Oil exploration issues

The reserves of major international oil and gas companies, measured in accordance with international standards, have an average life of 13 years. Beyond 2025, given the current level of exploration, producing companies are likely to face the challenge of finding new reserves to replace those being produced. Until 2025, there is still a chance to increase output by adopting enhanced oil recovery methods and advanced technologies, but in 2030 the anticipated gap can only be bridged by involving new, as yet unexplored fields in commercial production.

In the middle of the last decade, exploration projects accounted for nearly 10 percent of the investment budget of major international oil and gas companies, but the proportion of such investments is now growing for number of reasons. First is the lack of promising development and production projects that meet the predetermined investment criteria. Due to the high level of competition, an asset’s price is not always, commensurate to its added value. A second reason may be unsuccessful experience in acquiring overpriced production assets, although some acquisitions were ultimately a success story for major players who understood the current state of the acquired assets and knew how to capitalize on their potential. The third reason is “resource nationalism”, a trend prevailing in resource-rich countries that are reluctant to share hydrocarbon reserves with international players. The host governments tend to limit foreign involvement to exploration activities and the development complex geological structures requiring specific technical expertise. For all other activities, the go-ahead is given mostly to national companies.

Among key considerations for investing in an exploration project is the project’s success rate, which is calculated as capitalized drilling costs (total investments in exploration drilling, less the cost of dry holes) divided by total investments in exploration drilling. The world success rates of exploration drilling normally range from 40 percent to 70 percent. Another dominant factor is the weight of prospecting costs (to be expensed as incurred in accordance with international accounting standards) in the total exploration budget. While in the 1970s and 1980s, the time lag between discovery and production could be two or three decades, this has now been reduced to eight to nine years.

In 1995, James MacKay derived a formula for calculating the optimal interest in an exploration project. The formula is based both on research to assess numerous companies’ risk appetites and on utility theory. The strength of the formula lies in fairly direct calculations, making it possible to quickly and very reliably define the right size of interest in any project. The formula’s results have been repeatedly proven and are highly regarded by professionals, who recommend this approach for further use.

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