A Primer on the Economics of Shale Gas Production Just How Cheap is Shale Gas?

12 Pages Posted: 23 Dec 2013

See all articles by Larry Lake

Larry Lake

University of Texas at Austin

John Martin

Baylor University

J. Douglas Ramsey

EXCO Resources, Inc.

Sheridan Titman

University of Texas at Austin - Department of Finance; National Bureau of Economic Research (NBER)

Date Written: Fall 2013

Abstract

The authors analyze the economics of natural gas production in the U.S. in light of the government's recent dramatic upward revisions in gas reserve estimates as a result of advances in horizontal drilling and fracturing (“fracking”). While some observers believe the U.S. will enjoy very large supplies of low‐priced gas for a long time to come, others are not so sure. Using the data from gas wells completed in the Haynesville shale of northern Louisiana, the authors offer a probabilistic and economic perspective on these newly accessible reserves. Their model and NPV simulations indicate that shale gas exploitation is probably sustainable (with a 60% likelihood), but with some important reservations. NPVs are highly sensitive to gas price assumptions and projected production volumes. The authors' base case assumes the continuation into the foreseeable future of the current gas futures price curve; but the authors also point out that a fall in price of just 17% along that curve would reduce well NPVs to zero. Although it is clear that production from shale wells declines more rapidly than production from conventional wells, engineers have too little history with shale wells to forecast ultimate production with great confidence. Nevertheless, shale gas drilling opportunities also present energy companies with valuable “follow‐on” real options that are not captured in NPV analysis. This additional source of value is inherent in vast shale gas formations in which successful wells tend to lead to more development opportunities.

Suggested Citation

Lake, Larry and Martin, John and Ramsey, J. Douglas and Titman, Sheridan, A Primer on the Economics of Shale Gas Production Just How Cheap is Shale Gas? (Fall 2013). Journal of Applied Corporate Finance, Vol. 25, Issue 4, pp. 87-96, 2013. Available at SSRN: https://ssrn.com/abstract=2371494 or http://dx.doi.org/10.1111/jacf.12045

Larry Lake (Contact Author)

University of Texas at Austin ( email )

1 University Station
Austin, TX 78712-1179
United States

John Martin

Baylor University

Waco, TX 76798
United States

J. Douglas Ramsey

EXCO Resources, Inc. ( email )

12377 Merit Dr.
Suite 1700
Dallas, TX 75251
United States

Sheridan Titman

University of Texas at Austin - Department of Finance ( email )

Red McCombs School of Business
Austin, TX 78712
United States
512-232-2787 (Phone)
512-471-5073 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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