Optimizing Oil Production: A Case Study of Sea Shell Oil Company (SS)
a. How many barrels will SS pump this year?
Given the extraction cost, user cost, and market price, what is the optimal production level for Sea Shell Oil Company (SS) this year?
b. What is the total accounting profit on the total amount of oil SS pumps?
Considering the market price and extraction costs, what is the accounting profit accumulated by SS from its oil production?
c. What is the total economic profit on those barrels of oil?
With the specified costs and market price, what is the economic profit generated by SS from its oil production?
a. Answer
Sea Shell Oil Company (SS) will pump a total of 90 million barrels this year. This includes the initial 5 million barrels at an extraction cost of $30 per barrel and the remaining 85 million barrels at an extraction cost of $60 per barrel.
b. Answer
The total accounting profit on the oil SS pumps can be calculated by subtracting the total extraction cost from the revenue generated. With a market price of $115 per barrel, the accounting profit will be significant.
c. Answer
The total economic profit on those barrels of oil will take into account not only the explicit costs like extraction and user costs but also the implicit costs. By subtracting all costs from the revenue generated by selling the oil, the economic profit can be determined.
Understanding Capacity in Oil Production
Capacity in oil production refers to the maximum number of barrels of oil that can be extracted and pumped by a company within a specified time period. In the case of Sea Shell Oil Company (SS), the maximum capacity at their site off the coast of Nigeria is 90 million barrels per year.
Optimizing production to meet this capacity ensures efficient resource utilization and maximum output. Factors such as extraction costs, user costs, and market prices play a crucial role in determining the optimal production level for SS.
Accounting for both accounting and economic profits allows SS to assess the financial performance and viability of their oil production activities. By balancing revenues and costs, SS can make informed decisions to maximize profitability.
Capacity planning is a vital process for businesses like SS to align production levels with market demand and operational capabilities. By understanding and managing capacity effectively, companies can drive growth and competitiveness in the oil industry.