Investment in Information in Petroleum, Real Options and Revelation

A firm owns the investment rights over one undeveloped oilfield with technical uncertainties on the size and quality of the reserve. In addition, the long run expected oil price follows a stochastic process. The firm needs to select the best alternative of investment in information with different costs and different revelation powers. The modeling of technical uncertainty uses the practical concept of revelation distribution, which works directly with the possible new expectations after the information revelation caused by an investment in information. Expectations drive the valuation of the development option exercise. With a partial revelation of uncertainty of a technical parameter, is necessary to know only the initial uncertainty (prior distribution) and the expected percentage of variance reduction induced by the investment in information. After the information revelation, the development threshold decision depends on the value of the project normalized by the development cost. This normalized threshold is the same for any technical scenario revealed by the new information when the oil price follows a geometric Brownian motion. In addition, there is a time to expiration of the rights for the option to develop, so that the normalized threshold is a free boundary obtained from the optimal stochastic control theory. The model includes a penalty factor for the lack of information, which causes sub-optimal development, and this factor is introduced into the dynamic real options model. The model outputs are the real options value with and without the technical uncertainty, with and without the information, and the dynamic net value of information.

[1]  L. Trigeorgis.  Real Options: Managerial Flexibility and Strategy in Resource Allocation , 1996 .

[2]  S. Myers.  Determinants of corporate borrowing , 1977 .

[3]  R. McDonald,et al.  The Value of Waiting to Invest , 1982 .

[4]  D. Siegel,et al.  Option Valuation of Claims on Real Assets: The Case of Offshore Petroleum Leases , 1988 .

[5]  S Kafandaris,et al.  The Economic Value of Information , 2001, J. Oper. Res. Soc..

[6]  H. Raiffa,et al.  Introduction to Statistical Decision Theory , 1996 .

[7]  Peter W. Glynn,et al.  Computing the distribution function of a conditional expectation via Monte Carlo: discrete conditioning spaces , 1999, WSC '99.

[8]  M. Adelman,et al.  The value of United States oil and gas reserves , 1996 .

[9]  David Williams,et al.  Probability with Martingales , 1991, Cambridge mathematical textbooks.

[10]  Petter Bjerksund,et al.  Managing Investment Opportunities under Price Uncertainty: From "Last Chance" to "Wait and See" Strategies , 1990 .

[11]  P. Carr,et al.  The Value of Purchasing Information to Reduce Risk in Capital Investment Projects , 1997 .

[12]  Asit P. Basu,et al.  Probabilistic Risk Analysis , 2002 .

[13]  E. Prescott,et al.  Investment Under Uncertainty , 1971 .

[14]  Timothy J. Riddiough,et al.  Valuation and Information Acquisition Policy for Claims Written on Noisy Real Assets , 2001 .

[15]  Ferruh Demirmen,et al.  Subsurface Appraisal: The Road From Reservoir Uncertainty to Better Economics , 2001 .

[16]  Sheldon M. Ross,et al.  Stochastic Processes , 2018, Gauge Integral Structures for Stochastic Calculus and Quantum Electrodynamics.

[17]  Margaret Armstrong,et al.  COMPARISON OF THREE METHODS FOR EVALUATING OIL PROJECTS , 1999 .

[18]  Werner Jammernegg,et al.  Sequential Binary Investment Decisions: A Bayesian Approach , 1988 .

[19]  Michael Croft,et al.  Resolving Reservoir Uncertainty to Create Value , 1998 .

[20]  A. N. Kolmogorov,et al.  Foundations of the theory of probability , 1960 .

[21]  Steinar Ekern,et al.  An option pricing approach to evaluating petroleum projects , 1988 .

[22]  E. Haug.  The complete guide to option pricing formulas , 1997 .

[23]  L. Trigeorgis.  The Nature of Option Interactions and the Valuation of Investments with Multiple Real Options , 1993, Journal of Financial and Quantitative Analysis.

[24]  Avinash Dixit,et al.  Expandability, Reversibility, and Optimal Capacity Choice , 1998 .

[25]  R. Pindyck.  The long-run evolution of energy prices , 1999 .

[26]  R. Parrino,et al.  Stockholder–Manager Conflicts and Firm Value , 1998 .

[27]  R. Pindyck.  The Dynamics of Commodity Spot and Futures Markets: A Primer , 2001 .

[28]  S. Martzoukos.  RESOLVING A REAL OPTIONS PARADOX WITH INCOMPLETE INFORMATION: AFTER ALL, WHY LEARN? , 2001 .

[29]  Adelman,et al.  The Valuation of Oil Reserves , 1989 .