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The Management of Flexibility in the Upstream Petroleum Industry

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  • David Laughton

Abstract

This paper is the third in a series that describes how Modern Asset Pricing (MAP) may be used for project evaluation in the upstream petroleum industry. It demonstrates how MAP can be applied to projects where policies for the management of future flexibility must be considered within the context of the valuation. We illustrate this use of MAP by looking specifically at flexibility in the timing of the exploration, delineation, and development of an oil prospect, and the timing of the abandonment of the subsequent developed field. We use examples to show how the value and management of flexibility depends on the amount of oil price and reserve size uncertainty. We find that prospect value increases with both types of uncertainty. We also find that all actions, from exploration to abandonment, occur later with greater oil price uncertainty. Conversely, we find that exploration and delineation occur sooner with greater reserve uncertainty. The reasons for these results are given.

Suggested Citation

  • David Laughton, 1998. "The Management of Flexibility in the Upstream Petroleum Industry," The Energy Journal, International Association for Energy Economics, vol. 0(Number 1), pages 83-114.
  • Handle: RePEc:aen:journl:1998v19-01-a04
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    Cited by:

    1. Espinoza, R. David & Rojo, Javier, 2017. "Towards sustainable mining (Part I): Valuing investment opportunities in the mining sector," Resources Policy, Elsevier, vol. 52(C), pages 7-18.
    2. Dou, Shi-quan & Liu, Jiang-yi & Xiao, Jian-zhong & Pan, Wen, 2020. "Economic feasibility valuing of deep mineral resources based on risk analysis: Songtao manganese ore - China case study," Resources Policy, Elsevier, vol. 66(C).
    3. Kobari, L. & Jaimungal, S. & Lawryshyn, Y., 2014. "A real options model to evaluate the effect of environmental policies on the oil sands rate of expansion," Energy Economics, Elsevier, vol. 45(C), pages 155-165.
    4. Kemp, Alexander G. & Kasim, Sola A., 2007. "A longitudinal study of fallow dynamics in the UK Continental Shelf (UKCS)," Energy Policy, Elsevier, vol. 35(3), pages 1744-1760, March.
    5. Diderik Lund, 2002. "Taxation, Uncertainty, and the Cost of Equity," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 9(4), pages 483-503, August.
    6. Guedes, José & Santos, Pedro, 2016. "Valuing an offshore oil exploration and production project through real options analysis," Energy Economics, Elsevier, vol. 60(C), pages 377-386.
    7. Tatiana Ponomarenko & Eugene Marin & Sergey Galevskiy, 2022. "Economic Evaluation of Oil and Gas Projects: Justification of Engineering Solutions in the Implementation of Field Development Projects," Energies, MDPI, vol. 15(9), pages 1-22, April.
    8. Emhjellen, Magne & Osmundsen, Petter, 2009. "Separate Cash Flow Evaluations - Applications to Investment Decisions and Tax Design," UiS Working Papers in Economics and Finance 2009/16, University of Stavanger.
    9. Smith, James L., 2014. "A parsimonious model of tax avoidance and distortions in petroleum exploration and development," Energy Economics, Elsevier, vol. 43(C), pages 140-157.
    10. Adkins, Roger & Paxson, Dean, 2019. "Rescaling-contraction with a lower cost technology when revenue declines," European Journal of Operational Research, Elsevier, vol. 277(2), pages 574-586.
    11. Emhjellen, Magne & Alaouze, Chris M., 2003. "A comparison of discounted cashflow and modern asset pricing methods--project selection and policy implications," Energy Policy, Elsevier, vol. 31(12), pages 1213-1220, September.
    12. Won, Chaehwan, 2009. "Valuation of investments in natural resources using contingent-claim framework with application to bituminous coal developments in Korea," Energy, Elsevier, vol. 34(9), pages 1215-1224.
    13. Cerqueti, Roy & Ventura, Marco, 2020. "Optimal concession contracts for oil exploitation," Energy Policy, Elsevier, vol. 147(C).

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    JEL classification:

    • F0 - International Economics - - General

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