AEB's Comments

Quicksilver Resources' Barnett Shale Gamble

Fri, 06 Mar 2009 11:16:55 -0500

Eric,

I forgot to address the part of your question about EOG. EOG is one of the
best of the (bad) lot on unconventional plays. I don't know that much about their participation in the overall Barnett Shale play, but I did an analysis of Tarrant County last April (Tarrant County has some of the "best" core production--that's where Chesapeake paid $20k/acre for the DFW Airport leases).

In that analysis (using $6.25/MMBtu gas price--a dream today), these were the results for percent of wells by operator that met economic threshold:

Encana 41%
EOG 39%
XTO 39%
CHK 25%
Devon 19%

Those "success" rates (I cannot imagine justifying wildcat wells based on a 20% or lower success rate, and this is field development!) are against a background of an average of 25% payout by all operators, not just the 5 that I listed.

I think that EOG shifted its focus to the more oil-prone, less thermally mature part of the Barnett after I did that study. That seemed like a good idea when oil prices were above $125/barrel, but probably doesn't look so good now. The problem with the oil play is lower relative permeability to oil vs. gas (it's a bigger molecule to fit through tiny pores), and lower porosity because of some kerogen conversion volumetric factors that you certainly would not be interested in!

I do not invest in oil and gas companies but, if I did, I would choose ExxonMobil and stay away from the amateurs!

AEB

Quicksilver Resources' Barnett Shale Gamble

Fri, 06 Mar 2009 11:08:25 -0500

Quicksilver Resources' Barnett Shale Gamble

Fri, 06 Mar 2009 10:48:35 -0500

Devon currently operates about 3,300 wells in the Barnett Shale, and most of these are marginally commercial or non-commercial. Devon acquired Mitchell Energy's position in the Barnett, and Mitchell began the play. Devon's error, therefore, was not buying into the play after prices and costs had soared like Quicksilver. Devon's mistakes are over-exposure to the play, and some fundamental inability to address the commercial realities of shale gas. In the current issue of the AAPG Explorer, there is an interesting article (www.aapg.org/explorer/...) about a University of Oklahoma study of the geology and geophysics of the Barnett Shale sponsored by Devon. Maybe they realize at this late date that fundamentals must be addressed. If so, good for them, but perhaps not so good for shareholders that have already lost value.

Devon, of course, is a competely different type of company from Quicksilver. Devon is a global independent with broadly diversified assets, so perhaps they can absorb losses in the Barnett Shale. On the other hand, their cost structure is much higher than a company like Quicksilver, meaning that it takes larger resources and more profit to pay for the overhead of all of those people who don't contribute to the core business of finding oil and gas.

If you haven't already browsed to my blog, I have a thorough explanation of what I think is going on in shale plays: petroleumtruthreport.b.../ . It is a bewidlering phenomenon because these plays make little commercial sense, yet investors are happy to shovel billions into them.

AEB

Quicksilver Resources' Barnett Shale Gamble

Fri, 06 Mar 2009 07:10:52 -0500

Quicksilver has been active in the Barnett Shale play since 2003, and began drilling in January 2004. There was no 2008 "foray" , just a badly-timed expansion in the "core area" of the play.Quicksilver had focused on the surrounding counties (mostly Hood and Hill counties), but had acreage and drilled wells in the core area in Johnson and Tarrant counties also since 2004. If there was a foray, it was into Denton County where they had not been active before.

Regarding all the negative reactions to Vanderveen's implied criticism of Quicksilver, I think that he is right on. Hedges notwithstanding, how stupid is it to buy into the most overpriced acreage in the play at the highest price-point in the market, and then watch gas prices lose 2/3 of their value? If that is good management, I would love to see an example of poor management!

It amazes me how many people--inlcuding the many bloggers who jumped all over Vanderveen's observations--with investment backgrounds think that they know anything about the oil and gas business. I wonder why you guys don't talk to people inside the industry--like geologists?

I am a geologist, and I have struggled to understand the fascination of the investment community with shale plays. I think that they are all stock scams, in which the executives of public companies get rich because people who don't know anything about oil and gas buy stock and inflate its value (in better times). I've been in oil and gas for 31 years and wouldn't advise anyone to put a nickel in the Barnett Shale geologically or economically. Take a look at Quicksilver's debt sometime, then ask how many of their wells will ever break-even, much less make money. You will be amazed!

Energy Independence: It's About Demand, Not Supply

Sat, 06 Sep 2008 09:50:11 -0400

Whenever a politician talks about energy independence as something possible in the next 25 years or less, you know he/she is a liar (or hopelessly misinformed). The U.S. is the most mature petroleum province on earth (and still the 3rd biggest oil producer!), and there is just not much probability of finding huge new reserves here.

What's wrong with being energy dependent anyway? I don't hear anyone calling for coffee independence. The whole nature of trade is that I have something that you need, and you have something that I need. This is good and healthy.

