Recently in Haynesville Shale Category

September 12, 2012

5th Circuit Affirms $20 million Judgment Against Chesapeake

The 5th Circuit affirmed a judgment today against Chesapeake Exploration for $19,951,004 in favor of Peak Energy Corporation, for breach of a contract to purchase oil and gas leases in the Haynesville Shale area of Harrison County, Texas. Coe v. Chesapeake Exploration, No. 11-41003.  The Court's summary of the case:

In July 2008 Chesapeake Exploration LLC entered into an agreement to purchase deep rights held by Peak Energy Corporation in certain oil and gas leases in the Haynesville Shale formation, for the hefty sum of $15,000 per acre. When the price of natural gas plummeted several months later, Chesapeake refused to honor its commitment. In response to the complaint filed by Peak it contended that the parties' agreement was unenforceable under the Texas statute of frauds, fatally indefinite, and that the plaintiffs had failed to tender performance. The district court disagreed, rendering judgment in favor of Peak and its principals and awarding them damages in the amount of $19,951,004, prejudgment and post-judgment interest, and attorneys' fees and costs. Finding no error, we affirm.

In 2008, gas prices were high and the boom was on in the Haynesville Shale. Chesapeake was buying all of the acreage it could find. Its brokers identified leases covering 5,405 acres in Harrison County, Texas owned by Peak Energy, and on July 2, Chesapeake sent Peak a letter offering to buy all rights in its leases below the base of the Cotton Valley formation for $15,000 per net acre, with Peak delivering a 75% net revenue interest and reserving an overriding royalty on any excess over 75%. A map generated by Chesapeake was attached to the letter agreement showing the tracts Chesapeake had identified in which Peak had leases. The letter said that it was a "valid and binding agreement," and that the closing would occur on August 31. Peak signed and returned the letter.

The parties worked to assemble the list of leases and other closing documents. But in the meantime, the stock market and the gas market plunged precipitously. In October, there had still been no closing of the deal, and Chesapeake informed Peak that it would not be completing the transaction. Peak sued. At trial, Peak said it was able to deliver only 1,645.9 acres of leases with a minimum 75% net revenue interest; it showed that the market value of the deep rights in those leases was $3,000 per acre; and it sought damages equal to $12,000 per acre, based on the difference between the contract price of $15,000 per acre and the market price on the date of the breach, $3,000 per acre. The judge agreed with Peak and awarded the damages sought, plus interest and attorneys fees of more than $435,000.

Chesapeake claimed that the contract was not enforceable because the map attached to the letter agreement did not provide an adequate description of the property. The 5th Circuit disagreed. It said that the map provided an adequate nucleus of description to allow a knowledgeable person to identify the leases with reasonable certainty from public records.

Chesapeake claimed that the contract was not enforceable because it did not include "essential terms." The court said that the letter agreement did provide all of the essential terms - the property to be conveyed, the price, the closing and delivery date, and the purchaser's interest in the property. The court said that the lack of a final lease schedule, and the fact that the parties did not agree on warranty of title, non-compete provisions, and options to purchase additional acreage, were not essential terms fatal to a binding agreement. "Although the parties must agree to all material terms, they may choose to leave non-essential terms open for later negotiatin without rendering the agreement unenforceable."

Finally, Chesapeake claimed that the agreement was not enforceable because Peak could not perform its obligations under the agreement. Peak conceded that it could only deliver 1,645 acres of leases meeting the agreement's specifications. The court said that Chesapeake was bound by the agreement to purchase the leases that Peak could deliver.

It appears to me that Chesapeake did not have any viable defenses to the claim, and that the court clearly reached the correct result. More importantly, the case sheds light on Chesapeake's attitude about its contractual commitments. Others contemplating deals with Chesapeake, especially on buying oil and gas leases, may be reluctant to deal with the company if this case is representative of its willingness to go back on its deals.

November 3, 2010

Arthur Berman Does It Again

Arthur Berman, a geological consultant, has once again blasted the economics of gas shale plays -- this time the Marcellus.  At the annual conference sponsored by the Association for the Study of Peak Oil & Gas - USA, held on October 7-9 in Washington, D.C., Mr. Berman made a presentation: "Shale Gas--Abundance or Mirage? Why the Marcellus Shale Will Disappoint Expectations."  His power-point from that presentation may be found here:  Arthur Berman on Marcellus.pdf  Mr. Berman argues that only a small percentage of the areas now being touted as productive in shale plays -- the "core areas" are economic at any price; that even within the core areas, performance is not uniform and the geology is complex; that the wells are very expensive and the break-even gas price is as high as $8-$12/mcf; that reserves have been overstated by the companies in the plays; that the industry is not properly estimating estimated ultimate recoveries from the wells; that changes in reporting rules recently adopted by the Securities and Exchange Commission allow companies to "book" estimated reserves prematurely; and that the economies of the plays will ultimately be reflected in lower share prices of the companies participating in the plays. 

