An oil company has located a large oil deposit some 300 kilometres east of the Shetland islands in the North Sea.

Question

An oil company has located a large oil deposit some 300 kilometres east of the Shetland islands in the North Sea. The plan is to locate six deep-water rigs over the deposit, but the drilling process will be long and complicated, probably taking five years to complete. In the sixth year the oil should start to flow, and the deposit is estimated to be good for 18 years’ worth of crude, valued at about $280 million per year. Assuming interest rates will average around 6% over time period, what is the present value of the expected revenues?

Answer 1

The first step is to figure out what type of problem is this: It's an annuity for sure, and it's a delayed one, so use the deferred annuity formula. P * [1 – (1 + r)^-n] / [(1 + r)^t* r]

1. P = Annuity Payment
2. r = Rate of Interest
3. n = Number of Periodic Payments
4. t = Period of Delay

P here is 280, n is 18 and t is 6 and r is 6%. Solve for the above equation.