What does 'Netback' mean
Netback is a summary of all the costs associated with bringing one unit of oil to the marketplace and all of the revenues from the sale of all the products generated from that same unit, expressed as gross profit per barrel. The netback is calculated by taking all of the revenues from the oil, less all costs associated with getting the oil to a market. The term netback is only used in reference to oil producers and their associated production activities.
BREAKING DOWN 'Netback'The netback per barrel is determined by removing the costs of production from the average realized price resulting in a net profit per barrel amount. These costs include importing, transportation, marketing, production and refining costs, and royalty fees. Producers with higher netback prices reflect a more operationally efficient oil company as they are receiving higher profits from the materials produced than competitors.
Determining the Netback Price
If it costs an oil producer $125 to convert one barrel of light crude oil into heating oil, gasoline, diesel and petrochemical byproducts, and all of those products result in a total sales value of $200, the netback would be $75 based on subtracting the production costs from the associated revenue ($200 - $125). This figure allows exploration and production firms to compare their costs with those of their competitors; it also allows for more efficient planning regarding which products a company should focus on producing.
Netback Pricing and Investment Analysis
Netback prices can be used to compare one oil producer to another, as the oil producer with the higher netback price is effectively more profitable than the one with the lesser netback amount. Though the netback demonstrates variances in profitability, it does not indicate the reason for the variance.
Differences in netback pricing could be caused by differences in production technique, such as whether the company is participating in land-based or offshore operations, as well as those associated with different locales. Varying regulations between nations can cause discrepancies in overall cost from one producer to another. Additionally, any challenges posed by the political instability within a region can present unique issues regarding transportation or general safety.
Changes of the netback prices attributed to a single company over time can also demonstrate whether production is becoming more or less cost effective. If a selected oil company’s netback price has been increasing over time, it may be indicative of future success within the industry, while those showing falling netback prices may be a cause for concern for investors.