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Published on March 5th, 2012 | by Zachary Shahan


The Natural Gas Fracking Bubble & Scam (Fracking Ponzi Scheme?)

March 5th, 2012 by  

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

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About the Author

Zach is tryin' to help society help itself (and other species) with the power of the word. He spends most of his time here on CleanTechnica as its director and chief editor, but he's also the president of Important Media and the director/founder of EV Obsession and Solar Love. Zach is recognized globally as a solar energy, electric car, and energy storage expert. He has presented about cleantech at conferences in India, the UAE, Ukraine, Poland, Germany, the Netherlands, the USA, and Canada. Zach has long-term investments in TSLA, FSLR, SPWR, SEDG, & ABB — after years of covering solar and EVs, he simply has a lot of faith in these particular companies and feels like they are good cleantech companies to invest in. But he offers no professional investment advice and would rather not be responsible for you losing money, so don't jump to conclusions.

  • Fred

    Another negative not mentioned in the article is that the depletion rates for fracked wells are much quicker than for traditionally drilled wells. I’ve seen some studies that indicate a majority have production declines as much as 80-90% after the first 12-18 months. Another indication this could be a gigantic Ponzi scheme – pay off the early investors with big returns in the first 12-18 months and then keep the returns coming from new investors until the bubble bursts. I also saw a recent study that indicated the number of operating drilling rigs has dropped by around 50% in the last 12 months. TIme to put your money in coal as the utilities that switched to Nat. Gas under $3.00 will now be putting in their coal orders and loading up on coal again.

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  • curly4

    If natural gas is as bad as coal then the both of them should be phased out and the sooner the better. More restrictions should be placed upon drilling for and production of methane until it is no longer economical to use as a fuel. Coal fired power plants should have there emissions standards strengthened and now new permits should be issued to build more or to renovate older ones. As these coal fired plants reach the end of their lives they should be retired. With the knowledge that these sources of electric power will be going (no reprieve) will spur forward the replacement with other sources.

    • Bob_Wallace

      We’ve essentially quit building coal plants in the US. I think there has been only one permit approved in the last three years. And we’re currently closing over 100 of the worst coal plants.

      It would be nice if we could introduce a big carbon tax in order to speed the transition to renewables, but I can’t see that being politically possible. People will not stand for having their electricity and gas prices raised by new taxes.

      There’s a slight chance of that changing. If people get even more worried about climate change, then perhaps.

      I think our only hope is to price fossil fuels out of business. I don’t think (and the futures market agrees) that natural gas price will double over the next few years.

      Wind is cheap and getting cheaper. Solar is cheaper than new coal and cheaper than gas peaker plants. Fueling an EV with average priced electricity is like driving your 30MPG gasmobile with $1/gallon gas. (Actually, cheaper.)

      All we need to speed the move to renewables is cheaper storage for both grid and vehicles. It looks like we’ll have that soon.

      In the meantime, there are things that we as individuals can do.

      If available, sign up for green electricity. If necessary pay a bit more for your power and look for ways to cut your usage so that your budget doesn’t suffer.

      Lower your electricity consumption. The less we use, the less new clean generation we have to build. Insulate, weatherize, switch to CFLs and LEDs, dress for the season rather than trying to create a different season, turn of stuff you aren’t using, if possible run your washer/dryer/dishwasher late at night rather than during peak hours, ….

      Think hard about switching to an EV. Many folks could do just fine with a “100 mile” EV, then using public transportation or rental cars for the infrequent longer trips. I know people who are doing just fine with a “30 mile” EV conversion car/pickup.

      Vote for people who will create the change and against those who work for the fossil fuel industry.

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  • Uh yeah. Regardless of ponzi or not, fracking has a very limited lifetime. Resistence is growing. Everyone who is against fracking for whatever reason, be it toxic air pollution, or aquifer contamination, we all know that the proponents are either Oil Workers, land owners with leases for drilling, or OIL INVESTORS. No one is interested in natural gas as a hobby.

    We’ve been taking in by the fact that fracking is bad on multiple faces. PONZI scheme not withstanding, Which wouldn’t surprise me in the least. Considering this whole ‘gas boom’ has shown RECORD amounts of gas reserves in the last year (causing the price to drop dramatically).

