Abstract

In the high-risk E&P industry, the profit of each stakeholder depends on the strategies of all. The optimal choice for one player may not be optimal for other players, who may opt to prevent it. These characteristics suggest using game theory to model decision situation in the E&P industry. In a business dominated by joint ventures and tight governmental regulation, an understanding of the interests and influence of all stakeholders is particularly important. Although the E&P industry is accustomed to develop complex economic models to obtain insight into the commercial attractiveness of joint ventures, the influence of other stakeholders is often ignored. Each stakeholder must decide how much to invest, in which sequence to make decisions, whether to make decisions before or after the other stakeholders, which decisions to make before versus after technological and organizational uncertainty is resolved, whether to accept or block the designation of one stakeholder as dominant, and whether to accept or block hub placement within one of multiple oil fields. A joint development program of a portfolio of gas fields and its gas processing and export facility has been analyzed using tools from game theory. The focus is on which infrastructure to develop and when. Players' preferences are functions of equity stakes and expected reserve sizes of the prospects. The analysis provides insight into the preferred development options of the individual players, how preferences change as uncertainty gets resolved, and how much individual players are to gain or lose if certain investment decisions are made. The analysis allows a player (1) to identify under what conditions its objectives are aligned with fellow players and (2) to quantify the maximum amount it can pay to gain support from its fellow players.

1. Introduction

Decision analysis is often used to create insight for and support decision making in the exploration and production (E&P) industry. Classical decision analysis focuses on one decision-maker or a single organization facing an uncertain environment. However, some decision situations involve several players (individuals or organizations) in a competitive environment. Game theory aims to illuminate situations in which decision-makers interact.

The theory assumes that partners or players in a relationship have different interests, objectives, and influence. The optimal choice for any individual player might not be optimal for its fellow players, who may opt to prevent it. However, understanding the objectives and influencing opportunities of its fellow players enables a player to sensibly judge whether to change outcome of the game or alternatively the player might realise that no positive outcome is feasible due to the power of other players.

These concepts are especially relevant to the E&P industry, whose increasing domination by joint ventures and tighter governmental regulation are expected to increase conflict between business partners.

This paper is organized as follows. The next section introduces game theory and its basic properties. The section also compares and contrasts game theory with decision analysis, which has a longer tradition in the E&P industry. We also provide a brief review of E&P applications of game theory. The third section provides three examples of the application of game theory to a specific problem to the E&P industry, the development of a series of oil reservoirs. Through a comprehensive analysis of these games, we characterize various attributes of the competitive situation and illustrate how game theory can be used to generate decision-relevant insight for the players. The fourth section discusses the broader application of game theory in the E&P industry. The fifth section suggests a research agenda to explore the potential and role of game theory in the E&P industry. The final section presents concluding remarks.

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