The perception that imported oil is mostly from the Middle East is not really correct. We import 20.3% of our oil from Canada, 20.1% from the Persian Gulf countries, 12.3% from Saudi Arabia, 10.8% from Mexico, 9.4% from Nigeria, 8.2% from Venezuela, and 6.2% from Iraq.

Even if you take the most optimistic view possible of areas in the U.S. that are currently closed to exploration, they still won't make us energy independent. Don't misunderstand me--I think we should drill in these areas. Just don't expect that we will find something so big that we won't have to import oil.

ANWR has been evaluated over and over by oil companies and it doesn't look that good (the USGS estimate of 15 billion barrels is limited to "technically recoverable" and not commercial oil--if it is scattered in many smaller pools none of it will be commercial).

The offshore East Coast has been drilled before it was off-limits and was considered a dog by the industry. Offshore California has some promise as does the eastern Gulf of Mexico but the probable reserves are not enough to make the U.S. energy independent.

Conservation makes great sense but it won't make us energy independent because we use so much energy. Alternate fuels make great sense but none of them are ready commercially for at least 25 years. Building more fuel efficient cars is great (I think we already do a lot of that but people have preferred SUVs, etc.) but it takes a long time before we get all the less efficient cars off the road.

So, let's stop this energy independence talk. We should do anything and everything to be smarter about how we get and use energy, but let's be practical and realize that energy independence is not real in the near-term, as much as we want it to be!

Unconventional Energy Still Attractive - UBS

Sat, 06 Sep 2008 09:18:37 -0400

UBS' opinion is typical of analysts who know very little about the reality of the oil and gas business. $9/Mcf is not valid since the average spot price was $7.30 (Henry Hub) this week and plunging. The average U.S. wellhead price fell $2.30 in August compared to July to $8.32/Mcf and it will be much lower for September.

At these prices, none of the great shale plays are commercial. That is why Chesapeake has been having a fire sale on its leases in the Haynesville, Woodford and Fayetteville shales. Barnett Shale production in Q2 2008 had fallen 20% from Q3 2007 before the fall in gas prices because of perceived higher unit prices in Haynesville and Marcellus.

If drilling and leasing in the shale plays declines as it should, gas prices may rise but it will take a few quarters before this is felt.

As an industry insider, I like natural gas plays but there are hard times ahead for the companies involved in the shale plays. They paid too much for new leases and deals when gas prices were high (Plains paid $30,000/acre in the Haynesville!), and are using borrowed money to drill. They all have huge quarterly debt service and hedging losses so far in 2008 (Chesapeake's long-term debt was more than $13 billion before they started selling, and the company is only worth about $3.5 billion).

So I hope UBS is right, but it's hard to see what they based their positive opinion on. Does anyone think there might be something in it for them if a lot of people buy gas company stocks through them based on their advice????

Time To Consider Oil's Homely Cousin, Natural Gas

Sat, 06 Sep 2008 09:02:30 -0400

The main factor in the drop in natural gas price is the huge increase in domestic production. Production is up almost 8% or 5 Bcf per day in the 1st half of 2008 compared to the same period a year ago. This has produced the perception that there is an over-supply of gas.

The proliferation of new shale gas plays, like the Haynesville and Marcellus, has enhanced this perception. The average U.S. wellhead price for natural gas fell $2.30 from July to August to $8.32/MMcf.

At this price, none of the shale plays are commercial. Barnett Shale production had already fallen 20% in Q2 2008 compared to its peak in Q3 2007. This will eventually increase gas prices after the lag effect.

British Petroleum Moves into Arkansas with Chesapeake Energy Shale Purchase

Wed, 03 Sep 2008 21:39:23 -0400

Why is it that analysts never ask the question, "Will this make any money?" Why is it assume that if a big company like BP thinks this is a good idea, it must be a good idea. Has anyone ever been to a party late? There's not much opportunity there, just cost.

Why do you think that Chesapeake is selling everything in sight? Because shale gas makes no economic sense whatsoever at less that $9.00/MMBtu wellhead price (for all the analyst types that no nothing about the oil and gas business, that means after transportation and processing costs, often $1.50/MMBtu).

Shale.com is the biggest scam since Subprime.com. When the music stops (as it has in the Barnett Shale), only the shareholder will lose...again.

Why Are Oil Prices So High? Gold Solves the Riddle

Wed, 16 Jul 2008 11:28:59 -0400

I don't understand why smart people spend so much effort trying to make the high price of oil seem complicated. Worldwide demand has expanded as the benefits of the global economy have spread. Supply, while not an immediate problem for the short-term, is not expanding. Punto!

