What Is the Reserves-to-Production Ratio?
The reserves-to-production ratio is an estimate of the number of years that the site of a natural resource will continue to be productive based on current production rates.
The ratio is used to forecast many business factors such as the total income that can be expected to be earned from the source and the number of employees needed over its active lifespan. It also is a key factor in determining whether further exploration is needed to identify new sources of the natural resource.
The reserves-to-production ratio is often abbreviated as RPR or R/P.
- The reserves-to-production ratio measures the number of years a natural resource will last if consumption rates stay the same.
- It is calculated by dividing the amount of the reserve by the rate at which it is extracted per year.
- The ratio is an estimate and can't account for new discoveries, technical advances, and changing consumption patterns.
Understanding the Reserves-to-Production Ratio
The reserves-to-production ratio is used to estimate the productive life of a particular site, such as an oil field. Alternatively, it may be used to project national or global availability of a natural resource.
The reserves-to-production ratio can be relevant to any business that relies on natural resources, whether it is gravel or gold. However, it is primarily used in the oil and gas industry.
The ratio is derived from two numbers:
- The amount of a resource that is known to exist and that can feasibly be retrieved in the site being measured.
- The amount of production that the site is currently yielding on an annual basis.
Divide the first number by the second number and you get the number of years that today's reserves would last if the rate of consumption doesn’t change.
Defining Natural Resources
Natural resources by definition are materials from the Earth that are useful but are available in finite quantities. Finding them gets steadily more difficult and more expensive until they are tapped out completely. The natural process of restoring them takes eons.
Meanwhile, we are relying on them to feed us, get us from point A to point B, and build many of the things that we have come to rely upon.
How Investors Read the Ratio
If a company that is in the business of producing resources has a low reserves-to-production ratio it generally signals that it is about to run out of the material it relies on to make money.
Unless it locates more of that resource, it will be out of business.
Economists as well as investors calculate reserves-to-production ratios for whole nations. If Botswana was seen as having a low reserves-to-production ratio for its diamond industry, it would mean that the nation is running short on one of the natural resources that contribute most to its national economy.
Example of Reserves-to-Production Ratio
The reserves-to-production ratio is commonly used to estimate how many years' worth of oil a company or a country has. If a country has 10 million barrels of proven oil reserves, for example, and is producing 250,000 barrels a year, then the RPR, or life of the reserves, is 10,000,000 / 250,000 = 40 years.
In 2019, British oil company bp plc estimated that the world had approximately 1.73 trillion barrels of oil reserves, which would be sufficient to meet about 47 years of global production at 2019 levels of consumption.
The reserves-to-production ratio is flawed. Estimates from 40 years ago showed the world as having 30 years of proven oil reserves left, meaning we should have run out by now. Then, 20 years later, the revised ratio concluded that we had 40 years of this critical energy resource left to extract.
The lack of long-term reliability of the reserves-to-production ratio can be attributed to several factors.
New Supply Sources
Oil and gas explorers and other extractors are constantly identifying new natural resources to dig up. These discoveries dramatically change the ratio, prolonging the estimated time we have left before they run out.
New technology can throw the ratio out of whack. Newer tools allow the extraction of oil that was previously considered impossible to get at a practical cost. That effectively changed the global reserves number and the value of the ratio.
Another example is 3D seismic imaging. This technology breakthrough helps scientists see miles below the seabed floor, identifying newly proven reserves at sea.
Offshore drilling can reach a depth of 25,000 feet, a significant increase from the 5,000 feet limits of the 1950s.
Another factor that the ratio fails to account for is the continually increasing demand for natural resources as the global population grows and new economic powerhouses emerge. As long as that trend continues, estimates of how much we have left in terms of years are likely to be overly generous.
At the same time, concerns about the environment have led to an earnest effort to find and develop alternative fuel sources. Less appetite for some dirtier raw materials should lead their consumption rates to drop, impacting production rates and, with them, current ratios.