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your calculations along with well labeled cash flow diagram You are assigned as a Drilling Engineer for a newly planned 10-year field development program
your calculations along with well labeled cash flow diagram You are assigned as a Drilling Engineer for a newly planned 10-year field development program. Your first assignment is to plan processing and disposal of the drilling fluids/cuttings prior to injecting them into a nearby disposal well. Your estimate, based on the research you have conducted within your company shows that the waste liquid/cuttings processing and disposal will cost $3,000,000 at the end of first year. You can improve the process and will be able to reduce the costs by $300,000 for each year, after year 1. Alternate option is to contract out the processing and disposal of drilling fluids and cuttings to an external contractor, who has offered a contract to process the waste liquids/cuttings for the ten years for a fixed price of $2,300,000 per year, payable at the end of each year, starting from end of the year 1, with an additional one-time cost of $4,500,000 at the end of year 5. Either way, there is no need for processing and disposing of drilling fluids and cuttings after ten years. If you, as a drilling engineer, in charge of the operations, consider 8% a suitable interest rate, should you accept the contractor offer or handle it within your company?
Expert Solution
| Option 1: Handle within the company | ||
| Year | Amount | Present Value |
| 0 | $ - | $ - |
| 1 | $ 3,000,000.00 | $ 2,777,777.78 |
| 2 | $ 2,700,000.00 | $ 2,314,814.81 |
| 3 | $ 2,400,000.00 | $ 1,905,197.38 |
| 4 | $ 2,100,000.00 | $ 1,543,562.69 |
| 5 | $ 1,800,000.00 | $ 1,225,049.75 |
| 6 | $ 1,500,000.00 | $ 945,254.44 |
| 7 | $ 1,200,000.00 | $ 700,188.47 |
| 8 | $ 900,000.00 | $ 486,242.00 |
| 9 | $ 600,000.00 | $ 300,149.38 |
| 10 | $ 300,000.00 | $ 138,958.05 |
| Net Present Value | $ 12,337,194.75 |
| Option 2: Contracting | ||
| Year | Amount | Present Value |
| 0 | $ - | $ - |
| 1 | $ 2,300,000.00 | $ 2,129,629.63 |
| 2 | $ 2,300,000.00 | $ 1,971,879.29 |
| 3 | $ 2,300,000.00 | $ 1,825,814.15 |
| 4 | $ 2,300,000.00 | $ 1,690,568.66 |
| 5 | $ 6,800,000.00 | $ 4,627,965.74 |
| 6 | $ 2,300,000.00 | $ 1,449,390.14 |
| 7 | $ 2,300,000.00 | $ 1,342,027.91 |
| 8 | $ 2,300,000.00 | $ 1,242,618.43 |
| 9 | $ 2,300,000.00 | $ 1,150,572.62 |
| 10 | $ 2,300,000.00 | $ 1,065,345.02 |
| Net Present Value | $ 18,495,811.60 |
Based on the above calculation, drilling engineer should go with the option 1 i.e. handle it within the company as it is more cost effective as compared to the contracting offer
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