Investing in exploration for oil and gas reserves is very attractive when it can be demonstrated that the risk adjusted returns exceed the investment by a 2-4:1 margin.

To realize this type of margin the explorationist must focus on opportunities that demonstrate – by analysis of historical data – that these types of financial rewards are reasonable. The process for identifying exploration opportunities that fit this criteria is generally referred to as "trend" or "basis" analysis. The objective of the analysis is to identify the geologic trends offering the highest probability of achieving a company's desired risk adjusted return on invested capital.

The author will present a process for conducting a trend analysis that is quick, efficient, and complements the explorationist's judgment about screening areas for investment. The process and support computer software consist of the following.

  • Build a historical database of well drilling and production information. Commercial sources for this database include the Texas Railroad Commission, Petroleum Information and DWIGHT'S Energy Data.

  • Compute trend drilling statistics to estimate success ratios.

  • Compute reserves added by recent exploration discoveries and set up a distribution of reserves by trend.

  • Compute a distribution of development economics for reserve discoveries in a trend.

  • Simulate drilling multiple exploration wells in each trend and calculate the risk adjusted return per trend.

  • Rank trends by a financial indicator such as discounted or undiscounted cash flow to investment ratio.

  • Simulate an exploration program where financial resources are allocated over several attractive trends and compute an allocation of funds to develop prospects and drill wells in each trend.

After the analysis process is complete, an allocation of funds is made to trends based on the combined effects of the probability of success and the probability of finding reserves of a given value. An exploration strategy is then developed which allocates personnel to prospect generation in the trends of interest or to analysis of investment opportunities with other companies.

The author intends to use a South Texas trend to illustrate the analysis process, to demonstrate the computer models and statistical techniques, and to show typical results.

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