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Shale Gas Reserves May Be Way Overblown, Reports The NY Times, Which Awaits A Cogent Response

Message David Fiderer
It's surprising that The New York Times' reporting on shale gas has not generated more buzz, given that the policy implications are huge.  So far, the responses by proponents of gas hydrofracking have been remarkably lame. It seems as if there was a collective decision not to look too deeply at what is going on. 
The biggest business stories are always the same. It's never about what people say, it's about what they don't say about issues that are hiding in plain sight. 
A chart by the Energy Information Agency below says it all.  It says that shale gas is supposed to be central to our energy independence, because it will soon eclipse all other forms of domestic gas production. It also says that this estimate is based on unreliable data. 
U.S.  shale gas production was nothing more than a blip on the radar screen until 2005, when Dick Cheney ushered through the Halliburton Loophole.  The Energy Policy Act of 2005 exempted gas hydrofracking from the Clean Water Act and from oversight by the Environmental Protection Agency. It also exempted the oil and gas companies from disclosing the toxic chemicals they injected into the ground. We now know why these gas producers were so insistent on securing these exemptions, along with an exemption from any disclosure requirement about the toxic chemicals being injected into the ground. Everywhere you look,  the evidence that hydrofracking chemicals contaminate the local water supply. 
The reported amounts of shale gas reserves have grown exponentially, from less than 23 trillion cubic feet by the end of 2007, to more than 60 trillion by year-end 2009. But every oil industry executive, and anyone with a background in finance, knows why those reserve numbers need to be taken with a pound of salt. 
Every number pertaining to oil and gas reserves is a net present value calculation derived from a series of guesstimates. In other words, there are myriad ways to manipulate the NPV. It's never just geology. When a company reports its reserve number, the total cubic feet of natural gas, it reports the total cubic feet of economically recoverable gas. In other words, that number was calculated by using certain assumptions about the future price of gas and the future costs for extracting the gas. Even more importantly, when you're talking about proved undeveloped reserves, that number includes the estimated cost of drilling the wells and the estimated success rate from that drilling.
As you would imagine, the assumptions about the price of gas make all the difference in the world. So it was startling to see Chesapeake Resources defend it self by citing this piece  by Michael Levi at the Council on Foreign Relations.  He slams the Times' reporting this way:
"The first bit of context worth noting is that the story relies heavily on geologists' concerns about shale gas economics. That should be a red flag. There are very few emails from industry accountants or economists in the story. The geologists' critiques follow an irritating pattern: most of them basically say that projected levels of gas production are implausible at current natural gas prices. This, of course, is beside the point: no one serious think that today's gas prices are going to hold forever. (If this technique sounds familiar, that's because it is: it's the way that some of the more simplistic arguments for peak oil operate.) The question is whether production can continue at large volumes at reasonable prices."
No oil executive would take that argument seriously, because "unreasonable" price levels can last for years and years. Plenty of independent  producers have gone bankrupt because they kept drilling with the hope that, eventually, prices would become sufficiently "reasonable" to cover their finding costs, which were a lot higher than finding costs in Canada or Nigeria.  Similarly, if it's cheaper to import liquefied natural gas from Trinidad or Qatar, gas prices may never rise to the "reasonable" levels needed to justify widespread shale production. Someone at the EIA made a similar point:

"There's a great deal of gas available in the Middle East, Nigeria, and Central Asia that is VERY cheap to produce. If the world had a moderately efficient global market for gas, what would the price of LNG become? In some ways, the current price may be propped up by the successful anti-competitive global markets (I saw at one point that Qatar was delivering gas to Kuwait for $0.10). I'm not holding my breath on international markets changing - but I would say a couple of things:

"a. Other things being equal, it will eventually be a lot harder to hold a gas cartel together than to hold OPEC together, just because there are so many places to get the gas.

"b. While oil looks intrinsically scarce around the world, gas does not. That means, at the very least, that competitively priced gas will remain far cheaper than oil (except during financial crashes) for as far as the eye can see. That's one of the reasons that gas prices don't correlate with oil prices these days, even though I think many other commodity prices do. So - yes, the raw material need to drill gas wells may well go up in price. But it's not clear that signals much more than a general inflationary force that applies to much of the economy."

Projecting Well Performance With No Operating History
But the bigger, more important point raised by the shale gas skeptics is indisputable. Shale gas technology has not stood the test of time. When a petroleum engineer estimates conventional gas production at wells in any of the major onshore fields, he draws upon extensive data from many decades of operating history.  And within many of those fields  (e.g. Wattenberg, Hugoton, San Juan) well performance tends to be uniform and highly predictable. Not so for shale gas.
And no one in the energy industry would dispute the final slide from an internal EIA presentation on "Uncertainties in shale gas resources & production":

The slides leading up to that conclusion make a very compelling case that current estimates of shale reserves should not be presumed to be reliable. Make a slight change in assumptions, here or there, and the reserve estimates could easily be slashed. 

In a funny way, it's reminiscent of the financial models used for mortgage securitizations five years ago. People in the industry knew that only product that had stood the test of time over several cycles was the 30-year fixed rate fully underwritten mortgage loan. But there was a rush to justify ARMs and liar loans by extrapolating a few years of questionable data far into the future. 

It's safe to say that any shale gas "expert" who glosses over these issues set forth in slide presentation doesn't know what he's talking about. They include:

Considerable shale play/formation heterogeneity

Shale productive capability is largely untested

Long-term decline and recovery rates are unknown

Re-fracturing potential is unknown

Excerpts from these slides, below, may be too "inside baseball," for a lot of people. But for those somewhat familiar with the energy business, the slides go a long way to explain why people are nervous about Chesapeake's lack of candor. 

* * *

From "Uncertainties in shale gas resources & production":

Considerable shale formation heterogeneity

"Serving as source, trap and seal, shale beds have characteristics that vary not only from region to region but also within specific plays and fields. In fact, there often are significant well-to-well variations in gas production within a single field.... Where there is large variability in production from well to well, it clearly tends to challenge any assumption that shales and their indigenous hydrocarbons are simple and consistent."  Source: American Association of Petroleum Geologists

Initial shale gas well production rates can vary by as much as a factor of 10 across a formation.

Adjacent gas well productivity can vary by as much as a factor of 2 or 3.

Each well produces like a "field" that is independent of the productivity of the adjacent wells ("fields"). (Only one chance to get it "right.")

Shale productive capability is largely untested

Many shale gas formations have not been extensively production tested (i.e., many wells in many different locations).

Well productivity data are largely confined to known "sweet spots."

Many shale formations are so large that only a small portion of the entire formation has been extensively production tested, e.g., the Marcellus Shale.

Long-term decline and recovery rates are unknown

Even in the relatively "mature" portions of the Barnett shale most of the wells are only five years old, with about 50 percent of the total wells drilled in the last 3 or 4 years.

Other basins are much less mature with most of the wells were drilled in the last 3 years.

So there is not much production history for most of the basins or subregions within a basin.

Re-fracturing potential is unknown

Little re-fracturing has been done because most shale gas wells are relatively new.

Initial production rates and total cumulative production of re-fractured wells are unknown.

So re-fracturing economics (cash flow vs. costs) are unknown.

Do other party resource estimates assume re-fracturing? (Don't know.)


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For over 20 years, David has been a banker covering the energy industry for several global banks in New York. Currently, he is working on several journalism projects dealing with corporate and political corruption that, so far, have escaped serious (more...)
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