Modeling the cost of shut-in production and the value of information in the Gulf of Mexico

Weather delay is a common risk in offshore energy production, and in the Gulf of Mexico, the occurrence of tropical storms and hurricanes regularly force operators to shut-down production, cease drilling and construction activities, and evacuate personnel. In physical terms, shutting-in a well will usually not cause a loss of the hydrocarbon resource, but in financial terms, the impact of deferred production can have a significant economic effect. Improved ocean observation systems in the Gulf of Mexico are expected to enhance the reliability and accuracy of hurricane forecasting, lowering the probabilities of false positives, and positively impacting the economic and human life consequences. Improved information reduces risk, and to the extent that operators are risk averse, enhanced information increases welfare. The purpose of this paper is to provide a methodological framework to estimate the cost of shut-in production due to extreme weather, and to provide a first-order lower-bound estimate of the market value of improved weather forecasting. Shut-in production is modeled using various recovery scenarios and valued in terms of the cash flow analysis over the life of the asset. A description of the valuation model and the nature of production recovery is outlined and illustrated through stylized examples.