Comparison of three methods for evaluating oil projects

Option pricing, decision trees, and Monte Carlo simulations are three metho ds used to evaluate projects. In this paper, we compare their similarities and differences from three points of view-how they handle uncertainty in th e values of key parameters, such as reserves, oil price, and costs; how the y incorporate the time value of money; and whether they allow for manageria l flexibility. We show that, despite their obvious differences, they are in fact different facets of a general project-evaluation framework that has t he static base-case scenario as its simplest form. Compromises have to be m ade when modeling the complexity of the real world. These three approaches can be obtained from the general framework by focusing on certainty aspects .