Capital gains: valuation of oil assets including shares: cash flow assumptions for rebasing to 31 March 1982
The discount rate used by Wood MacKenzie of 18.8% is based on an 8% forecast for inflation and 10% real discount (that is broadly representing the level of interest/yield required on a higher than average risk investment). Inflation had fallen from 17.8% in 1980 to 11.7% in 1981 and was expected to fall further. The real discount rate was based on extensive and continuing discussions between Wood MacKenzie and the companies about the rates they used to value assets. This recognised that a potential bidder might apply a different rate.
The oil price used in the Wood MacKenzie analyses at November 1981 was $37 per barrel increasing at 8% per annum for inflation, that is, no real increase. The average price in 1982 was $34 per barrel but it had fallen from $39 in January to $31 in March.
In March 1982, all gas production still had to be sold to British Gas although legislation enacted in the middle of 1982 allowed some third party sales. Pricing was frequently based broadly on the specific field’s development costs plus a profit margin. Prices are therefore not generally comparable and were not influenced to the same degree as crude oil by international factors. In March 1982, any discoveries would have had to be sufficient to support their own pipelines, or to make it viable to tie-in to an existing system. The commerciality of such tie-ins would have had to be considered without regard to the benefits of the PRT tariffing legislation which was not enacted until OTA 1983.
Rate of return
In 1982, HMRC considers that companies were generally thought to be looking for a rate of return of about 15%.