Comparison of Discounted Cash Flow, Decision Analysis, and Flexibility in Design for handling uncertainty in Oil and Gas Capital Projects
Oil and gas companies face multiple uncertainties when designing and implementing capital projects. Capital heavy projects with long-time horizons face various uncertainties that are difficult to predict and mitigate. Numerous ways of dealing with these uncertainties exist: decision analysis, real o...
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| Format: | Thesis |
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Massachusetts Institute of Technology
2022
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| Online Access: | https://hdl.handle.net/1721.1/140075 https://orcid.org/0000-0001-8354-1280 |
| Summary: | Oil and gas companies face multiple uncertainties when designing and implementing capital projects. Capital heavy projects with long-time horizons face various uncertainties that are difficult to predict and mitigate. Numerous ways of dealing with these uncertainties exist: decision analysis, real options, flexibility in engineering design, and economic discounted cash flow models. The question remains of what is the most effective way of dealing with uncertainties.
Decision analysis is utilized to understand possible risks and evaluate the decision quality of a project. It addresses uncertainties in the later stages of the project once the design has been completed. Flexibility in engineering design also deals with uncertainty, principally during the design phase of the project. It enables the architecture of the projects to respond to changing circumstances easily and cost-effectively.
This thesis compares and contrasts flexibility in engineering design and its usefulness with decision analysis and discounted cash flow analyses. It focuses on how these methods address uncertainty and compares the project results that received uncertainty treatment during the decision analysis phase with project results where uncertainty is addressed during the project design phase. We examine a hypothetical project case applying methodologies and compare deterministic and probabilistic project models.
The recommendation is to utilize flexibility in engineering design for projects that face high uncertainty. Addressing uncertainty early in the project design phase could deliver the most value compared to uncertainty treatment in a later project phase. Flexibility in engineering design is not a substitute for a complex project model. While it could be difficult to select among various flexible designs, they often could perform better. Still, it is easy to utilize, allows for better development of the complex economic model, and simplifies decision analysis as uncertainty valuations have been completed early in the project design stage. |
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