More Regulation Has Its Costs

By Eric Fox | July 16, 2009 AAA

The upcoming possibility of stricter regulation of hydraulic fracturing by both state and Federal authorities is a major threat to the industry's ability to maintain production of natural gas in North America. (For a primer on the oil industry, refer to our Oil and Gas Industry Primer.)
If a cumbersome regulatory process is imposed on the oil and gas industry, it may lead to an even further drop in drilling, lower production and much higher natural gas prices for consumers and businesses.

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The alternative to horizontal drilling with hydraulic fracturing is vertical drilling, which combined with high decline rates of newer wells in North America, simply does not produce enough gas to keep up with the needs of America's consumers.

The four most prominent shale plays in North America – The Barnett Shale, the Fayetteville Shale, the Haynesville Shale and the Marcellus Shale, and in fact, all shale plays, require hydraulic fracturing to stimulate sufficient production to meet future demand. Several exploration and production companies have released data on the productivity of horizontal vs. vertical wells.

Goodrich Petroleum (NYSE:GDP), which has acreage in the Haynesville Shale in Louisiana and East Texas, has drilled both vertical and horizontal wells, and a comparison between the two illustrates the difference in productivity. The company drilled two vertical wells in East Texas, and the initial production rates were 1.3 and 2.6 million cubic feet per day. A horizontal well drilled nearby produced at an initial production rate of 9 million cubic feet per day.

The most recent horizontal well in the Haynesville Shale was drilled by Forest Oil (NYSE:FST), and produced at a rate of 20 million cubic feet per day.

CNX Gas (NYSE:CXG) has properties in the Marcellus Shale play in the Northeastern U.S. The company said at its most recent analyst meeting that horizontal well in the Marcellus Shale had an average estimated ultimate recovery (EUR) of 3.0 BCF, compared to the 0.75 BCF EUR for a vertical well. The initial production rates showed similar differences, with the horizontal producing at a rate of 3.0 million cubic feet per day, compared to 0.8 million cubic feet per day for the vertical well. CNX Gas is 83% owned by Consolidated Energy (NYSE:CNX)

New York State has already imposed a moratorium on drilling permits, impacting the Southern Tier of the state, where the Marcellus Shale is present. The Department of Environmental Conservation is currently completing a study on the effects of Hydraulic Fracturing on groundwater supplies.

Also, two bills have been introduced in the U.S. Congress to tighten regulation of hydraulic fracturing. One bill would revoke the exemption that the industry has for the technology under the Safe Drinking Water Act, and place it under the authority of the Environmental Protection Agency. The second bill would require disclosure of the chemicals that each oil service company uses in its "frac" fluid. Schlumberger (NYSE:SLB), Halliburton (NYSE:HAL) and BJ Services (NYSE:BJS) are the top three oil service companies that provide hydraulic fracturing services.

The Bottom Line
The industry has solved the technological problem associated with producing natural gas from the unconventional sources that have come to dominate drilling in North America. Horizontal drilling, and the associated hydraulic fracturing, is needed for the industry to deliver natural gas to those who demand it. (For more reading, take a look at Unearth Profits in Oil Exploration And Production and Accounting For Differences In Oil And Gas Accounting.)

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