The Petroleum Truth Report

My goal is to offer clear and direct explanations of energy reality. These posts are data-driven interpretations of oil and gas topics that often challenge conventional thinking.

Facts are stubborn things

Several rebuttals to our position that shale gas reserves may be overstated have surfaced in recent weeks. This development is welcomed and positive because it elevates the important discussion of shale reserves and economics to a higher level of public awareness and dialogue. Although these rebuttals have been directed at me, I am not the only one with doubts. Ben Dell at Bernstein Research has published several reports recently that express similar, independently determined concerns about the cost, efficiency and reserves of shale plays. These doubts are shared among many petroleum industry scientists and financial analysts despite the enthusiasm for these plays by large public companies.

Critics of our position on shale gas plays have focused on methods of decline-curve analysis, and the projections of estimated ultimate recovery (EUR) that result. The problem with this debate from all sides is that we are uncertain about how to apply decline models to newer shale plays because there is insufficient production history to satisfy all of our questions. I will, therefore, focus on some stubborn facts about Barnett Shale cumulative production and approaches to play development.

(Click figures to enlarge)

Major operators claim that their average Barnett EUR will reach 2.2-3.3 Bcf/well. Figure 1 shows that those levels of EUR are unlikely to occur in an economically meaningful time frame based on cumulative production to date. Figure 2 shows that well performance has been erratic since operators began drilling horizontal wells, though the trend has been improving in recent years. This is probably due to drilling in areas outside of what are now known to be the core areas. The manufacturing paradigm that is prevalent in shale plays has lead many companies to assume that all areas in the Barnett Shale and other plays are uniformly attractive. Shale plays typically begin with a leasing frenzy whereby major players accumulate hundreds of thousands of acres, often at astronomical bonus prices. Next, a drilling frenzy ensues driven more by lease expiration schedules than by science. Only after considerable capital has been destroyed in this manner are the core areas recognized. This “Braille method” is completely opposite to the customary approach to E&P projects, where a cautious approach based on science is used to high-grade focus areas.

The methods used to obtain decline rates and reserve estimates for shale plays presented in this column employ best practices in the petroleum industry. Yet a group of professionals believe that some shale plays are exceptions to the methods of decline-curve analysis established by the Society of Petroleum Engineers (SPE). They should take this dispute to the SPE. It does not seem logical that type-curve methods should be more reliable than individual well decline-curve analysis. If the pattern of well decline is empirically exponential, it makes no sense that it should be treated as hyperbolic for conceptual reasons or because of a preference based on production from tight gas sand reservoirs that are not comparable in performance to shale gas reservoirs. We recognize that it may take many years before true steady-state flow is reached. But in the Barnett, decline trends are well developed in thousands of wells, and we must forecast reserves based on those trends, and not on some future, model-driven expectation of flattening decline rates.

Let me be clear. We do not dispute the volume of gas resources claimed by operators. We do question the reserves that, by definition, must be commercial on a full-cycle economic basis.

The time has come for the companies that operate in the shale plays to show the data that supports their optimistic forecasts for natural gas supply in the U.S. The economic viability of shale gas is a serious issue with profound implications for policy, alternate energy research funding, and national security. To simply say that those that have doubts about shale plays are wrong will no longer satisfy the many intelligent people who follow this debate.

Data provided courtesy of IHS Inc. However, the analysis and opinions expressed here are solely those of the authors and do not represent those of IHS or any other organization.

Rebuttals To Our Shale Play Research

Tudor, Pickering and Holt’s rebuttal to Lynn Pittinger’s and my work is not publicly available and is provided only to subscribers to their investment services. Below, however, is a transcription of their retort. I have also provided the articles by Devon and Chesapeake, coincidentally published on the same day as TPH’s report, in Oklahoma City news publications (where their headquarters are located).


Putting the Skeptics shale hypothesis to permanent rest ($4.50/mcf) TPH E&P Research Team

Tudor, Pickering and Holt
October 19, 2009

Taking the high road – After much internal debate, we have opted to take the high road and not call out these shale skeptics by name. While it would make us feel better, it would probably give more credibility and attention to some individuals than is warranted.

