The Future of Shale Gas is International
As readers of this publication are well aware, the technologies and drilling techniques pioneered by George Mitchell have revolutionized the US energy mix and natural gas industry. Just a few years ago, analysts expected US gas reserves to be depleted within three decades; today, hydraulic fracturing and horizontal drilling have transformed the country into a gas giant, driving down domestic prices for the commodity.
But even with US gas prices at depressed levels, major integrated oil companies have moved aggressively to add exposure to shale gas.
ExxonMobil Corp (NYSE: XOM), for example, acquired XTO Energy in a deal worth $41 billion, providing the energy giant with expertise in producing natural gas from unconventional plays. And seven of the eight projects ExxonMobil completed last year were gas related, and two of the three projects slated for completion this year focus on natural gas.
In May Royal Dutch Shell (NYSE: RDS.A) announced it would pay $4.7 billion to buy East Resources, a shale gas firm with substantial acreage in the prolific Marcellus Shale. Management recently indicated that by 2012, natural gas would account for more than half of its output.
And earlier this year Total (NYSE: TOT) announced a $2.25 billion joint venture that gives the French energy giant a 25 percent interest in with Chesapeake Energy Corp’s (NYSE: CHK) assets in the Barnett Shale. In 2008 Chesapeake closed a $1.9 billion joint venture with much-maligned BP (NYSE: BP) in the Fayetteville Shale.
Integrated energy firms from emerging markets also have invested in US shale gas.
Indian firm Reliance Industries (Bombay: 5000325), a conglomerate with the largest market capitalization on India’s stock exchange, recently purchased a 45 percent interest in Pioneer Natural Resources’ (NYSE: PXD) 212,000 leased acres in the Eagle Ford Shale. This deal followed a joint venture with Atlas Energy (NasdaqGS: ATLS) that gives Reliance a 40 percent stake the Pittsburgh-based firm’s Marcellus Shale assets.
Why the sudden interest in US natural gas among the world’s biggest oil companies?
Let’s start with the assets themselves: Some of the nation’s best-known unconventional plays offer attractive economics–even when gas prices are depressed.
Deposits such as the Marcellus Shale in Appalachia and the Eagle Ford Shale in south Texas contain so-called “wet gas” that includes a fair amount of natural gas liquids (NGL), condensates whose value follows oil prices and incentivizes production. Meanwhile, the Haynesville Shale, a play in Louisiana and east Texas, features low production costs and is so prolific that the economics are still attractive to producers.
Readers seeking more information on the economics of the biggest US shale gas plays and NGLs should check out the April 28, 2010, installment of The Energy Letter, Why Some Natural Gas is Worth $7.28.
Now let’s step back and look at the big picture. The era of easy oil has come to an end for the world’s major integrated oil companies because of depletion and a surge in resource nationalism. These challenges, coupled with increasing demand from emerging economies, has impelled firms to deepwater plays and areas marked by political stability, both of which entail higher production costs.
In some ways, this shift represents a preference on the part of the majors for the stable returns offered by less-complex projects in developed economies, where taxes are a bit more predictable and political risk is less of an issue.
And ExxonMobile expects gas global gas consumption to increase 55 percent between 2005 and 2030. In a world where governments are increasingly wary of CO2 emissions, natural gas is emerging as a potential transitional fuel for electricity generation and transportation. Not only does clean-burning natural gas release less pollution into the atmosphere than coal, but gas-fired plants are also less capital-intensive to erect and operate than nuclear-power facilities.
An abundance of natural gas from shale deposits has the potential to support this transition.
At the same time, it’s important to remember that energy markets are global. US wildcat producers developed and continue to hone the drilling techniques and technologies that enable them to extract hydrocarbons locked in shale deposits. But, as you can see in the map below, shale-gas plays aren’t exclusive to the US.
Source: Halliburton, CWC Group
There’s more to the recent spate of tie-ups and joint ventures in the US shale-gas space–a trend Elliott outlined in the Flash Alert, Ten Takeover Plays–than the assets in question; in every press release, the majors and international energy firms emphasize the technical know-how they’ll gain from these deals. And this knowledge can be applied in other markets.
Take Europe, for example. Much of Continental Europe depends on Russia for its natural gas–the potential for an alternative supply holds a great appeal. Poland, in particular, has been an area of focus for majors such as ExxonMobil and ConocoPhillips (NYSE: COP); over the past three years the country has granted 58 concessions for shale-gas development.
Although this is a trend worth monitoring, prospective investors should note that none of these unconventional gas reserves have been proved. And in addition to different geological characteristics, Europe’s high population density provides an additional challenge–not to mention concerns, whether justified or not, about the environmental impact of hydraulic fracturing.
China is also in the very early stages of evaluating and developing its shale gas resources. China National Petroleum Corp, the biggest of the three state-sponsored oil companies, recently inked an initial agreement with Canada’s EnCana Corp (TSX: ECA, NYSE: ECA); the deal could lead to a joint venture where the Chinese would provide capital in exchange for experience producing shale deposits.
Prior to the agreement, China and the US had announced a Sino-US Shale Gas Resource Cooperative Initiative to help the country develop its untapped resources–a key to reducing China’s dependence on coal for electricity generation.
The three Chinese oil companies also have become increasingly active investors in Australian natural gas, primarily securing liquid natural gas supplies. More recently, the PetroChina and Royal Dutch Shell announced a 50-50 joint venture to purchase Arrow Energy (ASX: AOE).
This acquisition, criticized by some as overly expensive, provides PetroChina with the know-how and technology to develop coal-seam methane, an unconventional source of “dry” natural gas. Meanwhile, Royal Dutch Shell potentially gains entrée into the difficult-to-penetrate Chinese market.
In March the two companies signed a 30-year deal to develop China’s unconventional reserves in the Sichuan province.
These are longer-term trends that are well worth monitoring for potential investment opportunities; the government has set a goal of increasing the contribution of natural gas to its energy mix to 10 percent by 2020.
In the meantime, expect China’s big three energy companies to continue to invest in North American and Australian shale-gas operations.
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