Standardizing Risk Analysis For the Evaluation of Oil And Gas Properties
Authors: Robinson J.G. 
Published: March 2010

It is becoming more and more difficult to add new reserves to replace annual production from depleting oil and gas resources. Most of the "easy" oil and gas fields have been discovered, and now we must look for the more elusive accumulations and become more creative in devising improved or new production practices. Although advances in 3D seismic, horizontal drilling, completion techniques and computer applications have improved our ability to find and produce new reserves, risks have, unfortunately, increased. In addition to the technical risks, economic risks are becoming more burdensome. Various groups have attempted to develop standards to deal with this increasing uncertainty, but are encountering a great reluctance to change. The Petroleum Society Standing Committee on Reserves Definitions has been actively trying to promote a revised reserve classification system to serve as a standard for all reserves evaluations. The Society of Petroleum Engineers, the Society of Petroleum Evaluation Engineers, The World Petroleum Congress and the Canadian Securities Commissions are all looking at upgrading their respective Reserve Definitions.

Every factor used in the evaluation of oil and gas assets has varying degrees of uncertainty associated with it; thus, evaluators must have some knowledge of statistical methods in dealing with the problem. There are many statistical techniques available to deal with the problem of uncertainty, such as Monte Carlo Simulation, Expected Value and Decision Tree Analyses. These can be sophisticated or simple, depending upon the data, the resources, and the need to derive statistical measurements.

The purpose of this paper is to emphasize the need to incorporate and standardize the application of risk, and to propose a revised Expected Value Method for the economic evaluations of reserves and dispel the myths that statistical procedures are difficult, time consuming, and expensive.

Introduction

In the evaluation of oil and gas properties, there is always uncertainty. There are two types of oil and gas assets which form the upstream values of oil and gas companies-reserves and exploratory lands. Reserves usually provide the most value in acompany's portfolio, but exploratory lands have value and must also be included. The uncertainty associated with the latter is much greater than that associated with the evaluation of oil and gas reserves. Because "the value of any asset is a function of the ability of that asset to generate future income(l)," the process of evaluating either reserves or exploratory lands should follow the same procedure.

The first step in an evaluation is to estimate how much oil, gas and by-products can be produced from an entity. In the evaluation of an exploratory land, where reserves have not been discovered, several reserve estimates may have to be evaluated; whereas, in the evaluation of reserves, the amount of hydrocarbons to be recovered may be fairly well established. The second step is to prepare a "discounted cash flow" analysis for the reserves that are estimated to be recovered. The final step in the evaluation is to incorporate the probabilities of occurrence of the cases considered.