Kemp: Shale Plays Reduce Political Risk

But once the initial investment is in place and the project enters the production phase, there is a strong incentive to revise the terms of the project to increase government revenues and reduce the share remaining for investors.

The problem of changing fiscal terms and obsolescing bargains has been well explained by Daniel Johnson ("International petroleum fiscal systems" 1994) and Peter Nolan ("The state's choice of oil company: risk management and the frontier of the petroleum industry" 2012).

The bigger the project, and the more lumpy the upfront capital investment required, the greater the temptation to revise the terms subsequently. But shale plays require continuous investment in the drilling of new wells, so the terms need to remain favourable or drilling will stop.

Shale plays therefore align the financial interests of the drilling firms and host government more closely than a conventional field or a megaproject.

Shale investments are not entirely without risk. There are still upfront capital costs for seismic surveying and acquiring experience with drilling in the play. Drilling firms must bore dozens or even hundreds of wells before they acquire the necessary know-how to exploit the play efficiently, which represents a sunk investment.

But the upfront costs associated with developing a shale play can be measured in the hundreds of millions of dollars, not the billions associated with many frontier conventional projects, or the tens of billions spent on Kashagan.

For a large international oil company like Chevron, which is active in Neuquen and able to spread investment risks across a broad portfolio of projects, shale offers an attractive balance of risk and reward.


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Philippe  |  July 23, 2014
Excellent article that truly show the benefits of a shale play. We need more article like this that show the positive aspect of shale play and fracking.
David Tkachuk  |  July 23, 2014
Johns inference to shale plays equating to lower geopolitical risk in countries that have a record of instability bears some commentary. Using his own example of Argentinas Neuqen Basin shale resources, the first company that would probably vehemently disagree with his stance is Repsol. Argentinas Kirchner led federal government plucked the asset they value at ~$10 billion and years of effort from them. Kirchners finally offered some compensation for the nationalization but its about half the value. Additional insights on the ripple effect that transpired from that can readily be gleaned by reading the quarterlies of other foreign oil & gas companies with oil & gas interests in Argentina. YPF having dibs on rigs that causes a shortage for others, increased taxes, increased approval requirements, and harder line provincial government stances are some of the issues increasing risk for shale players in Argentina, not reduce it. Faster payback periods are only correct if wells produce long enough and and at at high enough volumes to rapidly overcome the drilling and completion costs. There is much debate and discussion surrounding profitability of shale plays. Many can just be an exercise in circulating dollars where net revenue dont exceed net expenditure, or worse, never equate to it. Many investors who have embraced this natural resource play may not like the "long term" outcomes. Speaking of which there is precious little that can be stated in a long term capacity when it comes to shale plays. No real long term history of production from shale plays exist on the planet. Shale plays tend to have little advantage over conventional oilfields in terms of being able to stop or slow drilling down if political environments become less favorable. Drilling contractors just dont differentiate between non conventional and conventional plays where their livelihood is concerned, and that is evidenced in drilling contracts. In countries with documented histories of political instability the contractor ensures against loss to an even far greater degree. Loss of equipment being nationalized. Loss against a drilling campaign being stopped or slowed down, thereby affecting revenues expected. In the latter,penalty clauses may apply that are so stiff that the end user is financially better off to keep drilling.


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