The calm before the storm. First, let us say that this is not a personal attack on these skeptics. We’ve met them. They seem like nice folks. While we believe their analysis is incorrect in almost every way, we do believe that they are sincere in their efforts. With those niceties out of the way, let’s put our cards on the table. We were willing to let sleeping dogs lie in our disagreement with their conclusions. The world is made up of differing opinions and the beauty is that the market is efficient in sorting them out (for example, it was pretty quiet in February from the $200/bbl oil crowd). However, we simply get too many questions about these skeptic’s work to ignore it…particularly since a recent Denver presentation questioned our own work on the topic. Two can play this game..and we say GAME ON!

Technical credentials. In any technical discussion, one must establish technical credibility. The TPH equity research team is staffed with engineers that have worked at Shell, Tenneco, Arco, Exxon Mobil, reservoir consultant Holditch & Associates and reserve auditor Netherland & Sewell. Dave Pursell has taught petroleum engineering courses at Texas A&M. Not only do our guys know words like non-linear flow and pseudo-steady-state..they actually understand what they mean. We’ve done decline curve work for 10-20 years. Our A&D team on the ibanking side has another group of engineering talent just like us – and they make technical assessments of reserves for a living. We know how to do this type of work.

Depth of analysis on this topic. Within the past six months, we’ve looked at 32 subsegments of US production, including individual analyses of various historical shale results (Barnett, Fayetteville, etc). The culmination of the analysis was our US Natural Gas Supply Study. We’ve got data coming out of our ears…we haven’t published it all (and won’t), but it confirms the technical work being done by literally hundreds of industry folks.

10 Reasons Why Skeptics Are Wrong:

1. Technical stuff matters – The skeptics claim Estimated Ultimate Recovery (EUR) in shales is much lower than stated by industry, analysts and reserve engineers. This is because their decline method is technically flawed and is biased to under-estimate recovery. They suggest that it is appropriate to assume Barnett Shale wells exhibit exponential decline after one year (and not apparent hyperbolic behavior). Reality – it takes many years for a very tight (low permeability) gas reservoirs to exhibit exponential decline behavior. Thus, hyperbolic decline can and should be used to approximate/extrapolate EUR’s. Whew – got through that explanation without a mind numbing discourse of transient vs. pseudo-steady-state flow.

2. Type Curves work – Skeptics further suggest that it is inappropriate to use type curves because it makes the data look smoother than it really is…and suggest that all wells should be analyzed individually. This is wrong for multiple reasons: (1) It is accurate/widely accepted to use normalized curves as long as there is a relatively stable well count and vintage/area effects are accounted for. (2) Projecting individual wells without checking the type curve trends will lead to overly pessimistic projections (see Reason #4). Type curves actually normalize for a negative bias that might be driven by individual well declines. (3) Reserve auditors project EUR’s on a by-well base…supplemented with type curves. Their by-well analysis is consistent with the type curve methods reported by companies. The answer is generally the same either way if the work is done correctly!

3. High Terminal Decline Rate is wrong – Skeptics state that terminal declines will be high in shale plays (>15%). Without 10-20 years of Barnett history (the oldest shale play), this cannot be disproved. However, there are literally thousands of data points (actual well production) that show low terminal decline rates in tight gas reservoirs. Read the technical papers. Look at the data. Enough said.

4. Reality bites – We loaded the skeptics Barnett ~1bcf EUR type curve (which are called optimistic) into our Barnett Shale model. We applied their type curve to the ~3,000 wells drilled in 2008. During 2008, actual Barnett production grew by The skeptics “optimistic” EUR curve estimated growth of only – which says it underpredicted actual incremental production by 0.5bcf/day or 70%. This is only for one year. If we went back to 2005/2006 and applied the type curve to all Barnett wells drilled, there is NO WAY this low type curve would match actual Barnett production of 5bcf/d. Scoreboard!

