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Geology or Economics? Testing Models of Irreversible Investment Using North Sea Oil Data

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  • Hurn, A S
  • Wright, Robert E

Abstract

This paper tests the main implications of models of irreversible investment using data from operations in the oil fields in the North Sea. Discrete-time hazard regression models are used to ascertain the influence of economic variables, the expected price of oil, the variance of the price of oil and the level of reserves, on the lag between the discovery of a field and the decision to develop the field. We are able to control for heterogeneity in the data by incorporating variables which account for both the geological features of each field and individual operator characteristics. The results indicate that the expected price of oil and the level of reserves are important in influencing the appraisal duration but that the variance of the oil price is not. Variables capturing the non-economic features of the individual fields are also found to be significant factors affecting the appraisal lag. Copyright 1994 by Royal Economic Society.

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  • Hurn, A S & Wright, Robert E, 1994. "Geology or Economics? Testing Models of Irreversible Investment Using North Sea Oil Data," Economic Journal, Royal Economic Society, vol. 104(423), pages 363-371, March.
  • Handle: RePEc:ecj:econjl:v:104:y:1994:i:423:p:363-71
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    Cited by:

    1. Christopher F. Baum & Mustafa Caglayan & Oleksandr Talavera, 2010. "On the sensitivity of firms' investment to cash flow and uncertainty," Oxford Economic Papers, Oxford University Press, vol. 62(2), pages 286-306, April.
    2. Bulan, Laarni & Mayer, Christopher & Somerville, C. Tsuriel, 2009. "Irreversible investment, real options, and competition: Evidence from real estate development," Journal of Urban Economics, Elsevier, vol. 65(3), pages 237-251, May.
    3. Carruth, Alan & Dickerson, Andrew & Henley, Andrew, 2000. " What Do We Know about Investment under Uncertainty?," Journal of Economic Surveys, Wiley Blackwell, vol. 14(2), pages 119-153, April.
    4. Jérôme Bourdieu & Benoît Coeuré & Béatrice Sédillot, 1997. "Investissement, incertitude et irréversibilité. Quelques développements récents de la théorie de l'investissement," Revue Économique, Programme National Persée, vol. 48(1), pages 23-53.
    5. Jean-Pierre Ponssard & Catherine Thomas, 2010. "Capacity Investment under Demand Uncertainty. An Empirical Study of the US Cement Industry, 1994-2006," CESifo Working Paper Series 3166, CESifo Group Munich.
    6. Klaus Mohn & Bård Misund, 2011. "Shifting sentiments in firm investment: an application to the oil industry," Applied Financial Economics, Taylor & Francis Journals, vol. 21(7), pages 469-479.
    7. Mark J. Koetse & Henri L.F. de Groot & Raymond J.G.M. Florax, 2006. "The Impact of Uncertainty on Investment: A Meta-Analysis," Tinbergen Institute Discussion Papers 06-060/3, Tinbergen Institute.
    8. Conconi, Paola & Sapir, André & Zanardi, Maurizio, 2016. "The internationalization process of firms: From exports to FDI," Journal of International Economics, Elsevier, vol. 99(C), pages 16-30.
    9. Knaut, Andreas & Madlener, Reinhard & Rosen, Christiane & Vogt, Christian, 2012. "Effects of Temperature Uncertainty on the Valuation of Geothermal Projects: A Real Options Approach," FCN Working Papers 11/2012, E.ON Energy Research Center, Future Energy Consumer Needs and Behavior (FCN).
    10. Odening, Martin & Musshoff, Oliver & Huettel, Silke, 2003. "Empirische Validierung von Realoptionsmodellen," Working Paper Series 18825, Humboldt University Berlin, Department Agricultural Economics.
    11. repec:eee:jfinec:v:124:y:2017:i:3:p:563-579 is not listed on IDEAS
    12. Muehlenbachs, Lucija, 2012. "Testing for Avoidance of Environmental Obligations," Discussion Papers dp-12-12, Resources For the Future.
    13. Klaus Mohn & Petter Osmundsen, 2011. "Asymmetry and uncertainty in capital formation: an application to oil investment," Applied Economics, Taylor & Francis Journals, vol. 43(28), pages 4387-4401.
    14. Lin, C.Y. Cynthia, 2009. "Do Firms Interact Strategically?," Working Papers 225896, University of California, Davis, Department of Agricultural and Resource Economics.
    15. Timothy Dunne & Xiaoyi Mu, 2010. "INVESTMENT SPIKES AND UNCERTAINTY IN THE PETROLEUM REFINING INDUSTRY -super-," Journal of Industrial Economics, Wiley Blackwell, vol. 58(1), pages 190-213, March.
    16. Bulan, Laarni T., 2005. "Real options, irreversible investment and firm uncertainty: New evidence from U.S. firms," Review of Financial Economics, Elsevier, vol. 14(3-4), pages 255-279.
    17. Li, Yong & James, Barclay & Madhavan, Ravi & Mahoney, Joseph T., 2006. "Real Options: Taking Stock and Looking Ahead," Working Papers 06-0114, University of Illinois at Urbana-Champaign, College of Business.
    18. Christopher F. Baum & Mustafa Caglayan & Oleksandr Talavera, 2006. "Firm Investment and Financial Frictions," Discussion Papers of DIW Berlin 634, DIW Berlin, German Institute for Economic Research.
    19. repec:eee:energy:v:148:y:2018:i:c:p:904-914 is not listed on IDEAS
    20. Mohn, Klaus & Misund, Bård, 2009. "Investment and uncertainty in the international oil and gas industry," Energy Economics, Elsevier, vol. 31(2), pages 240-248, March.
    21. Timothy Dunne & Xiaoyi Mu, 2008. "Investment spikes and uncertainty in the petroleum refining industry," Working Paper 0805, Federal Reserve Bank of Cleveland.
    22. Davis, Graham A. & Cairns, Robert D., 2012. "Good timing: The economics of optimal stopping," Journal of Economic Dynamics and Control, Elsevier, vol. 36(2), pages 255-265.
    23. repec:bla:obuest:v:79:y:2017:i:1:p:124-144 is not listed on IDEAS
    24. Maryam, Ahmadi & Matteo, Manera & Mehdi, Sadeghzadeh, 2018. "Investment-Uncertainty Relationship in the Oil and Gas Industry," Working Papers 379, University of Milano-Bicocca, Department of Economics, revised 10 Apr 2018.

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