The Shale Game Exposed

Frackonomics 5.0
If you get a chance to see Deborah Rogers speak, take it. She explains The Shale Game better than anyone. http://energypolicyforum.com/ Simply put, The Shale Game is a whole a lot like the Sub-Prime Mortgage Market - before it hit the fan . . . . Like Sub-Prime Mortgages, The Shale Game is dependent on systematically over-valuing an asset on the financial markets. The Shale Game is actually a lot simpler than the Sub-Prime Game - since the Sub-Prime game depended on loan guarantees - from AIG. All it takes to play The Shale Game is a balance sheet that consistently overstates the value of the company's shale gas reserves. As long as you can show in increase in the value of those estimated reserves, you can sell more junk bonds, sell more stock, drill more wells, hype more reserves. Repeat. Or - and this is the trick part - sell those reserves to another public company that needs to show an increase in its reserves. The Shale Game exploded - not because of improved drilling techniques - which have been around since the 1980's, but because of voodoo frackonomics. Because of changes in the way shale gas reserves are allowed to be valued for financial reporting by the SEC. Guess when that happened ? Guess who did that ? Want a hint ? (His name rhymes with "Sick Rainy") That's right - it was Cheney's Last Frack Job while VP - to change the SEC reporting rules that allowed shale gas reserves to be overvalued.

(For you Fracking History buff's this was 3 years after the Halliburton Loophole - back when Cheney was still on heart #2) The Sub Prime Mortgage Bubble was about to burst and Wall Street needed a new bubble. So Team Cheney delivered. Big time. These liberal (how you like that adjective ?) valuation rules allow a public company to estimate what it thinks its shale acreage is worth. There is no standard, there is no independent review, it's just whatever number they can pay the engineers to come up with. And they come up with some whoppers - as Deborah explains with startling clarity to the audience's astonishment. (Wish you could do that ? Estimate your assets, then sell shares and junk bonds based on those estimates ? ) You can if you are a Shale Gas Scammer. All it takes is a public listing and a flair for overstatement. And over-stating reserves comes easily to the shale gas companies and their camp followers. "400 Tcf Terry" Engelder still holds the world's record for over-hyping reserve estimates by 5x : http://www.scribd.com/doc/65070417/SGEIS-SocioeconomicHype-Voodoo-Frackonomics-2-0 Every horizontal shale gas field has gone through this cycle of over-expectation, followed by the reality of diminished prospects. In that regard, there is a 400 Tcf Terry Engelder in each new shale play usually several Pied Pipers on the payroll of the shale gas companies, either directly as reserve engineers, or indirectly as PR frack flaks or made-as-paid academics. The initial hype always assumes that the productivity of the shale is the same over a large area and this is never the case. But that enables shale gas companies to overstate their reserves by extrapolating the results of their best wells over a large area. Art Berman has explained that time and again in his Oil Drum blog. At the outset of all shale gas plays, the operators overstate their reserves as a function of the gross area of the shale. When only a small fraction of the gross area is ever productive. This was particularly true in the Marcellus: 2

http://www.theoildrum.com/node/7075 The dynamics are straightforward: in conventional oil or gas discovery, the field size is confirm, limit or increase by new discoveries that offset the initial find. In a shale gas field, the extent of the shale is known so each new well can only confirm or reduce the extent of the productive area. New wells cannot increase the overall extent of the shale, they cannot only confirm or reduce the net productive area. That is why, shale gas plays tend to result in an overall net decrease in estimated reserves over time. And why 400 Tcf Terry got an 80% haircut as new wells came online. So the hype tends to decrease as new wells are drilled and the gross productive extent of the shale becomes known. The over-hype only works when the dollar value of the reserves are going up - the way the housing market was. When the dollar value of the assets goes down - based on a number you can't rig - the price of natural gas - The Shale Game starts to unravel. It wasn't until the price started to decline that the mainstream press began to really pay attention to what Deborah had been saying. Now Chesapeake and other shale gas companies are selling assets to pay off the debt they sold on inflated reserve estimates. Ironically, they are selling assets to companies that want to book an increase in reserves - based on the inflated estimates. Which, despite a lower gas price, are still as pumped up as the Terminator's biceps. By as much as the SEC's liberal accounting rules will allow. Which is only limited by one's imagination. As a reality check - look at the valuation methodology of a gas well under New York's ad valorem property tax appraisal method. Under that method, only the amount of gas produced is given any value. No value is given for gas in the ground. 3

If a public shale gas company was valued by those rules - by what it produced - it would trade for a fraction of its share price. And many shale gas companies - like Gastem - would be worth nothing. Because the only gas they produce is in the press releases from the New York shale $hills: http://www.scribd.com/doc/78149419/Energy-in-Depth-TomShepstone The Sub-Prime Lending Spree ended in an over-supply of housing and a collapse in house values. The Shale Game has lead to an over-production of natural gas - and a collapse in gas prices. http://www.scribd.com/doc/71446252/New-York-Shale-GasFrackonomics The overbuilt housing market has to be dealt with domestically - its hard to export houses to China. Trout streams, water wells and villages in New York will be ruined exploring for sweet spots of shale gas - in order to export shale gas overseas. And keep The Shale Game going.

Chip Northrup Cooperstown http://blog.shaleshockmedia.org/