5. Like a fine wine, wells can get better over time – Skeptics also indicate that Barnett well performance has not improved over time. Au contraire, mon frère! In the Barnett and Fayetteville, reported well production shows higher y/y rates and higher projected EURs due to improved technology and better understanding of the reservoir (its called a learning curve). The skeptics decline-curve methodology (assuming the wells exhibit exponential behavior after one year) biases newer wells to have lower EUR’s than older/mature wells. Industry has shown consistent positive performance-based revisions in shale plays…wells get better and reserves increase over time.

6. Peak rate IS a good indicator of EUR – Skeptics are incorrect in stating that there is no correlation between peak rate and EUR because his decline curves/EUR’s are wrong. Clearly, peak rates alone shouldn’t be used to forecast EURs, but we find on average a strong correlation between IP and EUR (a widely accepted premise in tight gas analysis). Read the technical papers. Look at the data. Enough said again.

7. Economic new math – Skeptics also believe that the Barnett/Fayetteville will recover less gas than people think (and by extrapolation, other shales like the Haynesville will also disappoint). With less gas from shales, the marginal costs of supply will be high – some skeptics say as high as $8/mcf. We agree that if shale disappoints, gas prices will be quite high. Yet some skeptics run economic analysis of shales at $4/mcf gas prove that the Barnett is uneconomic. Circular logic here (queue Vince Vaughn in Wedding Crashers – Erroneous! Erroneous!). If recovery is low and prices are therefore MUST use the higher price when evaluating shale economics.

8. Data Quality? Skeptics rely on Barnett monthly data reported to the Texas RRC. Because of the high amount of downtime in the Barnett due to completing offsetting wells, high line pressures, and other issues early in production, monthly data biases lower estimates of recovery. For these periods, the Texas RRC reports look artificially low because they reflect only partial months of production. The daily production data shows a much different story…CHK’s Analyst Day presentation shows this clearly.

9. Collusion? No. You, sir, are simply wrong – Skeptics discuss a conspiratorial angle and incorrectly suggests there is collusion between E&P companies, Wall Street analysts and engineering companies: “E&P companies that claim success, investment companies that promote their stock and activities, and engineering companies that certify assets must be held accountable for their conclusions…” We’re plenty happy to be held accountable for our conclusions..we publish them daily. The skeptics conspiracy angle is categorically wrong. The truth is much less sensational. Simply, many people representing hundreds of companies analyze the data and come to a different conclusion. It is laughable to think that: A) thousands of people are conspiring to make the Barnett/Fayetteville seem better than it is or B) all of these people are just incompetent.

10. Don’t go away mad…just go away – One skeptic stated that “Lack of material response either means they do not take my position seriously, or they do not contest it”. A Chihuahua can only bark at a bull dog for so long before the bull dog snaps back. And the dogs are snapping. Look at the BILLIONS of dollars being invested in shale activity. The industry is responding with its actions every single day. We are responding with this report. NO MAS!

Shale speculation off base

Published: October 19, 2009

At a time when we are seeking solutions to our long-term energy questions, it is too bad that progress can be clouded by misinformation.

“Gas shale’s future is uncertain” (Associated Press business story, Oct. 13) cast
inexplicable doubt on a new resource that has changed the landscape of our energy future.

Geological consultant Arthur Berman has been making a name for himself recently by writing columns and giving speeches that question the long-term viability of shale as a source of natural gas.

There is nothing new about shale. It is a type of rock that energy companies have been drilling into and around for decades. We knew how natural gas and oil can emanate from shale, but until recently we did not know how to produce energy from the dense, tight formations themselves.

By unlocking the shale, we have opened vast new natural gas supplies that were beyond our reach a decade ago. This would be exciting news at any time, but at a time in history when we are worried about energy independence and clean energy, this new development is better than a ninth-inning homer to win the Series. Meanwhile, Berman is in the stands speculating on whether the slugger is on steroids.

Questions are an important part of the scientific process. But Berman slings doubt with a broad brush. Speaking last week to the Association for the Study of Peak Oil and Gas, he called shale natural gas the nation’s next speculative bubble likely to burst. He compared optimism surrounding shale to banks buying into mortgage-backed securities.

