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Tight Gas Reservoirs and the Time Value of Money

By John Dickinson, Chairman, Pryme Oil and Gas

It has often been noted that natural gas is an expanding resource base..., because as the price of natural gas increases, it becomes economic to drill for gas in deeper horizons and in reservoirs that do not easily surrender their product. The focus of this discussion isnt on the deeper conventional gas plays onshore U.S. and the Gulf of Mexico, but rather on those tight gas reservoirs such as gas from organic shales and lowpermeability sandstones. These two latter categories of reservoir rock have several things in common: To attain any reasonable capital recovery, gas prices generally need to be - as a minimum north of $4/MMBtu because of the relatively high economic limit1 of tight gas wells. In spite of what the reservoir pressures may be, in all circumstances tight gas reaches the wellbore at much lower pressures and if initial producing rates are high, in the steadystate of the long-life phase, the flow rates of tight gas wells are low. The financial implications of this are manifest, as will be examined in this discussion. The production cost of tight gas wells is relatively high in comparison with conventional gas wells because reservoir energy cannot be translated into meaningful wellhead pressure and so energy must be added at the surface via natural gas compressors. Such machines require natural gas as fuel and in addition have a high capital cost. Gas from Organic Shales Is typically produced via desorption, whereby individual molecules of methane are not occupying charged reservoir pore space under natural reservoir pressure. Instead, they are naturally adsorbed onto carbon molecules of organic shales via proper cooking time and burial over millennia. They then desorb and beginning a tortuous flow to a wellbore after the physical reduction of formation water by mechanical means. With few exceptions, all of this presupposes very low flow rates and very low flowing pressures at the wellhead. In order to enhance production of this type, it is usually necessary to hydraulically part the shale rocks using very high pressure, and then keep the reservoir propped open with specially-sorted sand grains. Added to this is the more modern horizontal and multi-lateral drilling technology that presupposes other than a conventional vertical well. The objective of these combined approaches is to expose as much as possible of the shale surfaces to the wellbore so that desorption is given a chance. There are few exceptions to this. The only one that comes anywhere close to a divergence from these sobering facts is the Barnett Shale in North Texas.

Economic Limit is defined here as the sum of: i) the finding cost/MMBtu; and: ii) production cost/MMBtu

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Nonetheless, the economic limit of shale gas wells is usually very high. Barnett Shale gas wells are expensive to drill, complete and hydraulically stimulate. Such wells normally require restimulation after a year or more of production. Initial flowing rates are usually high, but decline rates are dramatic. The play here is to attain capital recovery as soon as possible in order to eliminate reservoir risk. This cant easily be accomplished with gas prices south of $4/MMBtu. Low-Permeability Sandstones As in the Jonah Field, Wyoming Unlike organic shales, all sandstones have a porosity that is charged with water, oil or free gas under high pressure and they have a permeability that allows such contents to move through this rock. Depending upon their petrology, sandstones can be very porous (upwards of 25%) to porosities of less than 6%, which happens to be the commercial cutoff point of Jonah Field in Wyoming2, a world-class tight gas field that serves here to illustrate how such resources become problematic when viewed in the light of the time value of money. The permeability of sandstones is very generally related to their porosity, but there are many other factors involved that affect the ability of the gas or oil to escape the reservoir and be commercially produced in a well. Empirically, Jonah Field has permeability that is measured in micro-Darcys (one thousandth of a millidarcy, which is one thousandth of a Darcy). By contrast, a typical Frio natural gas reservoir in Louisiana has permeabilities in a range of 300 millidarcys to two Darcys. No need to get into a discussion of the origin of the term Darcy. The numerical comparison speaks for itself. The average net pay at Jonah is 440 feet3, while an average producing interval of Frio is only 20 feet. Nevertheless, when the more appropriate comparison is made on the basis of millidarcy-feet and the rock volume that can be drained, then 25 micro-darcys become 550 micro-darcys, still a tight gas formation bottleneck to meaningful cash flow in any but the first two project years. Jonah covers a net producible area of approximately 21,000 acres. The presently allowed well density is one well per ten acres. Initially, it was forty acres. This illustrates the point that in tight gas reservoirs, it is necessary to bring the wells to the gas, while still trying in the traditional sense to bring the gas to the wells, as by hydraulic fracture stimulation. At a current cost at Jonah of US$3 million per well to drill and complete, tight gas resource development therefore becomes a tenuous financial exercise, as shown below. Although much note is made of the initial wellhead flow rates of Jonah wells, often in the range of 3+ million cubic feet per day, the fact is that such vigorous display is so transitory as to be insignificant. Individual well production rates at Jonah fall at a dramatic 70%+ per year4. The effect of this exponential decline on revenue and net operating income is decisive and raises the question of who is paying attention to the time value of money.
2 3

Petrophysics of the Lance Sandstone Reservoirs in Jonah Field Suzanne and Robert M. Cluff, Denver The Origin of Jonah Field Suzanne and Robert M. Cluff 4 ibid

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A financial summary of one well costing US$3 million demonstrates all of the foregoing. This financial model sets out an initial flow rate of three million cubic feet per day, has a 70% annual decline rate, a gas sales price of US$6/MMBtu, production expense of US$5,000 per month, and an ultimate gas recovery of some four billion cubic feet (Bcf). The model is further adjusted for severance tax of 4% and royalty of 25%. This well cant produce but half of its reserves in the first twenty years. Moreover, while the US$3 million well cost is recovered in just over one year and thus reservoir risk is left behind, annual cash flows put this well, overall, in competition with U.S. Treasury notes having a yield of about 8%. Putting it another way, the Jonah producer little more than doubles his money in the first ten years according to the Rule of 72s, pre-Federal Income Tax. U.S. Treasury notes dont have mechanical or engineering risk. Current market prices just north of US$6/MMBtu are thus expanding the resource base and bringing about a doubling of U.S. drilling rig deployment over just the past three years. But the rig count belies the fact that the U.S. is not replacing the reserves it uses every year because most of the new gas wells drilled are in the tight gas classification and thus arent the contributor to our system supply that they used to be. Time was when a natural gas reserve study was called a: reserves and deliverability study. Time was when a newly-drilled gas well added a million+ cubic feet per day under long-term, steady-state conditions, in order to feed the great U.S. appetite and increased its reserve base usually by several Bcf that could be produced in a reasonable time frame. Nevertheless, cookie-cutting the shale and other tight gas horizons does allow a producer to beat his chest about success ratios and initial flow rates. It allows him to point to the reserves he has added to his Balance Sheet, no matter the time value of his investors money and his ongoing struggle to drill his way out of the precipitous decline of his aggregate wells. _____________________________________