The following was sent to me by email by Tudor Pickering as part of their analyst opinions. In my mind, Tudor Pickering is THE Cadillac analyst shop. Real engineers, Holditch acolytes, etc.
Putting the Skeptics shale hypothesis to permanent rest ($4.50/mcf) TPH E&P Research Team
· 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:
- 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.
- 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!
- 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.
- 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 1.2bcf.day. The skeptics “optimistic” EUR curve estimated growth of only 0.7bcf.day – which says it underpredicted actualincremental 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!
- 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.
- 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.
- 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 prices..to 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 high..you MUST use the higher price when evaluating shale economics.
- 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.
- 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.
- 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!
XTO and Petrohawk, in my opinion, are offering pure smoke and mirrors for economic forecasts. They talk in “bits” about reserves and profitability of shale wells, but will not explain how the wells will make money. What are their price, operating and production forecasts? They won’t say. This causes some concern. Surley Petrohawk has forecasts, as the president has declared the Eagleford to be economic, in no uncertain terms.
I have modeled Petrohawk’s wells in the Eagleford and can not see a path to positive economics without using gas prices that exceeded NYMX futures. Others suggest the same for the Haynesville. In terms of present value of discounted future net income, the long term production is worth very little. Can anyone show me a reasonable forward looking economic model that shows any of Petrohawk’s Eagleford wells to be economic? Is there a reasonable path to profitability?
Posted by: Scott | November 05, 2009 at 01:26 PM
According to Berman, World Oil Editor Perry Fischer was fired today
Posted by: Scott | November 05, 2009 at 05:33 PM
If its realism in reporting you want, you should take up accounting...oh, never mind.
Posted by: Crash N. Burn | November 05, 2009 at 05:54 PM