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THREE DECADES OFSCENARIO PLANNING
IN SHELL
GROUP – II
SANJEEV RALLISARMAPAISANGARANJITH
SHELL
• ROYAL DUTCH SHELL
• GLOBAL OIL AND GAS COMPANY
• HQ IN NETHERLANDS, REGISTERED OFFICE IN LONDON
• FIFTH LARGEST COMPANY IN THE WORLD
• SECOND LARGEST ENERGY COMPANY
SHELL• OIL EXPLORATION AND PRODUCTION
• REFINING
• DISTRIBUTION AND MARKETING
• PETROCHEMICALS
• POWER GENERATION
• TRADING
• RENEWABLE ENERGY
SCOPE • INTRODUCTION
• FORECASTS vs SCENARIOS
• BRIEF HISTORY OF SHELL SCENARIOS
• SCENARIOS AS INTEGRAL PART OF STRATEGIC PLANNING
• SELECTING PROJECTS USING REAL OPTIONS
• COMBINING SCENARIO ANALYSIS AND REAL OPTIONS
• CONCLUSION
INVESTMENT RISKS DUE TO EXTERNAL UNCERTAINTIES
FOR EXAMPLE
US FOREIGN POLICY WAS FUNDAMENTALLYALTERED POST WTC ATTACK IN 2001
FORECASTS vs SCENARIOS• FORECASTS
– BASED ON TODAY’S REALITIES
– DOES NOT ACCOUNT FOR UNCERTAINTIES
– ARE DANGEROUS AS THEY ARE WRONG WHEN NEEDED THE MOST
FORECASTS vs SCENARIOS• SCENARIOS
– ARE NOT PROJECTIONS, PREDICTIONS OR PREFERENCES
– COHERENT AND CREDIBLE ALTERNATIVE STORIES ABOUT THE FUTURE
– TAKE INTO ACCOUNT VARIOUS UNCERTAINTIES
– DESIGNED TO HELP COMPANIES TO DEVELOP STRATEGIES AND TEST THEIR PLANS
FORECASTS vs SCENARIOS• SCENARIOS- SERVE MULTIPLE FUNCTIONS
– PRESENT A BACKGROUND FOR DESIGN AND SELECTION OF STRATEGIES
– HELP MAKE MANAGERS AWARE OF ENVIRONMENTAL UNCERTAINTIES BY CONFRONTING THEM WITH DIFFERENT FUTURE STATES
– PROVIDE A TOOL TO IDENTIFY WHAT MIGHT POSSIBLE HAPPEN AND HOW CAN ONE ACT OR REACT TO FUTURE DEVELOPMENTS
– OFFER POSSIBILITY OF COMBINING QUANTITATIVE DATA WITH QUALITATIVE INPUT
– HELP MANAGERS MENTAL MODELS BY CONFRONTING THEM WITH THEIR OWN BIASED VIEWPOINTS
FORECASTS vs SCENARIOSTHE PRESENT
THE FUTURE
ALTERNATIVE FUTURE IMAGES
SCENARIOS
FORECASTSTHE PATH
CURRENT REALITIES(MENTAL MAPS) MULTIPLE PATHS
SCENARIOS COMBINED WITH REAL OPTIONS ANALYSIS
• EMPHASIZES THAT MANY INVESTMENTS CREATE FOLLOW ON OPPORTUNITIES
• SCENARIOS CAN CONTRIBUTE TO REAL OPTIONS IN THREE LEVELS– HELP IDENTIFY OPTIONS IN THE FUTURE– HELP TIME THE DECISION TO EXERCISE REAL
OPTION– PROVIDE AN IMPORTANT INPUT IN THE
PROCESS OF EVALUATING IT
BRIEF HISTORY OF SHELL SCENARIOS
• PIONEERS IN SCENARIOS PLANNING
• FIRST SCENARIOS DEVELOPED IN 1972– SIX SCENARIOS WHICH INCLUDED
ECONOMIC GROWTH, OIL SUPPLY AND OIL PRICE OPTIONS