For the Marcellus in particular, Mr. Berman asserts that infrastructure limitations -- lack of pipeline and gas processing capacity -- will slow development, that environmental issues -- fears about groundwater contamination, proximity to urban areas, and regulatory restraints -- will not go away, and that economics for drilling in the Marcellus Shale are no better than in the Barnett Shale. Mr. Berman says that shale gas is the nation's next speculative bubble likely to burst.

Mr. Berman created a stir just a year ago when he published a similar gloomy analysis of the Barnett Shale, at the ASPO conference in October 2009.  At that time he was a contributor to a trade publication called World Oil, which is sent free to top oil & gas E&P executives. In early November 2009, World Oil was about to publish another article by Mr. Berman critical of shale plays, but the president of the publication ordered that it not be published. Mr. Berman resigned, and his editor Perry Fischer, who insisted that the article be published, was fired. All of this created a stir in the blogosphere. Fischer contended that World Oil executives were pressured by CEOs of two public E&P companies not to publish any more of Mr. Berman's critiques. Tudor Holt & Pickering, who analyze the oil and gas industry, published a critique of Mr. Berman's analysis, and two oil executives from Devon and Chesapeake wrote newspaper op ed pieces critical of his work. Chesapeake CEO Aubrey McClendon said at the time that he expected gas prices to continue to rise, which would lead to an increase in drilling and production in the shale plays. "We think all of the elements are in place for gas prices to be higher in 2010 than they are today," McClendon said.

McClendon's predictions have not held true. Gas prices have continued to slide, although drilling in the shale plays has continued. Particularly in the Haynesville, wells are being drilled that are surely not economic at current prices. The only explanation I know of for this continued drilling is that the companies who paid $10,000 to $25,000 per acre for leases in the play must drill the wells to prevent the leases from expiring. The result is that gas production and drilling remains high despite lower prices, resulting in a continued glut in supply, further reducing prices.  In the meantime Mr. McClendon, always quick on his feet, has moved to the Eagle Ford Shale play, a "liquids-rich" play, because oil prices, unlike gas, have not declined. Chesapeake acquired a large position in the "oil window" of the Eagle Ford and quickly made a deal with China's national oil company to sell them one-third of its acreage for $10,000 an acre. If indeed, as Mr. Berman believes, the shale plays are the next speculative bubble, maybe it will be national oil companies like China's who are left holding the bag.

August 4, 2010

Rig Counts In Major Texas Shale Plays

RigData has compiled the numbers of active drilling rigs by county for each of the major shale plays in Texas: Barnett, Haynesville and Eagle Ford. These serve as a good measure of the degree of activity in each of the counties within these plays.

The Barnett Shale rig count  shows a total of 81 rigs in July. The rig count has held steady around 80 for the last several months. Activity is concentrated in the core area, Tarrant and Johnson Counties.

The Haynesville Shale rig count  has a total of 184 rigs working in both Texas and Louisiana, with 56 of those rigs in Texas - 12 in San Augustine County, 11 in Harrison County, 10 in Shelby County, and 9 each in Nacogdoches and Panola Counties. This count also has remained steady at around 180 rigs over the last several months.

The Eagle Ford in South Texas has 84 rigs running , up from 49 rigs in April, including 22 rigs in Webb County, 12 in La Salle County, and 10 deach in Dimmit and De Witt Counties. Operators are clearly moving rigs into the oil-rich portions of the Eagle Ford, to take advantage of the oil and liquid-rich portions of that play in light of low gas prices.

April 23, 2010

Gatti vs. State of Louisiana - a Challenge to Multiple-Well Pooling Orders in Louisiana

An interesting case has recently been filed in Louisiana challenging the authority of the Louisiana Department of Conservation to approve pooled units containing multiple wells. In Gatti et al. vs. State of Louisiana, et al., Number 589350, Division 23, filed in the 19th Judicial District Court in East Baton Rouge Parish, the plaintiffs sued the State Department of Conservation and several operators in the Haynesville field, including Chesapake, Encana, Exco, Conoco Phillips, Petrohawk, SWEPI, EOG, Questar, Forest and XTO, claiming that the Department of Conservation was routinely allowing the drilling of "alternate unit wells" on previously established units, in violation of Louisiana law. A copy of the petition may be found here.  Gatti v. St of Louisiana.pdf.

Louisiana has a forced-pooling statute that allows an operator to propose to the Department of Conservation a unit for a well which, if approved, forces all mineral owners in the unit to pool their interests for the drilling and production of that well. According to the plaintiffs, this statute only authorizes the Department to approve units large enough to cover an area drained by one well. The practice in Lousiana for the Cotton Valley and Haynesville fields is to obtain orders for 640-acre units, and later obtain approval to drill additoinal "alternate unit wells" on those units. The suit contends that this practice is unfair to the owners of minerals and royalties in the unit, and violates state law. The suit seeks certification of a class action on behalf of all owners of mineral rights in Haynesville Zone in Louisiana. It seeks a declaration that the Department has no authority to establish a unit having an area in excess of the area drainable by one well, and that any such unit is "null and void." The suit also seeks unspecified damages against the defendant companies.

An interesting article describing the history of forced pooling in Louisiana and arguing that multiple-well units are illegal may be found at fairdrilling.com.

