Risk and benefit sharing schemes in oil exploration and production

Abstract

The volatile environment of oil exploration and production sets new challenges to market players prompting them to explore new business models. In this paper, we analyze a novel type of partnering in oil and gas operations, i.e. risk and benefit sharing schemes, that enable an oil field operator to bring third parties into the field development process. We develop a valuation method to assess the feasibility of such risk and benefit sharing schemes based on the real options approach and identify the optimal contract policy from the perspective of both the oil company (field operator) and the contractor. We analyze an application case where a field operator collaborates with a drilling contractor to share risks and benefits resulting from the oil field development. We propose three different risk sharing contract structures that allow various levels of risk distribution to be achieved. In one of the proposed contracts, we incorporate an “exit” clause in the contract as an instrument to provide flexibility for the parties to withdraw from the partnership as uncertainty unfolds. Our results show that the risk and benefit sharing schemes with embedded flexibility have the potential to become an alternative form of contracting in the oil and gas industry.