I guess it is true that every paradigm shift has its doubters. After all, there were people who downplayed Thomas Edison and his incandescent light bulb.
The fact is that shale is a proven success story. The Barnett Shale, which Berman targets with his skepticism, has grown from almost nothing 10 years ago to the largest producing gas field in the United States. Today, the Barnett’s annual production is enough to heat 20 million homes for a year.

The shale story doesn’t stop at the Barnett. Devon and many other energy companies across North America are applying what we have learned in the north Texas field to other shale fields. The industry is investing billions to develop natural gas production other shale fields. The industry is investing billions to develop natural gas production from untapped shale formations in Louisiana, Texas, Oklahoma, Pennsylvania, New
York, British Columbia and elsewhere.

Because of shale, natural gas production in the United States has been on the increase in recent years, reversing a prolonged trend downward. And, these wells are expected to produce for 40 or 50 years. Meanwhile, the country’s natural gas inventory is growing. The Colorado-based Potential Gas Committee estimates reserves are up 35 percent over 2006 estimates,
largely because of new access to shale natural gas. Estimates suggest the United States has nearly 2,000 trillion cubic feet of natural gas reserves, enough to last more than a century.

To borrow from Mr. Berman’s terminology, that is a mighty big bubble.

Hager is executive vice president of exploration and development for Devon Energy.


Published: October 15, 2009

Chesapeake Energy Corp. officials are optimistic about the future, with a stable of
“legacy assets” they expect will provide revenue for years to come.

Officials touted Chesapeake’s strengths Wednesday in New York at a conference for
investors and analysts that was broadcast live via the company’s Web site. They pointed out Chesapeake is the most active driller in the United States, with substantial lease holdings in the most lucrative shale gas plays.

“We do feel like we have the No. 1 resource base in the nation,” said Steve Dixon,
Chesapeake’s chief operating officer.

Dixon said Chesapeake’s shale holdings will continue producing for years to come,
despite “misguided” predictions from an analyst at an industry conference in Denver
earlier this week.

“We’re very confident that these types of rocks will continue to bleed gas for decades
and decades,” he said.

Jeff Fisher, the company’s senior vice president of production, said the unique size of Chesapeake’s assets will allow the company to develop new technology to maximize production.

“We’ve achieved great results to date, and we’re just getting started,” Fisher said.

Chesapeake detailed its holdings in the nation’s two largest shale plays: more than
500,000 acres in the Haynesville shale in Louisiana and Texas and 1.45 million acres in the Marcellus shale in West Virginia, Pennsylvania and New York. The company produces an average of 210 million cubic feet equivalent per day of natural gas in the Haynesville shale, a “world class” asset Chesapeake discovered in 2007.

“We’re just scratching the surface on the production side,” geoscience manager John
Sharp said of the Haynesville operation, which is being supplemented by additional
plays in Louisiana.

Chesapeake is the most active driller in the Marcellus shale, a massive play close to the best gas markets in the northeast. Tom Layman, the company’s vice president of geoscience for the eastern division, said Chesapeake is determined to make its efforts count in that area.

“We are gathering data and learning about the play like no other company,” he said.

Marc Rowland, Chesapeake’s chief financial officer, said Wednesday’s technical
presentations were meant to show analysts the value embedded in the company’s
assets. Officials project Chesapeake will produce 5 trillion cubic feet equivalent a year for the next several years, while finding an additional 3 trillion cubic feet equivalent each year, Rowland said.

CEO Aubrey McClendon said he expects gas production to decline, but he is optimistic prices will continue to rise, which will lead to an increase in drilling and production.

“We think all of the elements are in place for gas prices to be higher in 2010 than they are today,” McClendon said.

He also said gas prices could be affected by increased demand from China, much the same as other commodities. McClendon said he and other natural gas company executives are working to increase demand, focusing on making inroads into transportation and power production, which is reliant on coal and transportation.

