Effect of Annual Oil Cost Recovery Ratio on the Optimal Oil Production Path and Payoffs in the Production Sharing Agreements

Production sharing agreement and joint ventures are frequently used in upstream oil industries. The contractual framework determines the affect the payoffs for each party. In this paper, the optimal production path explored using the Generalized reduced gradient method (GRG), and its sensitivity to the changes in annual cost recovery ratio is analyzed. According to the despite the different prospects of the two parties regarding the optimal path of production, changes in the annual oil cost recovery ratio do not chande the optimal path of oil production. Therefore, any increase in the annual oil cost recovery ratio would reduce the NPV of per barrel of oil extraction (NPV/q) for the host government, increase it for the investing company and reduces the payback priod of capital expenditures without changing the production path