Petroleum Economics - Heriot-Watt University Course

The Economics of Upstream Petroleum

• 150 years of hydrocarbons
• Supply, demand and control of the market
• Investment in the petroleum sector

Participants will be introduced to the key economic concepts of supply and demand and how companies, organisations, and governments can seek to influence them. A brief look at how company performance is measured leads to an introduction of the value chain, identifying the stages of value creation from upstream to end retail to the customer.

Investment in Petroleum Projects

• Evaluation methods
• Time value of money

This section addresses the question of how to assess value creation by an asset, where cash flow modelling is then covered in detail to develop an understanding of the main types. The capital intensive nature and length of projects requires an awareness of why money varies in value over time; through inflation, rates of return from alternative opportunities due to risk.

Decision Parameters

• Undiscounted measures of value
• Discounted measure of value (e.g. NPV, IRR)
• Interpretation of measures

Course participants will learn how cash flow models can be used to inform a decision and how metrics can be used to compare across a portfolio of projects. Participants will learn what commonly applied measures such as NPV tell them, but also what they cannot do.

Sources of Risk and Uncertainty

• Government - licensing and taxation
• Facilities risk
• Economic drivers of risk

Moving away from a deterministic cashflow model, this section will cover the key sources of risk. These will range from the economic impact of incomplete information about the subsurface, through the role of government in the sector, to the impact of price volatility for produced oil.

Risk Mitigation and Management

• Risk transfer
• Risk mitigation
• Decision making under uncertainty

This final day will commence with looking at ways for another party to take on the project risk, through contracts such as insurance or other financial structures. Not all risk can be transferred, but the effect of that which remains in the project can be minimised.  Decisions taken in the presence of the risk need to incorporate this information, for instance through the use of decision trees.