He borrowed a line from fellow gas advocate T. Boone Pickens to sum up his thoughts on the issue. “If you’re not for this … you are for foreign oil,” McClendon said. “That’s one of Boone’s best lines, I think.”

He said transportation seems like an easy place to increase natural gas use.
“There is no alternative for trucks because you can’t move an 18-wheeler by battery,” McClendon said.

He also said he expects the market for liquefied natural gas to continue to grow because it is cheaper and more environmentally friendly than other alternatives.

The Empire Strikes Back

Today, Chespeake, Dev
on, and Tudor, Pickering and Holt published objections to Lynn Pittinger’s and my articles on the Barnett and other shale plays. I choose not to respond at this time since there is little substance in these commentaries.

The only response that is appropriate at this time is contained in the accompanying graphs of cumulative Barnett Shale production. These are not interpretations but hard data. I leave it to our critics to explain why production trends cannot be extrapolated to the levels claimed by operators (click images to enlarge).

Realities of shale play reserves: Examples from the Fayetteville Shale

Arthur E. Berman and Lynn Pittinger

When asked about the production life of shale gas wells, Chesapeake Energy CEO Aubrey McClendon recently explained, “Yes, that’s 65 years. And I believe that’s our standard across all shale plays, which is actually a pretty interesting point to talk about” (Second Quarter Earnings Call, Aug. 4, 2009).

It certainly is, and it helps us understand the optimistic reserves that operators like Chesapeake claim for these plays.

The reserve levels claimed by operators and analysts for shale plays are difficult to justify by standard decline curve analysis unless production is projected decades beyond any reasonable economic limit. Companies and analysts that take an optimistic view of shale gas reserves commonly show pro forma group decline curves to justify their reserve estimates. The type curves for the Fayetteville Shale predict reserves that cannot be supported by the underlying data.

In order to understand the disparity among reserve estimates for shale plays, Lynn Pittinger and I evaluated the individual decline trends for Fayetteville Shale horizontal wells. We also normalized group-average decline projections for the same well set to understand how the two methods differed. The group curve-fitting approach resulted in higher Estimated Ultimate Recovery (EUR) predictions than the individual decline-curve analysis, but both methods estimated considerably lower reserves than those claimed by major operators in the play.

Southwestern Energy Company is the leading operator in the Fayetteville Shale play with about 700 producing horizontal wells. Southwestern and other key operators claim average per-well EUR of 2-3 Bcf and drilling and completion cost of $3 million per well.

From our decline-curve analysis of about 1,300 individual horizontal wells, we determined that the average EUR for a Fayetteville Shale well is 0.85 Bcf. Southwestern Energy has the highest average EUR at 1.04 Bcf/well, followed by Chesapeake at 0.68 Bcf, Petrohawk at 0.63 Bcf and XTO at 0.59 Bcf. Most of Southwestern Energy’s wells are located on a broad structural nose, and this seems to explain their superior results compared to other key operators with less favorable structural positions.

Next, we estimated average EUR using a group decline “curve-fitting” method. We normalized well rates to their first month of production, and averaged monthly production for wells that were active in each producing month. This approach resulted in an average EUR of 1.3 Bcf/well.

The higher EUR that resulted from the group decline method is produced by an apparent flattening in the hyperbolic- shaped decline trend of the averaged data. We believe that this represents an artifact of the method, and does not reflect true EUR. The decline trends for individual wells are commonly segmented, and follow a steep initial trend and later, a flatter exponential decline. The apparent hyperbolic decline pattern seen in the group-method data probably results from summing many individual wells with this segmented decline profile. The curvature of the resulting hyperbolic group decline curve–determined by the hyperbolic exponent b–results in more flattening of the decline than what is observed in any of the individual wells. Increased rates from the many workovers that occur in Fayetteville Shale wells further contribute to flattening of the group-decline curve.

Consequently, we believe that individual decline-curve analysis provides a more precise accounting of changes in decline trends than group-decline methods. We acknowledge, however, the potential for underestimating reserves using this method because of the lack of publicly available flowing-tubing pressure information and the limited production data for recently drilled wells.