    Where are the savings? Where is the cheap gas? It’s a lie. And when the lie is exposed by the collapse of the carbon based economy, we’ll see what’s what. It’s only a matter of time.

  • exdent11

    You have been taken in by the Rolling Stone piece. There is no doubt that Chesapeake’s business model is aggressive but you are wrong to believe the rest of the industry would play along with such an alleged ponzi scheme.After all,some serious companies, with on the ground experience, have to cough up big bucks to buy those leases from Chesapeake. I lived in Susquehanna County Pa. and I can assure you that the gas is no figment of one companies imagination. When they have fully developed the Marcellus[ which will take decades] there is a larger field, the Utica , which is deeper and covers a larger area than the Marcellus to develop. Because of my interest in the field , I follow the discoveries in North America and hardly a week goes by that new techniques are not opening new formations to yields of oil and gas that were thought impossible a few years ago. If you haven’t read Chesapeake’s rebuttal I suggest you do so.
    There is a problem of too much methane escaping into the atmosphere, most of which is happening at well completion. This is being addressed at the state level as in New York and will soon be by the EPA at the national level. Also new techniques for fracking such as LPG fracking will address the methane problem as well as increase the recoverable oil and gas by 25% to 300% depending on how water sensitive the formation.
    I strongly support renewables but natural gas is not going away .

    • I’m not in denial about the existence of natural gas, but it’s price is unnaturally low.

    • Yeah we’re not really interested in what Chesapeake OR HALLIBURTON have to say about what they do. We know what they do. They lie, they destroy, and they steal property value. They kill, they ruin, they rape. They don’t do anything properly until they are FORCED to by legal action.

      Tellya what EX, go to Butler,PA, drink deep from the well water. Then tell us how safe fracking is, ok? How nutritious and healthy the water is. Hang around the condensate tanks for a few hours, breath deeply, let us know how that works out for you. Because humans can breath chemicals like benzene, methyl ethers, xylene, toluene, and a whole grocery list of VoC. When your staggering around, and shaking like a palsy victim. Let us know how awesome carbon energy is.

  • Ponzi scheme or not, it’s activities like Chesapeake’s that distract us from working toward a clean energy future. Sadly, it also gives false hope to “fossil fuel Luddites” and their shills like Mr Smith. Denial of a problem leads to, obviously, not taking action. Until we can generate the power that we need to operate our civilization without burning (and wasting) coal and oil we have a problem. Those who pay attention to this problem realize that it is a big problem, indeed. The solutions are staring us in the face and self-serving (and possibly criminal activities) like those exposed here, only serve to muddy the water.

    Good post Zach,
    Ed Kerr

  • Lsmith

    You guys are all idiots. If there wasn’t fracking, there wouldn’t be any oil or gas produced. So if you are geared to pay massive amounts of money for fuel and for products produced by this industry (which is most), keep it up.

    • Bob_Wallace

      I suspect you might be well served by going back and reading the article carefully, Lsmith.

      Or even reading it for the first time….

    • We’re already paying out the nose for gasoline, and natural gas. The idiot here is you. Thinking we need petrochems for ANYTHING. We don’t. The human race survived for more than 120,000 years without HALLIBURTON, and Chesapeake, and it sure as hell survived without petrochemicals. We can do it again.

      If I have to choose between having it easy and breathing and drinking toxic waste, and working a bit harder to survive, I think I choose to work harder. Thanks for playing.

  • Green_Mom

    Zachary, I love your site and I’m not a fan of fracking, but you should know that Arthur Berman says he was misrepresented in Rolling Stone and never claimed that Chesapeake’s business model was a Ponzi scheme.

    Here’s a link to his statement: http://petroleumtruthreport.blogspot.com/2012/03/i-was-mis-represented-in-rolling-stone.html

  • Mattpeffly

    Live in Ohio, been praying this fracking bubble pops soon; the sooner the better. So they destroy less of the water resourses in the state.

    • understand that. i didn’t repost that section of the article, but the Rolling Stone piece really goes into the horrors of having natural gas frackers in your backyard pretty well, especially on page 4.

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