The idea that a weak U.S. dollar somehow controls the worldwide price of oil is parochial, at best. It does make oil more expensive for countries whose currency is tied to the U.S. dollar. It also encourages investment in commodities, like oil, that are relatively more attractive than investments in treasury bonds and elsewhere in the U.S. economy. Push the Fed to raise interest rates if you want to fix this.

Finally, the mindless litany about speculators pushing up the price of oil by futures trading needs needs a moment of ground truth. There is no correlation between the percent of speculation on the NYMEX and the annual price change of oil over the past 10 years. Look at the data rather than repeat the uninformed statements of others. Speculation has increased as it always does in any market that has a lot of mobility. That doesn't mean that speculation is increasing the price. Remember, just because you buy a contract (whether speculative or not) doesn't mean anything unless someone will buy it.

Let's stop bantering about secondary or tertiary factors regarding the high price of oil and look at the fundamentals. Don't forget about price elasticity: it takes time to change momentum (price increase). Whenever future price expectation is different than spot price, spot price must adjust until the two are again in equilibrium. That is happening with oil price. U.S. demand is down 1 MMbopd since January. The price will fall.

Keep it simple.

Oil's Supply and Demand

Fri, 20 Jun 2008 06:49:23 -0400

jcrash doesn't understand that we have also reached the limits of global natural gas supply. Read my blog: petroleumtruthreport.b.../ or the summary version in this month's World Oil magazine: worldoil.com/Magazine/...

Economics of Oil Futures Trading, Part I

Wed, 18 Jun 2008 06:38:56 -0400

Erub makes a good point about the bubble cycle, though I am not certain that poor regulation of markets is either the cause or the solution. It seems more likely that absurdly low interest rates encourage migration of investment into whatever sector offers the lowest risk profit.

Economics of Oil Futures Trading, Part I

Tue, 17 Jun 2008 22:54:04 -0400

As Checkhov said (who was an MD in addition to being a writer), "When many cures are offered for a disease, it means the disease is not curable."

I have read endless debates about whether or not futures speculation on oil is a big problem, a small problem or not a problem. There are many credible arguments that support each position.

The disease is not curable.

I think that everyone needs to get over this issue about speculation, and focus on the real supply and demand issues that underlie oil and gas prices. If there were no imbalance, no one would speculate because there would not be the possibility of profit.

People will hedge, speculate, invest, cheat, and complain until the game is over, and they move on to the next game where money can be made.

What will legislation address? Who specifically is to blame? Name some names, not broad groups of faceless people like index funds. Are you sure that your portfolio doesn't contain index funds? Are we our own enemy?

There is no cure for this symptom.

Filling Up on Natural Gas

Sat, 05 Apr 2008 10:32:05 -0400

Natural gas production was not flat in 2007 in the United States, but increased about 4%. Unfortunately, demand increased 6%.

Filling Up on Natural Gas

Sat, 05 Apr 2008 10:30:08 -0400

50 million gallons of ethanol requires 1.5 Bcfg, not 5 Bcfg as stated in the article. That means that it takes 11 MM gallons of oil equivalent to produce the heat to make 50 MM gallons of ethanol.

Investing in the Marcellus Shale

Tue, 18 Mar 2008 20:28:40 -0400

How can anyone legitimately claim finding and development costs of <$1/Mcfg when a consortium of major U.S. gas producers (including Anadarko, Apache, Chesapeake, Devon, EOG, Newfield, Nobel, Plains, and XTO; see: www.eogresources.com/m...) have an average cost of $4.35/Mcf?

Even excluding DD&A and interest costs, lease operating cost (LOE) and overhead cost (G&A) for these operators average $1.25/Mcf.

I think that your claims of absurdly low F&D costs explain the giddy enthusiasm for shale plays that consume huge amounts of capital with miserable full-cycle economic results. The Barnett Shale is the model and only about 28% of wells will break even.

U.S. Financial Crisis Is Increasingly Self-Feeding

Mon, 17 Mar 2008 21:14:22 -0400

The article is an excellent, simple explanation. It leaves out the important element of leverage, without which there would have been no margin calls. I don't think that this is well understood by most people.

Natural Gas Prices Lack Energy

Sat, 29 Dec 2007 10:58:28 -0500

A histogram of daily Henry Hub spot prices for 2007 and monthly average modes of Henry Hub prices suggest that the natural gas price was incredibly flat for 2007 at around $7.50/MMbtu.

I don't think that it is especially meaningful to take the difference between the starting and ending (averages?) of prices for the year and proclaim a 32% gain as you did in Lies, Damn Lies and Natural Gas or the WSJ did (11% gain).

The great anomaly in 2007 was how little fluctuation was observed through all of seasonal changes compared to recent previous years. That suggests an underlying concern about supply that tends to support the price despite high supply and low heating/cooling demand.

Abnormally high LNG imports in the spring caused the only real dip in price, and that was due to a warm winter in Europe, itself an anomaly.

AEB