Study Cautions Overenthusiasm on Shale Capacity

Dick Bishop

Talk abounds that unconventional hydrocarbon production – from shale formations for the most part – is setting the stage for energy independence for the United States, along with a significant increase in product supply for much of the world.

The persistent scramble to get in on the shale action is underscored by the entry of some of the majors who essentially abandoned the onshore U.S. not so very long ago.

Additionally, overseas companies continue to arrive on the domestic scene to cut deals – a stark contrast to times past.

One of the latest transactions was struck between Devon and China Petrochemical Corp., aka Sinopec. Indeed, the New Year arrived in style for Devon when the Chinese entity agreed to fork over $2.5 billion to join Devon in developing several of its shale fields.

Almost simultaneously, France’s Total SA became an investor in Chesapeake Energy’s shale holdings when it agreed to invest $2.3 billion to explore the Utica shale in Ohio.

Despite such big deals, however, there are plenty of potential investors who remain cautious. Many maintain the ongoing shale “boom” ultimately will prove to be a here today, gone tomorrow phenomenon.

It wouldn’t be a first for this industry, where today’s new big thing can (and has) quickly become tomorrow’s has-been. Not surprisingly, many veteran players continue to look back over their collective shoulders.

Nonetheless, there are high expectations among the optimists, which include the substitution of now-plentiful domestic natural gas for imported oil, large increases in the use of domestic gas as a cleaner/safer alternative for coal/nuclear-generated electricity, and the addition of gas exports.

For the United States, there are many predictions of production rates to create energy “independence.”

Sounds good, huh?

Reminders of Realism

This sounds good because all enjoy the optimism of a new discovery – and today, with over 2,300 source rocks identified around the world, the potential seems unlimited.

But according to past AAPG president Dick Bishop, limits are inevitable.

Any prediction about production rate inevitably has a physical link to the length of time it will last and the total reserve, he says – and that “time the production will last” is lacking form virtually all such predictions of energy independence in the press.

This is the cautionary message being espoused by Bishop and his colleagues at Houston-based RSK, where he and RSK colleagues Wayne Kelley and Rick Baggot decided to test the predictions.

“We looked at what the United States could produce and how long the volumes would last,” Bishop said. “People talk about rates, but this is not good science unless you include the time those rates can last.

Importantly, Bishop adds, this was not asked casually, but was the result of several years studying the economic controls on global energy supply rates (not volumes). The basic approach was, given today’s technology, well rates and resource volumes, what might the production rates be – and for how long?

Bishop outlined the straightforward RSK computational model:

• Assume representative well production profiles, i.e., decline curves.
• Assume drilling effort, i.e., number of rigs and wells drilled per rig per month.
• Sum individual well production per month assuming 100 percent chance of success for each well.
• Limit the production by estimated ultimate return (EUR), area of the resource, or years to drill the resource.
• Calculate project and well economics using standard models.

Bishop offered a succinct summary of conclusions based on their models:

• Shale gas can significantly reduce the negative economic impact of imported oil – but not in the near term, owing to slow market growth.
• Shale gas will displace some coal and nuclear use but probably will not completely replace them due to the large, long-term energy needs of the nation.
• Shale oil will help to maintain and to increase U.S. production modestly, but its current EUR probably isn’t large enough to provide oil economic independence, let alone actual oil independence.

How It Will Work

Where we’ve been says a lot about where we’re headed.

“Sixty percent of daily oil consumption has come from the giant fields,” Bishop said. “For many decades, we’ve been consuming about 2 percent of the resource volume, but over the next 20 years we’ll see significant increases in percentage consumption from these fields.

“This says the world doesn’t have the spare capacity we used to have,” Bishop said.

The novice likely would say, so just drill more wells. After all, the Middle East used to punch wellbores down that would kick out 10,000 to 20,000 bopd at a production cost of perhaps a nickel a barrel.

“We’re in a different era now and can’t add capacity at will like we could in past decades,” Bishop said. “The percentage of consumption from the giants continues to go up, and that means upward pressure on oil prices.

“That says shale oil will be developed in the United States,” he noted.

It’s a different world in the natural gas sector, where operators have essentially slammed on the brakes in some areas. Soaring shale gas production volumes over the past few years have kicked prices into the basement – making the commodity a victim of its own success.

Even now, during the annual “high season” for gas prices, the cost reportedly fell below $3/MM Btu on Dec. 30 for the first time in more than two years (1,020,000 Btu = 1Mcf of gas).

Bishop predicts LNG will be the major price competitor to a lot of natural gas, noting that LNG will be like cheap Middle East crude in the 1960s.

It’s moving to a global commodity today.

Where Are the Facts?

A study recently released by the National Petroleum Council concluded that “America could have enough oil resources to meet today’s oil demand levels in the future for decades without importing from unfriendly foreign countries.”

Among the report’s highlights is a comment attributed to Goldman Sachs, which indicated that it expects the United States to take the top spot as the largest oil producer by 2017.

When mentioning this to Bishop, the comment elicited a wry chuckle, and he noted the RSK models don’t support that kind of production increase. While perhaps physically possible, the brief duration could never be justified financially.

Equally as mystifying are predictions of $1.50 gasoline in the United States announced publicly by a financial house representative as well as a long-term politician hoping to have the opportunity to compete in the next presidential election.

“We don’t know the basis for their decisions for their forecasts, so we don’t see where these numbers are coming from,” Bishop said.

“Our models aren’t perfect,” he noted. “We’re using public data and trying to show what these things look like given the state of knowledge today.

“The technology and state of knowledge are going to change in the future, and the models are going to change,” he emphasized. “But this is a way you can get at communicating both the rate and the duration over which you can maintain that rate.”

Then there’s the issue of expanding the infrastructure as well as added refining capacity to handle the dramatic production volume increase being predicted in some quarters.

“A real kicker is the transportation infrastructure to refineries,” Bishop said. “If this is possible, then show us. Convince us what is the basis for it.

“As an industry, we need to become better communicators to build our credibility with both the public and the government – we can no longer afford to make widespread, wild unsupported claims to the production,” he declared.

“If you want to make claim to a large amount of productive capacity, then support this with models like we have,” he said. “You can say whatever you want, but back it up with models to show how it works.”