Real options approach to decision-making in oil and gas field developments

Abstract

This CCS aims to create a framework to value the benefits of a shipping channel. The framework has been applied to Sethusamudram Ship Channel project. The report discusses the benefits of a shipping channel in general followed by a detailed description of the Sethusamudram Project. Thereafter, the CCS discusses the detailed cost and benefits of the channel using the data available in the Detailed Project Report made by L&T – Ramboll. The report also details the traffic forecast for the Project for the coming 21 years which will provide the revenue stream for the project. Thereafter, the costs are considered which include the initial, recurring and the maintenance costs. The difference of these costs helps make the decision whether the Government should continue with the project. The traffic forecast is modelled as growing in tandem with the growth rate of the nominal GDP growth for manufacturing forecast for the coming years. Next, the savings from the channel are forecast consisting of fuel savings and charter costs. The tariff is calculated using the traffic forecast, as 50% of the total savings incurred to the ships by using the channel. Project free cash flows are calculated to check the financial viability of the project. This result is also checked for its sensitivity to give a complete picture for various factors such as growth rate, Tax rate and WACC. This is complemented by a break-even tariff analysis followed by its sensitivity analysis. We have also valued the project in terms of real option as it satisfies all the criteria for an infinite life American option. The repost also discusses the economic viability of the project keeping in mind the various limitations that exist. There are some social and economic benefits that cannot be quantified and hence they are discussed qualitatively with respect to their impact on the complete project. Finally, all the above is integrated as a spreadsheet model.