investment options, & Monitor business performance.

5. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas “FIND THE ANSWER”! Instead, use it to make better Decisions, and Improve the Probability of consistently meeting your Strategic Goals. Do NOT use Portfolio Management to:

6. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas 2. Who is the End User? Portfolio Management relies on input and interaction with: –Geoscientists-Engineers –Planners-Portfolio Managers BUT, the end user is the Decision-Maker who is responsible for managing business performance.

7. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas 3. What are some Critical Success Factors? 1. Establish a Clear Portfolio Process, 2. Set Commonly understood, Clear Strategy, 3. Develop Strong Relationships among key staff (the soft side), & 4. Always aim for High Quality Decision Framing.

8. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: 1. The Process

9. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: 2. The Strategy Strategy is how you define success (the target bars above)!

10. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: 3. Relationships (The Soft Side) Maps & Reservoir Economics Strategy & Goals = Planning Staff & Portfolio Manager = Engineers and Geo-scientists Decisions & Business Performance Monitoring = The Decision-Maker Dialogue Discussion

11. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: 4. Decision Framing … since Portfolio Management doesn’t give THE answer, and … since decisions may depend on both quantitative and subjective inputs gathered from others (via relationships), How then do you put all the information together to reach clear and consistent decisions? Answer: By Properly Framing the Decision

12. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: 4. Decision Framing 1. Clearly Define the Problem to be solved, 2. Clearly Define the Decision Criteria, 3. Generate Realistic Options, & only then, 4. Evaluate the Options relative to the Decision Criteria, & 5. Make Decisions.

13. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 1. Clearly Define the Problem Are you testing strategies, or defining/allocating performance targets? –Are you adjusting targets and constraints within a fixed project set? Are you evaluating project plans, or investment/divestment options? –Are you adjusting projects to meet fixed targets and constraints? Are you monitoring your business performance? –Are you computing probability of meeting targets with fixed projects?

14. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 2. Clearly Define the Decision Criteria Quantitative: –Does the Investment being discussed Contribute? –Does the Project under consideration add Value? –Does the Project improve the Probability of meeting performance metrics? –How bad can “poor performance” be? –Why is the Project Valued? Subjective: –What are the implications and tradeoffs for the investment? –What are the political/commercial impacts?

15. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 2. Clearly Define the Decision Criteria (cont)

16. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 3. Generate Realistic Options Does Project 16 contribute positive value, and how much? Efficient Frontier

17. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 4. Evaluate Options in terms of Decision Criterion 0 200 400 600 800 1000 1200 3000350040004500500055006000 Value Risk With Project 16 Original Portfolio Portfolio Value Efficient Frontier Comparison Does Project 16 add value? How Much?

18. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 4. Evaluate Options in terms of Decision Criterion (cont) Net Income 0 0.2 0.4 0.6 0.8 1 1999 2001 2003 200520072009 2011 2013 Net Cash Flow 0 0.2 0.4 0.6 0.8 1 19992001 2003 2005 2007 2009 2011 2013 Capital 0 0.2 0.4 0.6 0.8 1 1999 200120032005200720092011 2013 Production 0 0.2 0.4 0.6 0.8 1 19992001 200320052007 2009 2011 2013 Original w/ New Acquisition Exploration Expense 0 0.2 0.4 0.6 0.8 1 1999200120032005200720092011 2013 Reserves 0 0.2 0.4 0.6 0.8 1 1999 20012003 2005 2007 2009 20112013 Probability of meeting performance metrics/year?

19. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 4. Evaluate Options in terms of Decision Criterion (cont) How bad can “poor performance” be?

20. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 4. Evaluate Options in terms of Decision Criterion (cont) Why is a project valued by the portfolio?

21. Generic E&P Portfolio

22. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors: Decision Framing 5. Make the Decision Quantitative Factors: –Project 16 portfolio value is $250MM in a 5.5B portfolio, + –Project 16 reduces risk for all portfolio values, + –Project 16 improves probability of meeting near-term NCF and Net Income targets, BUT –Project 16 guarantees failure to meet near term capital target, –Project 16 inclusion reduces probability of meeting mid- and long-term reserves and production targets. Subjective Factors: –Project 16 requires we maintain operations in an area we do not currently operate in, + –Project 16 has no opportunity for expansion.

23. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Critical Success Factors 5. Make the Decision Project 16 clearly adds value, But, current price concerns suggest income and cash flow summaries may be optimistic, So, near-term improvements in income and cash flow outweigh long-term degradation in production and reserves, & Lack of expansion opportunities is overcome with reduced dependence on exploration programs, so MAKE THE INVESTMENT!

24. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Uses Portfolio Management to improve the probability of consistently meeting your strategic goals. All portfolio information comes together at the Decision-Maker. Successful implementation depends upon process, strategy, culture, and in particular, proper decision framing. Summary: A Perfect Implementation Environment

25. © Portfolio Decisions, Inc. 1999 1999 SPE HEES Dallas Summary: A Perfect Implementation Environment A knowledgeable and engaged Decision- Maker + A well defined Business Strategy + Consistently described risk and uncertainty for all investments, + A clearly defined decision process!