Published on March 5th, 2012 | by Zachary Shahan18
The Natural Gas Fracking Bubble & Scam (Fracking Ponzi Scheme?)
March 5th, 2012 by Zachary Shahan
Rolling Stone, which is, surprisingly, one of the best mainstream publications around when it comes to environmental and energy matters, in my humble opinion, published a knock-out piece on the natural gas fracking boom… and “bubble”/”scam” that has taken the U.S. (and other countries) by storm in recent years. The full piece is worth a read, but I thought I’dpull a few key quotes out of it for you if you don’t have time for the full 4-pager. Additionally, before dropping those quotes, I think it’s important to note the recent study by former Microsoft executive Nathan Myhrvold and climate scientist Ken Caldeira showing that we really need to skip natural gas and go straight, 100% into clean energy in order to avert climate catastrophe in the second half of this century. But, now, onto other relevant matters regarding natural gas’ overhyped wonders:
Energy Ponzi Scheme
“Fracking, it turns out, is about producing cheap energy the same way the mortgage crisis was about helping realize the dreams of middle-class homeowners. For Chesapeake, the primary profit in fracking comes not from selling the gas itself, but from buying and flipping the land that contains the gas. The company is now the largest leaseholder in the United States, owning the drilling rights to some 15 million acres – an area more than twice the size of Maryland. McClendon has financed this land grab with junk bonds and complex partnerships and future production deals, creating a highly leveraged, deeply indebted company that has more in common with Enron than ExxonMobil. As McClendon put it in a conference call with Wall Street analysts a few years ago, ‘I can assure you that buying leases for x and selling them for 5x or 10x is a lot more profitable than trying to produce gas at $5 or $6 per million cubic feet.'”
“According to Arthur Berman, a respected energy consultant in Texas who has spent years studying the industry, Chesapeake and its lesser competitors resemble a Ponzi scheme, overhyping the promise of shale gas in an effort to recoup their huge investments in leases and drilling. When the wells don’t pay off, the firms wind up scrambling to mask their financial troubles with convoluted off-book accounting methods. ‘This is an industry that is caught in the grip of magical thinking,’ Berman says. ‘In fact, when you look at the level of debt some of these companies are carrying, and the questionable value of their gas reserves, there is a lot in common with the subprime mortgage market just before it melted down.’ Like generations of energy kingpins before him, it would seem, McClendon’s primary goal is not to solve America’s energy problems, but to build a pipeline directly from your wallet into his.”
Not So Much Available As Once Thought.. & Comes with Unexpected Problems
“In January, the Energy Department cut its estimate of the amount of gas available in the Marcellus Shale by nearly 70 percent, and a group affiliated with the Colorado School of Mines warns that there may be only 23 years’ worth of economically recoverable gas left nationwide. Even worse, new studies suggest that because of fugitive emissions of methane from wellheads and pipelines, natural gas may actually be no better than coal when it comes to global warming. ‘I was an early optimist about natural gas,’ says Robert Kennedy Jr., who sits on a panel that’s advising Gov. Andrew Cuomo on whether to allow drillers like McClendon to expand into New York. ‘But after looking into it, I now believe that, without tighter regulations and stricter oversight, the shale-gas boom could turn out to be an economic and environmental disaster.'”
Rolling Stone goes into the environmental concerns not related to global warming a lot more, but I think these are things most people are well aware of. But, for more details on that, most of Page 3 of the article is on that.
Chesapeake Energy Flipping Land Like Flipping Pancakes… & Going Deep Into a Ponzi Hole
The article is largely focused on one company, and the man behind it, in particular. That would be Chesapeake Energy and Aubrey McClendon. Again, the full piece, for context and more info, is worth a read, but here’s a key summary of what Chesapeake Energy & McClendon are all about:
“At Chesapeake, McClendon operated more like a land speculator than an oilman. ‘Our approach is to go in early, quietly and big,’ says Henry Hood, who directs Chesapeake’s land purchases. ‘We like to get our deals signed before anybody knows what we’re up to and tries to run up prices.’ But buying up such huge swaths of land requires huge chunks of cash – and the money often comes not from gas production, but from selling off land or going into debt. After Chesapeake drills a few wells in a region and ‘proves up’ the reserves, it hawks the leases to big oil and gas companies looking to get into the shale-gas game. In 2010, it pocketed $2.2 billion by selling land it bought in Texas for $2,000 an acre to one of China’s largest oil companies for $11,000 an acre. ‘That’s a five-to-one return on investment,’ says Jeff Mobley, Chesapeake’s senior vice president for investor relations.”