Chesapeake showed a pro forma hyperbolic decline curve for a typical Fayetteville horizontal well in a presentation to investors in October 2008. The well began with an IP of 2.15 MMcfd and had an EUR of 2.2 Bc£ The decline curve has a hyperbolic exponent b value of 1.4, a degree of flattening seen in less than 1% of the individual well trends analyzed. It would take 65 year produce the stated 2.2 Bcf, but most of the individual wells that we analyzed reach an economic limit in less than 15 years. The effect of projecting production 50 years beyond the economic limit adds substantially to the EUR–in this case it almost doubles–but none of the production is commercial past year 15.

The enthusiasm for plays like the Fayetteville Shale is perplexing. It can only be explained by the urgency that companies feel to add large reserves at almost any cost. The reserves claimed by some shale play operators cannot be supported by either the individual or group decline methods that we used in this evaluation. It seems that the most convincing evidence for the success of shale plays should be found in the balance sheets of the various E&P companies rather than in their long-term reserves. Yet many of these companies appear financially tentative with high debt, ongoing asset sales to raise cash, and large impairment writedowns in recent quarterly reporting.

If our evaluation of decline rates is correct, the true reserves of the Fayetteville Shale play will be evident in just a few years. At the very least, it seems appropriate that operators and investors should take a more cautious approach, and abandon the “gas factory” paradigm that dominates shale-play thinking. And one last interesting point to talk about: They must acknowledge the need to reduce both cost and commercial risk through better geotechnical science.

A Long Recovery for Natural Gas Price: revisiting the Haynesville Shale

Natural gas prices increased 39% from a 6 1/2 -year low of $3.19/MMBtu on April 27 to $4.42 on May 13, 2009. Some think that the worst of the price collapse that began in July 2008 is over, and that gas prices will return to normal. I do not believe that is the case, though I certainly hope that I am wrong. Chesapeake Energy proclaimed in a recent investor presentation that “the fix is under way”, and that natural gas prices will soon return to $7-8/Mcf. Chesapeake and other companies make the case that prices will rebound because of the drastic decrease in drilling. The gas-directed rig count has fallen from 1,606 to 728 since September 2008 and, because about 1,100 rigs are needed to maintain supply, we are creating a deficit that should cause the price to rise.

The argument is logical and may prove true in the long term, but it is difficult to support based on current events. During the same two-and-a-half week period of rising prices, working gas in storage has been well above the five-year average (23% above the 2004-2008 average), indicating that supply is strong (Figure 1). While proponents of increased gas price may find some support in short-term price fluctuations that are based on sentiment, gas storage is what drives traders, and traders determine price. In other words, until storage levels decrease to 5-year averages or lower, I doubt that there can be any sustained gas-price increase. The recent rally is probably related to rising crude oil price, a weaker US dollar, and short-selling of gas futures contracts rather than a change in market fundamentals. At this writing, gas prices have already lost most of their recent gain.

US gas supply includes two external sources: pipeline imports from Canada and LNG cargoes from all over the world. Imports from Canada are down, but LNG deliveries are way up. April LNG imports averaged 2 Bcfd, compared to half that amount in March, according to Jeffries & Company (1). Pritchard Capital Partners expects LNG deliveries to average 3.5 Bcfd for 2009, and to be as high as 5 Bcfd (1). Global liquefaction capacity has increased more than 5 Bcfd this year as several large projects came on line. Also, LNG price has decreased due to lower global demand, reduced tanker costs, and because contract prices are tied to a trailing index of crude oil and other commodity prices that have fallen.

Oversupply of gas may continue for longer than some expect. Average US gas production increased from about 62 Bcfd during the first half of 2007 to almost 65 Bcfd in the second half of 2008 (Figure 2). In addition, there are large volumes of gas available from wells that are not yet connected to sales because of limited pipeline capacity and low netback cost. The Rocky Mountain Express Pipeline will open considerable volumes of gas that have not been previously available (3.2 Bcfd by June 2009, and an additional 1.8 Bcfd in November), and the Mid-Continent Express Pipeline recently added 0.64 Bcfd of capacity. Also, in the Gulf of Mexico Independence Hub, Thunderhorse and Tahiti platforms, as well as initial production at Perdido, will increase gas production in 2009-2010.