– SUITED TO ADDRESS MEDIUM TERM CONCERNS
BRIEF HISTORY OF SHELL SCENARIOS
• IN 1974– “THE RAPIDS” EMERGED AS FRAMEWORK TO BUILD
SPECIFIC SCENARIOS
• “WORLD OF INTERNAL CONTRADICTIONS” (WIC) WERE FIRST COMPREHENSIVE LONG TERM SCENARIOS ON ECONOMIC AND ENERGY MARKET PREDICTIONS
• “CONSTRAINED GROWTH” WAS DEVELOPED IN 1975 AS PART OF WIC – RECOVERY WOULD BE SLOWER THAN PREVIOUS
UPSWINGS
BRIEF HISTORY OF SHELL SCENARIOS• IN 1980s, THE SHELL SCENARIOS ELABORATED SOCIO-
POLITICAL ANALYSIS
– “NEXT WAVE” SUGGESTED THAT BY 1986/87 THE PRICE FOR OIL COULD DROP TO USD 18/BBL
– “DEVOLUTION” SUGGESTED GRADUAL OPENING UP OF CENTRAL AND EASTERN EUROPE DUE TO NEED FOR TECHNOLOGY AND CONSUMER GOODS
• BY 1987 SHELL SCENARIOS HAD GROWN IN SIZE, COMPRISING THREE SEPARATE VOLUMES ON OIL, ENERGY AND SOCIO-ECONOMIC TRENDS
– FIRST TIME SCENARIOS IDENTIFIED POSSIBLE TENSIONS ARISING FROM GLOBALIZATION AS A FUNDAMENTAL TREND
BRIEF HISTORY OF SHELL SCENARIOS
• IN 1990s– “THERE IS NO ALTERNATIVE” (TINA) EVOLVED DUE TO
DISMANTLING OF ECONOMIC BORDERS AND LIBERALIZATION
• “THE NEW GAME” (A TINA ABOVE) EMPHASIZED GLOBAL GOVERNANCE
• “PEOPLE POWER” (A TINA BELOW) EXPLORED EFFECTS OF GROWING NUMBERS OF PEOPLE BECOMING WEALTHIER AND EDUCATED
• IN 2000s– “PEOPLE AND CONNECTIONS” STRESSED THAT PEOPLE
WANT GOVERNMENT REGULATIONS TO ASSURE UNINTERRUPTED SUPPLY OF GOODS
SCENARIOUS - INTEGRAL PART OF STRATEGIC PLANNING
TYPES OF SCENARIOS IN STRATEGIC PLANNING
GLOBAL SCENARIOUS
•DESIGNED TO HELP COMAPANY FORMULATE OVERALL TACTICAL STRATEGY
•PERMIT MANAGEMENT TO EXPLORE NEW IDEAS BY MOVING AWAY FROM GROUP THINK
FOCUSSED SCENARIOS-
• DEAL WITH COUNTRY SPECIFIC ISSUES OR INDIVIDUAL PROJECTS
•ALLIGNED TO IMPROVE JUDGMENT OF INDIVIDUAL MANAGERS ON INVETSMENT DECISIONS
PROJECT SCENARIOS-
•HELP ASCERTAIN ROBUSTNESS OF INVESTMENT DUE TO GLOBAL AND FOCUSED SCENARIOS
SCENARIOUS - INTEGRAL PART OF STRATEGIC PLANNING
STEPS TO EFFECTIVE STRATEGIC PLANNING
GLOBAL SCENARIOUS KEPT AT CENTRE OF THE PROCESS
COMBINED WITH OTHER APPLICATIONS TO IDENTIFY RISKS AND OPPURTUNITIES
STUDY DEMAND TRENDS AND ANALYSE COMPETITORS BEHAVIOUR
DEFINE THE GROUPS CUSTOMER VALUE PROPOSITION
ARRIVING AT STRATEGIC DECISIONS
SELECTING PROJECTS USING DCF APPROACH
ALLOCATE RESOURCES BASED ON HIGHEST NET PRESENT VALUE (NPV)
CALCULATED USING DISCOUNTED CASH FLOW (DCF)
FUTURE DISCOUNTED VALUE OF CASH FLOWS
