Techniques from the burgeoning area of real options are helping petroleum companies better value and manage their important assets. The real options perspective holds that typical discounted cash flow (DCF) techniques (including typical decision analysis or Monte-Carlo simulation) capture only part of an asset’s value; significant value also derives from the management options inherent in the asset. For example, owning an offshore lease not only gives the owner the right to develop the field, it also gives the owner the implicit option to build oversize facilities to process oil from nearby fields. This option may give the lease additional value. The question remains, however, how does one determine all of the real options embedded in an asset? What are the management flexibilities that give rise to real option value in an asset?

This paper will discuss a series of practical framing techniques that uncover the managerial flexibility and learning that are the hallmarks of real options. The techniques are fundamentally creative, rather than analytic, and focus on the entire value chain associated with the asset. By focusing on the future, the goal of the framing is to produce the set of key dynamic asset management decisions that must be made over time, and the evolving uncertainties that influence those decisions. Proper structuring of these decisions and uncertainties establishes a blueprint for calculating the value of the asset, providing a key advantage over typical valuation methods such as DCF or decision analysis. We will present examples from oil and gas projects that will illustrate how multi-disciplinary teams have used these techniques to uncover real options that contributed significant value to petroleum assets.

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