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Unformatted text preview: way in which the oil and gas industry does
business by driving improved SCM and industry-wide collaboration.
This section has examined the current situation in the U.K. oil industry. It has
highlighted the increasing complexity of the business environment of petroleum
companies operating in the U.K.. The next section shows why, given these recent
changes, the industry provides such a useful example in which to study investment
decision-making. The effect of these changes on the investment decision-making 51 processes adopted by companies in the industry will then be examined using the
results from recent studies of current practice.
3.4 INVESTMENT APPRAISAL DECISION-MAKING IN THE OIL INDUSTRY
Risk and uncertainty are inherent in petroleum exploration (Bailey et al., in press;
Simpson et al., 2000 and 1999; Lamb et al, 1999; Watson, 1998; Newendorp, 1996;
Rose, 1987; Ikoku, 1984; Megill, 1971 and 1979). The circumstances that led to the
generation of oil and gas are understood only in a very general sense (Newendorp,
1996; Ikoku, 1984). The existence, or more particularly the location of traps, cannot
be predicted with certainty. Even when a trap is successfully drilled, it may prove
barren for no immediately discernible reason (Ikoku, 1984). Indeed, worldwide approximately nine out of ten wildcat wells (which cost approximately $15 million to
drill offshore) fail to find commercial quantities of hydrocarbons (Watson, 1998; Pike
and Neale, 1997; Hyne 1995). Whilst in the North Sea, of the 150,000 square miles
of the U.K. area that have been offered for licence, it has been estimated that only 2%
has hydrocarbons beneath it (Simpson et al., 1999). Furthermore, the economic
factors that ultimately affect the exploitation of the resources are subject to capricious
shifts that, it has been claimed, defy logical prediction (Ikoku, 1984); an effect that is
exacerbated in the oil industry since exploration projects require a large initial capital
investment without the prospect of revenues for ten to fifteen years (Simpson et al.,
1999). Such observations led Newendorp (1996) to conclude that risk and uncertainty
are frequently the most critical factors in decisions to invest capital in exploration. In
reality he argues, each time the decision-maker decides to drill a well, he is playing a
game of chance in which he has no assurance that he will win (Newendorp, 1996).
Previously, when most exploration wells were shallow and drilling anomalies were
numerous and easy to locate, the upstream decision-maker was content to utilise
intuition, judgement, hunches and experience to determine which prospects to drill
(Newendorp, 1996). However, as noted in sections 2.2 and 2.3, the worldwide petroleum industry has changed, and many decision-makers are uncomfortable basing
their investment decisions on such an informal approach (Chapter 6; Ball and Savage,
1999; Newendorp, 1996). Consequently, decision analysis tools, which allow risk and
uncertainty to be quantified, have recently begun to receive in...
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This document was uploaded on 03/30/2014.
- Summer '14
- The Land