PRESENT VALUE ADJUSTED FOR BOTH TIME AND RISK
SUITABLE WHEN UNCERTAINTY IS LOW
MORE CONSERVATIVE APPROACH
SELECTING PROJECTS USING REAL OPTIONS
REAL OPTION ANALYSIS
USEFUL TOOL WHEN UNCERTAINTY IS HIGH
EVOLVED FROM FINANCIAL OPTION PRICING MODELS
REAL OPTIONS ENHANCE DCF ANALYSIS
RECAPTURES PROJECT VALUE LOST BY DCF ANALYSIS
BASED ON THE ASSUMPTION THAT THERE IS A TRADED SECURITY WHOSE PAYOFFS AND RISKS ARE SIMILAR TO THE REAL PROJECT
HISTORY AS PREDICTOR OF FUTURE
DISCONTINUITY
µ µ α
α
Historical Behavior of Source Uncertainity
Potential Future Behavior of Source Uncertainity
Factors imparted by Firms Decision
Factors outside firms control
SCENARIO ANALYSIS & REAL OPTION COMBINED
IN HIGHLY UNCERTAIN ENVIRONMENT, REAL OPTION ANALYSIS IS PARTICULARLY SUITABLE BECAUSE-
•PROJECT’S VALUE CHANGES OVER TIME•AVAILABILITY OF NEW INFORMATION•ABILITY TO ACT ON THAT INFORMATION
SCENARIO- GAS EXPLORATION IN WEST AFRICA
• DISCOVERY OF SIGNIFICANT AMOUNT OF NATURAL GAS IN WEST AFRICA
• REQUIRES PIPING / LIQUIFICATION / TRANSPORTING / REGASIFICATION
• INVOLVES SIGNIFICANT COST FOR ALL THESE ACTIVITIES
1990s
GAS MARKET LARGELY DECONTROLLED
MEAN GAS PRICE $2.0/MMBTU WITH AN ANNUAL VOLATILITY OF 57.2%
UNDER THIS CONDITION COMPANY WILL NOT CONSIDER DEVELOPING WEST AFRICAN GAS FIELDS DUE TO HIGH COST ASSOCIATED AND YIELDING NEGATIVE NPV
OPTION DURING 2000s NORTH AMERICA
• NATURAL GAS PRICE MORE THAN DOUBLED BETWEEN 2000 AND 2005 AT $ 4.6 /MMBtu WITH 100% VOLATILITY
• CONCERN FOR POLLUTION, PREFERRED FOR DOMESTIC HEATING
• MASSIVE INVESTMENT IN CCGT PLANTS FOR ELECTRIC GENERATION
• RESTRICTION IN EXPLORATION eg UNCONVENTIONAL METHODS, AREA, etc,
• IMPORT WILL BE REQUIRED TO MEET HIGHER DEMANDS UNDER SUCH CONDITIONS
SCENARIOS COMBINED WITH REAL OPTIONS ANALYSIS
• EMPHASIZES THAT MANY INVESTMENTS CREATE FOLLOW ON OPPORTUNITIES
• SCENARIOS CAN CONTRIBUTE TO REAL OPTIONS IN THREE LEVELS– HELP IDENTIFY OPTIONS IN THE FUTURE– HELP TIME THE DECISION TO EXERCISE REAL
OPTION– PROVIDE AN IMPORTANT INPUT IN THE
PROCESS OF EVALUATING IT
CONCLUSION SCENARIO PLANNING IS AN IMPORTANT TOOL FOR UNDER STANDING •CRITICAL UNCERTAINTIES•INTER-RELATIONSHIPS OF THE UNCERTAINTIES
SCENARIO ANALYSIS IS COMBINED WITH REAL OPTION ANALYSIS •TO CHOOSE PARTICULAR PROJECTS•TO ALLOCATE CAPITAL EFFICIENTLY IN THE BEST INTEREST OF THE SHAREHOLDERS
Thank You