Reduced demand because of the global economic crisis may contribute to a prolonged slump. Demand in February 2009 fell 14.5 Bcfd (16%) compared to January, and 7.4 Bcfd (9%) compared to February 2008. In Februrary, all sectors of gas usage fell.

While the gas-directed rig count is down, drilling activity is strong in the Haynesville Shale play, where high-volume initial production rates work at cross-purposes to offset the over-supply of gas. There are at least 75 horizontal wells that are currently drilling, completing, or shut-in pending pipeline connection. This could increase Haynesville daily production to more than 300 MMcfd.

I want to thank readers and operators for their willingness to share information with me in response to my earlier column on the Haynesville Shale (World Oil, April 2009). There is no doubt that the Haynesville is different from other shale plays, mainly because it is overpressured (~0.85 psi/ft). Overpressure and corresponding microfracturing combined with high shale porosity result in average initial production rates of more than 12 MMcfd and per-well EURs as high as 9.0 Bcf.

I now think that the Haynesville Shale reserve estimates that I presented previously were too low. I have evaluated 43 horizontally drilled wells with some production history, and 14 wells with initial production rates only (Figures 3a and 3b). The most-likely average EUR for all operators is 3.6 Bcf per well within a probabilistic range of 2.8-3.6-4.4 Bcf/well (RBC Capital is more pessimistic, projecting an average 2.5 Bcf EUR for all horizontal wells (2). The average EUR for key operators in the play varies: Petrohawk Energy Corporation has higher average EURs (3.9-5.1-6.2 Bcf) while Chesapeake Energy Corporation’s EURs are lower (2.2-2.8-3.3 Bcf). The average for other operators is 2.8-3.7-4.5 Bcf/well.

I have not changed my conclusion that the Haynesville Shale play is marginally commercial. Drilling and completion costs vary from $7.5 to $10.5 million per well. The marginal cost for operators to find and develop natural gas reserves is $7 to 8/Mcf, and current netback prices in the play are less than $3/Mcf. The threshold netback gas price for a better-than-average 5.5 Bcf well to break even is $7/Mcf at NPV10 (Bodell and Pittinger, in press). For companies that have favorable hedge positions, realized gas prices for 2009 will be as high as $6.50/Mcf and $6.00/Mcf for 2010. This means that the play is marginally commercial today for operators with favorable hedge positions, but not commercial based on cost and price fundamentals.

While many believe that natural gas prices will increase to $7-$8/Mcf by the end of this year, I am more pessimistic. Increased LNG imports and strong current gas supply, expanded pipeline capacity and ongoing gas-directed drilling contribute to strong gas supply, while the recession is reducing demand. This leads me to conclude that prices may not increase until the second quarter of 2010. I am also skeptical that price will recover beyond approximately $5.50/Mcf, the average inflation-adjusted gas price since 1995 (Figure 4). Shale plays have increased the marginal cost of production by approximately $2/Mcf, and I doubt that the market will reward that inefficiency. It seems more likely that LNG and conventional gas will play an increasingly important role in US gas supply in the future because of cost.

(1) Platt’s Inside FERC’s Gas Market Report, May 1, 2009

(2) RBC Capital Markets, Weekly Haynesville Shale Report: May 13, 2009

Haynesville Sizzle or Fizzle: Let’s be fair!

When I read some of the comments posted on this web log to a friend yesterday, he said, “Anything that gets this much flak, must be close to the mark.”