“In recent years, the company has also sold off the future proceeds it expects to receive from thousands of wells – a complex financing deal that enables it to borrow cash now without counting the debt it will owe when it has to drill the wells later. The very first deal, made with Deutsche Bank and a Swiss investment firm, brought Chesapeake more than $1 billion in return for 15 years of future production from 4,000 wells. ‘It’s not illegal, but most gas and oil companies don’t do it,’ says Bob Brackett, an analyst with Sanford C. Bernstein & Co. ‘Chesapeake’s poor credit rating pushes them to turn to unconventional financing.'”
“To make its operations even riskier, leaseholders like Chesapeake are required by law to drill on the land within three to five years after acquiring the rights or wind up forfeiting the lease. ‘The more land they acquire, the more capital they have to spend upfront,’ says Deborah Rogers, a former investment banker who learned just how precarious Chesapeake’s business model was when she looked into the firm’s financial statements after the company sunk wells near her property in Texas. ‘Then they have to drill it or lose it, which further adds to capital costs. And the more they drill, the more gas they produce, which lowers the price of gas and further reduces their revenues. In the end, this drilling treadmill is difficult to sustain for long – especially if the wells underperform, or the resource turns out to not be as valuable as they thought.'”
“… McClendon’s worst enemy may not be environmentalists or coal companies, but his own recklessness. He played a leading role in creating the fracking bubble by hyping the promise of endless natural gas and sweet-talking Wall Street into funding a massive land grab. If the bubble bursts, Chesapeake’s stockholders won’t be the only ones who pay the price – the shock waves will be felt throughout the economy, from homeowners who rely on natural gas for heat to manufacturers who were betting on it to power their new factories. Thanks to McClendon’s gambles, Chesapeake is struggling to cover $10 billion in long-term debt.”
Already Hitting Shaky Ground
“This sort of gambling suits McClendon, who is known for placing big bets – and sometimes losing big. During the financial meltdown in 2008, McClendon was forced to sell off 94 percent of his stock in Chesapeake – some 33 million shares – for $550 million to meet a margin call on his personal investments. (Only a few months earlier, the stock had been worth $2 billion.) Despite the dramatic setback, Chesapeake’s board boosted McClendon’s annual salary to $112 million, making him the highest paid CEO at any S&P 500 company at the time. The pay hike, which sparked a shareholder lawsuit, was scorned by Wall Street analysts. ‘McClendon clearly thinks of Chesapeake as his own personal piggy bank,’ says one. In the end, that piggy bank may prove to be empty: In February, Chesapeake announced that, because of low gas prices, its revenues will fall $3.5 billion short of its expenses this year.”
& What about Truly Clean Energy?
To throw in another key threat, and this one is not in the Rolling Stone piece, truly clean energy (i.e. wind, solar, and geothermal energy) are increasingly cheap and competitive. In many places, they are already competitive with or cheaper than natural gas. Now, with natural gas prices expected to rise considerably in the years to come, out-competing these other three options without going under is going to get might hard. Can natural gas do it? I certainly don’t think so, unless heavily subsidized and supported by the government. And why would the government do that? (I think I’d prefer not to know.)
Images: Water balloon bursting via Simon Shaddock; Bubble bursting via richter.bz
Keep up to date with all the hottest cleantech news by subscribing to our (free) cleantech newsletter, or keep an eye on sector-specific news by getting our (also free) solar energy newsletter, electric vehicle newsletter, or wind energy newsletter.
Own or lease an electric car? Complete out EV Owner/Lessee Survey.