Overseas oil investment projects under uncertainty: How to make informed decisions?

To better address the complexity of overseas oil investment and help investors to make the informed decision in overseas oil investment, this paper applies real options theory and Monte Carlo simulation to study overseas oil investment evaluation. The model has incorporated not only the uncertainties of oil price and investment cost but also the uncertainties of exchange rate and investment environment. These unique features have enabled our model to be best equipped to evaluate the value of oil overseas investment projects of three oil field sizes (large, medium, small) and under different resource tax systems (royalty tax and production sharing contracts). In our empirical setting, we have selected China as an investor country and Indonesia as an investee country as a case study. Our results show that, although production sharing contract (PSC) is convertible to that of resource royalty system, given the flexibility in PSC, it can to great extent increase the bargaining power of investee country. As there is an important tradeoff between oil resource investee country and overseas oil investor, in medium and small sized oil investment negotiation the oil company should try to increase the cost oil limit in production sharing contract and avoid the term of a windfall profits tax to reduce the investment risk of overseas oil fields.