I have received dozens of e-mails and a half-dozen posted comments on this web log about the Haynesville Shale. Many of the e-mail authors strongly disagree with my opinions about the Haynesville, but are respectful and professional. In contrast, the authors of many web log postings who disagree with me are often disdainful, caustic and even vulgar, not only about my opinions but also about my professional qualifications. Some indignantly demand that I disclose the wells (be patient inquisitors—a list of wells follows as Figs. 1 and 2) that I used in my evaluation—I wonder if these same people issue similar demands to the companies that make pronouncements that the Haynesville Shale has 250 Tcf of reserves when there are fewer than 50 wells with any production so far, or that an average well will produce 6.0 Bcf when none have yet produced more than about 3.0 Bcf and most, considerably less.

To be fair from my side, readers have sent me data on Haynesville Shale production that was not available to me when I did my research and published my World Oil column and the previous web posting. That new information modifies my view of the Haynesville play somewhat, and requires an update to my observations and conclusions. Also, there is now a month or two of additional production history since I did the research for that work.

Based on this information, approximately 59% of Haynesville wells may have ultimately recoverable reserves of 0.5-2.0 Bcf (16 wells), while 41% may produce 2.0 Bcf or greater (11 wells), according to my analysis. The mode of 27 wells is 1.5 Bcf and the mean is 2.2 Bcf. These reserve projections are approximations, and are only intended to provide a range of possible outcomes for wells with too little production history to accurately project.

For those reservoir engineers who disparage my qualifications to pick a trend line through data points on a graph (something that apparently is beyond the capability of those with advanced degrees in science unless their degree is in reservoir engineering), I hope that you have never picked a top unless your degree is in geology.

The crucial issue about the Haynesville Shale play, however, is not rates and reserves, but cost. As I explained in “Haynesville Sizzle could fizzle”, threshold economics for the Haynesville Shale require netback gas prices of $8.50/Mcf, and minimum reserves of 2.5 Bcf/well. This is because drilling and completion costs are from $7.5-9.5 million. It is simple algebra once the costs are known.

I have studied the 10-K SEC filings by the major players in the Haynesville play. These are public documents prepared by the operators. With most operating costs between $2.50 and $3.50 per Mcf, rates and reserves simply do not matter at current gas prices of $2.50 netback in the Haynesville. When capital expenditures are added, it costs most operators about $7.50/Mcf to find, develop and operate in the play. While some operators are currently hedged at higher prices, this is a short-term situation, and no one will take the other side of a hedge at more than $7.50/Mcf today or at any time in the foreseeable future.

If you don’t believe me, you should read reports by Credit Suisse, “The True Cost of Shale Gas” (April 2009), and by Bernstein Research, “Why the Haynesville Won’t Work…at $4, $5, or $6/Mcf gas” (April 2009).

I am more optimistic now, based on new information, that the Haynesville Shale may be different from most other shale plays. If operators can substantially reduce cost, and if gas prices improve to levels during the first half of 2008 (average $10/Mcf Henry Hub), some percentage—perhaps 25-50%–of wells in this play may become commercial, but it’s really not about EUR as much as it is cost and gas price.

I have been fair in admitting that new information has modified my view of the Haynesville Shale play. I acknowledge that rates are extremely impressive for several wells, and that some wells have already produced more than 1.0 Bcfg.

For those who disagree with my views on this play, I ask that you be fair too. Look at costs, and not just rates and reserves. If the marginal cost to produce gas is more than $7.50/Mcf (which all operators admit and many state in public presentations–for example, Range Resources’ “IPAA 2009 Oil & Gas Investment Symposium”), then no one is making money on this play today regardless of impressive rates and strong reserves. Unless prices rise above levels they have reached during only 15 months over the past 10 years (or 20 years, for that matter), none of the wells in the Haynesville Shale play is likely to be commercial (Fig. 3).

I am not a gladiator. I don’t perform in my columns and web log waiting for thumbs up or down from readers to validate my methods or conclusions. I put my work in a public forum to share what I observe, and to generate a dialogue that may help us all move closer to the truth. I return every e-mail message that I get, because the people who write them want to engage in the conversation, and deserve my time and respect. For those who prefer to comment anonymously on this web log, I welcome your views also. I encourage you to join the conversation as peers and not as blood-sport spectators looking for entertainment at the Coliseum.