Musings: Curtain Being Pulled Back from The Oz of Gas Shales
We were struck by the oddity of a detailed discussion about the industry debate over technical factors integral to predicting the decline rate of gas shale wells in a recent column in the Financial Times, a bastion of international finance news. Several weeks ago, as we were flying to Calgary to deliver a speech to a group of coiled tubing enthusiasts, we opened the FT, as it is better known in financial circles, and came across a column by John Dizard entitled "The rate of shale gas decline is causing a heated debate." Wow, we thought! An esoteric, but tough, debate over the rate of decline of natural gas wells in America, and generally relegated to petroleum industry journals, has now reached the mainstream financial press. Will we next see Katy Couric or Brian Williams discussing the merits of 30-stage fracturing of horizontally drilled wells in the rock under Pennsylvania? We can envision that news story from an environmental perspective, but not one focusing on the economics of this type of drilling.
Gas is now so ubiquitous that we are considering not only burning it in every energy market but also exporting it to world energy markets in the form of LNG
Mr. Dizard's column discussed technical natural gas exploitation issues but within the context of much broader philosophical and societal issues. The technical success in tapping natural gas shale formations has turned the perception of the role of gas in the future energy supply of the United States on its head. Where natural gas was once thought to be too valuable to be burned under boilers powering electric generation facilities, gas is now so ubiquitous that we are considering not only burning it in every energy market but also exporting it to world energy markets in the form of liquefied natural gas (LNG). The gas shale revolution has changed the American energy market, which can now be summed up as "from fasting to feasting." But is that view certain?
Therein lays the heart of Mr. Dizard's argument in his column. He postulates that there is a serious disagreement among industry participants over the shape of the decline curve for these gas shale resources. The differing views lead to sharply divergent conclusions about the volume of gas that can come from these shale basins, which not only determines their economic attractiveness but also how long our economy can count on the supplies being available.
The technical argument revolves around the shape of the production decline curve
The technical argument revolves around the shape of the production decline curve that projects how long, and at what level, we can expect gas shale wells, and by implication the entire gas shale play, to produce. When you do the math – volume multiplied by time – you arrive at an estimate of the economic ultimate recovery (EUR) of the well. There are two schools of thought about the shape of the decline curve and they are defined by the value of the exponent "b" in the equations defining the curve's shape. The equation includes the initial production rate, the initial rate of production decline and the degree that the initial decline rate flattens out over time.
The people who believe in a hyperbolic decline rate (b equal to or greater than 1.0) expect gas shale wells to produce at a reasonably high rate, and therefore a low cost, over a long period of time. The less optimistic people believe an exponential decline curve does a better job of plotting future production. Therefore, they believe the b exponent will have a value below 1.0 and closer to 0.5. Putting this debate into context, those who believe in the hyperbolic decline rate project EURs for gas shale wells in fields such as the Haynesville and Marcellus will be between 5.25 billion cubic feet (Bcf) and 6.5 Bcf, as postulated by Chesapeake Energy (CHK-NYSE) in its recent presentation to analysts. Those who believe in the exponential decline would put production for these same wells closer to 2.0 Bcf.
As they say, that gap in estimates is wide enough to drive a fleet of trucks through. And that gap becomes a problem because the risk of failure is great, but it is largely being ignored by energy companies, investors, utilities and energy policy makers who are rushing to throw money at gas shale plays. By ignoring the risk of the optimists being wrong, all these groups are essentially transferring the risk of failure to the general public.
What is the risk to our economy in the great gas shale debate? Increasingly natural gas is being touted as the fuel that will bridge our economy's energy needs from its heavy dependence on "dirty" fossil fuels to "clean" renewable fuels. One of the problems with the clean fuel dependence is that many of the fuels – solar and wind – are intermittent sources of energy so they require either back-up energy supply sources or technological breakthroughs in energy storage facilities. In many cases the planned back-up for renewable energy supplies are natural gas-fired combined cycle power plants. The ultimate savior in this debate may be nuclear power, but that effort is struggling to move forward.
The ultimate savior in this debate may be nuclear power, but that effort is struggling to move forward
Mr. Dizard pointed out that the U.S., Europe and now China are all making huge investments in natural gas-fired power plants to replace coal-fired plants. He wonders what will happen to these investments if the conventional view of how much natural gas we have proves to be over-stated. By implication Mr. Dizard is worried about the harm to countries, their economies and citizens, if they are wrong about their strategy for powering their future economies. We recognize that risk, but also remain optimistic that technological developments will find ways to boost gas recovery at lower costs, but more importantly to find ways to improve energy storage and efficiency among our existing power sources.
Managing Director, PPHB LP