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Capturing Uncertainty in Prospect Economics

Abstract

This paper presents a procedure to describe prospects' uncertain outcomes in investment-decision-friendly terms. Oil and gas investment results are uncertain prior to drilling and producing. This uncertainty has been the focus of excellent papers over the years. However, published approaches usually stop before answers are translated into cash flow. The presented procedure forecasts prospect performance based on a probabilistic distribution of well performance rather than volumetric calculation. By estimating future well performance, cash flows can be forecast providing results in investment decision friendly terms. Using historic production data, examples are presented of data type to use, how to create a performance probability distribution, and how to understand the results. The presented procedure is not complicated, is intuitive to petroleum professionals, and should increase the quality of investment decisions. It can answer that questions like, “What is the likelihood of this investment having an IRR of greater than 15%” or “What is the likelihood of capital requirements of $10 million or more?” Any economic input can be described as a probability function and sampled during simulation making this approach very robust. Such a program can be built on a personal computer with commercially available software and can be very simple or very complex, depending on a user's needs. However, most commercially available economic programs do not provide for this functionality. A very important benefit of this procedure is that it expands the prospect conversation. Because inputs are related to well performance, reservoir, drilling, and completion engineers and geoscientists all have contributions to make. Such a discussion may identify new trends or best practices. While this procedure offers attractive benefits, it does present a number of challenges, notably, how a probabilistic distribution of results are to be used in making decisions. The discomfort, but not the inability, in dealing with this unfamiliar output may be a main reason management does not require this type of analyses! The presented procedure offers a means to improving the investment decision process and, consequently, the decisions made. This process drives technical investigation, encourages cooperative communication, and contributes to the success of exploration and production companies.