Shale gas numbers may not add up
By John Dizard
Published: November 1 2009 11:17 | Last updated: November 1 2009 11:17
From one end of the known world to the other, which is to say from Boston to Washington and some points in between, there is a consensus among the well informed that one part of a national energy plan is in place. Thanks to the discovery and mapping of huge reserves of gas in shale formations, we have an alternative to dirty old coal, and, possibly, imported oil for transport fuel. A 40 per cent increase in the country’s gas reserves! You can thank advanced American technology for that.
Well, you can thank advanced American something, but along with the technology you can also thank the advanced American ability to extract money from investors. The key element of this national characteristic is the willingness to listen carefully to determine what people with money want to hear, and then tell them that. Again and again.
Shale gas, the latest magic solution being financed with other people’s money, now appears to be costing more, and has much less certain prospects, than Wall Street, Washington, or their consultants around Boston, were counting on.
The historic problem with raising money from outside investors to pay for oil and gas drilling is the lack of consistent co-operation on the part of geology. Time and again, with all the three dimensional seismic imaging, reservoir engineering, and so on, people drill wells to 5,000 or 6,000 metres only to get a dry rock collection. Finding oil and gas requires a significant amount of trial and error. Bankers, brokers, and institutional investors do not want to hear this. They want to hear that the businesses they invest in are predictable.
The production of natural gas dispersed through shale rock plays well to this characteristic. There is a very large amount of shale reserves, and, in a given area, the gas tends to be somewhat more evenly dispersed than it is in, say, sandstone rocks. However, the shale rock is denser, with less of the natural porosity that makes it relatively easy to get gas out of sandstone.
This is where the technology comes in. Hydraulic fracturing, or “fracking”, is a technique to force liquids through a drill hole at high pressure to create cracks in gas or oil-bearing rock. The gas or oil flows through those artificial cracks to the wellbore. To keep the cracks open, the operator may mix in “proppant”, such as little ceramic spheres. It’s all difficult and ingenious, and requires a lot of expensive equipment and skilled people – including skilled promoters. Someone in Houston came up with the concept of shale gas production as “manufacturing”. The shale rocks are so uniform, you see, that the risk of a dry hole would be almost entirely eliminated. You just add money and water (fracking) to a known raw material, and watch the gas grow. It also involves technology, which means vague comprehension of the material world.
Ideas like that are why God made PowerPoint. The oil and gas industry took the idea and ran with it. For example, there are a lot of factors in determining the value of a gas well. One of them is IP, or initial production. Shale gas wells that have been fracked have a high IP, and the shale-oriented companies have focused on that number.
Now shale gas fields have gone from having about 15 per cent of the total gas exploration and production spending committed to them to well over half. Enormous reserves have been found. But how much can be produced economically, and how quickly?
The leading shale sceptic analyst is an independent geologist, Art Berman, often described as a “radical”. Rather soft spoken, though, he says: “I hope I’m wrong about shale.” The problem, as he sees it, is that the standard industry analysis about shale well Estimated Ultimate Recovery, or lifetime production, is too optimistic. “They have fantastic initial rates, but the question is whether the (rate of production) persists as they say.” For example, he says, in deep shale formations “the rock collapses as gas is produced, and crushes the proppant. And as the fractures are drained you have to frac and frac and frac.” Expensive.
Dan Pickering, director of research at the Houston investment firm of Tudor Pickering Holt, counters: “Berman’s decline curve analysis is looking too early in the production curves to judge where the decline (rate) will actually be. As for rising decline rates, I think exploitation techniques have improved, so rising decline does not necessarily mean worse economics.”
Ben Dell, of Bernstein Research in New York, whose work is respected by both sides in the debate, says: “The average well deteriorates more in quality, and more wells fail, than people believe. Still, I think a rise in prices would make more (shale prospects) economic. Plenty of plays work at $9 per mcf [1,000 cubic feet].”
This less-than-expected productivity in the leading gas sector tells Mr Dell that US gas production will decline on the order of 10 per cent next year, leading to $8-$9 gas, or $3 to $4 more than the forward curve anticipates.
Wall Street and Washington had better do more due diligence, right quick, on the shale gas industry’s insider debate.