September 30, 2008

Costs, Prices Cited for Natural Gas Drilling Cuts

By Jerry Shottenkirk

Experts say natural gas is abundant because of the use of advanced drilling techniques.

However, those techniques such as horizontal drilling and high- pressure fracturing cost millions for each week.

Chesapeake Energy last week announced a cutback in budgeting and drilling for the next few years.

It comes down to price and value.

On Friday natural gas flirted with the $7.50-per-thousand-cubic- feet mark, and that's just the New York Mercantile Exchange price. The price at the wellhead is much less.

"It's discouraging to see natural gas prices at wellhead fall below $5," said Bruce Bell, chairman emeritus of the Mid-Continent Oil and Gas Association of Oklahoma. "Prices at wellhead have dropped 50 percent in the past few months. We're down to a level where lots of (natural gas) plays are no longer economically viable. You'll be getting such a small return on natural gas and you're not going to expend the funds for extensive drilling in some areas."

Chesapeake's Aubrey McClendon said it's a possible trend.

"While we may be the first, we will certainly not be the last," McClendon said.

The addition of a new play such as the Haynesville Shale in Louisiana and Texas, coupled with established and popular play in the Barnett Shale play in the Fort Worth Basin, has boosted natural gas production over the past years.

Tom Price, Chesapeake's senior vice president of corporate development, said natural gas is undervalued by a number of measures.

"It's undervalued on a BTU equivalent basis," he said. "(Two days ago) West Texas Intermediate (crude oil) sold for $108.02. On a 6- to-1 natural gas to oil equivalent, gas should be selling at $18. Alternatively worldwide liquefied natural gas cargoes have recently been sold on long-term contract basis for $20 to $22 per million BTU, meaning 1,000 BTU per thousand cubic feet of gas."

Price said the natural gas at the ANR delivery point Thursday was $4.56 per thousand cubic feet, and the net of gathering cost was $3.80 on spot delivery.

"This is below finding, operating and overhead costs on newly drilled wells," Price said.

Bell said the higher prices during the past few years caused more and more companies to lean toward natural gas.

"We've had fairly high gas prices and have drilled more each year," Bell said. "We've now gotten to the point where we are drilling rapidly enough, and our reserves are strong enough to meet demand and even a little ahead of demand. Obviously there has to be an adjustment, which means we have to stop selling and producing as much to bring it back into balance."

Bell said drilling for natural gas is economically viable unless it's down to the $3 to $4 range.

"I think we'll see upward pressure re-established," Bell said. "Chesapeake's move will probably be followed by large independents and some of the majors will probably go ahead and reduce budgets for the next year or two to get everything back into a balance."

Price said the New York Mercantile Exchange price doesn't always tell the entire story. The Nymex price is established at the Henry Hub in Erath, La.

"It interconnects with nine interstate and four intrastate pipelines," he said. "In Oklahoma, producers receive at the wellhead a price which deducts an amount determined to account for distribution and transmission, in Thursday's case the amount was $4.56 or roughly 60 percent of the Henry Hub - a deduction of $3.06."

Price said Chesapeake does not expect prices to remain at current levels for the long term. The company has reduced its rig count by 3 to 4 percent.

"What is critical, especially in a constricting credit market and reduced access to investment capital due to the demise of many investment banks, is to ensure one generates a reasonable return on capital," he said. "Today's environment, in many parts of the country, prevents that."

Originally published by Jerry Shottenkirk.

(c) 2008 Journal Record - Oklahoma City. Provided by ProQuest LLC. All rights Reserved.