I have written previously about the proceeding before the Texas Railroad Commission for adoption of field rules for the Carthage (Haynesville Shale) Field. In that proceeding, the applicants sought and obtained field rules establishing a standard proration unit of 640 acres for wells in the field, with "optional" 40-acre units. The examiners who heard the evidence opined that Devon had produced no evidence that a well in the field could drain 640 acres, and they recommended a 320-acre standard unit, but the Commissioners overruled them and agreed to Devon's request for 640-acre units.

It appears that in both Lousiana and Texas the regulators are going along with the fiction advocated by operators that wells in the Haynesville should be developed with 640-acre units, despite the fact that everyone knows the wells will in fact be drilled with 160 or 80-acre spacing. Everyone understands that this fiction is intended to accommodate the desires of the operators to construct larger units in order to (i) have more flexibility in how they space their wells and (ii) hold more acreage with a single well. I have sympathy with the first objective, but not with the second. It is impossible to drill wells with horizontal legs of 5,000 feet or more unless fairly large units are created. Conversely, it is unfair to the mineral owners in a large unit for their leases to be held by production from a single well in the unit where several wells are necessary to fully develop the reservoir under their lands.

March 14, 2010

Devon Appeals Temporary Field Rules for Carthage (Haynesville Shale) Field

In a previous post I reported on the application of Devon Energy asking the Texas Railroad Commission to include in the new Field Rules for the Carthage (Haynesville Shale) Field a provision allowing it to drill horizontal wells across lease or pooled unit boundaries.  These new rules apply to wells drilled in the Haynesville and Bossier formations in Harrison, Nacogdoches, Panola, Shelby and Rusk Counties in East Texas. Devon asked that the rules provide what it calls a "default allocation method" for horizontal wells drilled across unit boundaries.The rule proposed by Devon reads as follows:

"Operators shall be permitted to drill and complete horizontal wells that traverse one or more units and/or leases as long as that operator has a lease or other mineral ownership right to produce from each such unit or lease. If such a well is not already subject to an agreement regarding the allocation of production, the following allocation formula will be presumed to constitute a fair and reasonable allocation of production from a well in this field and shall be utilized by the Commission in assigning acreage attributable to the separate units/leases traversed by the horizontal drainhole: an allocation of acreage and production to each of the units and/or leases traversed by and completed in the horizontal well based on the percent of said horizontal well from first take point to last take point that lies under each unit or lease."

The Commission concluded that it had no authority to adopt such a rule, because pooling is a contractual issue between private parties, and (except as provided in the Mineral Interest Pooling Act) the Commission has no right to impose allocations of production among different tracts penetrated by a horizontal well.

In its appeal, Devon argues that the Commission's refusal to adopt its proposed "allocation rule" is arbitrary and an abuse of its discretion, without a rational basis, discriminates against producers in the Carthage Field, and will result in the waste of oil and gas.

I believe that Devon has little chance of forcing the Commission to adopt its proposed "allocation rule." But if it is successful, it is certain that operators in the Barnett Shale and other shale fields now being developed in Texas will ask for a similar rule. Such a rule would have significant impacts on royalty owners and their rights to consent to pooling of their royalty interests.

 

March 1, 2010

Chesapeake Shale Plays

Chesapeake Energy Corporation summarized its activities in the country's "Big 6" shale plays in its Operational Update issued on February 16. The report reveals the huge impact Chesapeake has had on shale plays from New York to South Texas.

Chesapeake is the eighth largest E&P company ranked by total assets according to the Oil & Gas Financial Journal, behind ExxonMobil, Chevron, ConocoPhillips, Anadarko, Marathon, Occidental and XTO Energy. It also ranks eighth in exploratory spending and market capitalization, and twelfth in total revenue. (Chesapeake's market cap is 18% of ExxonMobil's.) In 2009, Chesapeake drilled 1,148 gross operated wells, which it called "the industry's most active drilling program," spending $2.941 billion. Its leashold inventory at the end of 2009 was 13.7 million net acres.

Here are some highlights from Chesapeake's report:

 

Continue reading "Chesapeake Shale Plays" »

April 17, 2009

Natural Gas Market News

The Energy Information Administration has revised its forecast for 2009 U.S. industrial natural gas demand, to decline by 7.4% this year. It predicts total natural gas consumption to fall 1.8% in 2009. U.S. natural gas production is expected to decline 0.3% in 2009, and to slip 1% in 2010. EIA predicts natural gas Henry Hub prices to average $4.24/mcf in 2009 and $5.83/mcf in 2010, compared with $9.13/mcf in 2008.

Chesapeake Energy has elected to further curtail its gas production, by a total of 400 mmcf in 2009, representing approximately 13% of Chesapeake's production capacity.

One petroleum geologist and industry consultant, Arthur Berman, believes that the Haynesville Shale in Lousiana, touted as the hottest onshore gas play in North America, is overrated. His analysis of early discoveries shows that the wells decline rapidly, cost about $7.5 million per well to drill and complete, and would require a price of $8/mcf to break even.  http://petroleumtruthreport.blogspot.com