energy perspectives - summer 2011

8/12/2019 Energy Perspectives - Summer 2011

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12The Shale

Game-changerAn interview with

the Baker InstitutesAmy Myers Jaffe

40The Flexible

FactoryHow to enhance the

operational flexibility ofunconventional gasdrilling programs

48Strategy& Talent

SBC O&G HR

Benchmark uncovershow talent impactscorporate growth

PLUS

18 Shale gas: a risk worth taking

22 BGs Martin Houston on globalgas markets

28 Digging value out of marketdiscontinuities

36 Oxford Institutes JonathanStern on the fuel of the future

Energy PerspectiSummer 2011 Published by Schlumberger Business Consulting

Unconventional gas has big potential internationally, but this new phaserequires a different mindset andoperating model that balancesenvironment and economics PAGE 4

UnconventionalGas 2.0


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ENERGY PERSPECTIVESMANAGERHermes Alvarez

BOARD OF EDITORS

Muqsit AshrafAndre OlintoOlivier PerrinAntoine RostandArnold VolkenbornStephen WhittakerSchlumberger Director of CorporateCommunications,Energy PerspectivesEditor-in-Chief

ASSOCIATE EDITORS

Amy DonahueKathryn HiteChristopher KhooTan Leesa

Eduardo Villegas OrtegaLaurent De La Porte

CONTRIBUTING AUTHORS

Hermes AlvarezMuqsit AshrafPanos CavoulacosFrancois DubostAl EscherBrian ForbesGavin HallKathryn HiteChristopher HopkinsMartin HoustonAmy Myers JaffeCyrille LevesqueAntoine RostandMohammed SaadatOlivier SoupaJonathan Stern

Herve WilczynskiDESIGN

The Pohly Company

Energy Perspectives is managed by Schlumberger Business Consulting (SBC). SBC is the management consulting arm of Schlumberger. The twoentities do not share condential client information, and they implement strict information security measures to protect client data. Viewsexpressed inEnergy Perspectives bear no impact on day-to-day SBC or Schlumberger business, represent the current judgment of the authors atthe date of publication, and do not necessarily reect the opinions of Schlumberger.

Printed on recycled paper.

ABOUT ENERGY PERSPECTIVES

Energy Perspectives is published by Schlumberger Business Consulting tocommunicate business solutions and innovative viewpoints on todaysbiggest strategic, operational, and organizational issues facing energyindustry decision makers and thought leaders.Energy Perspectives isdistributed by Schlumberger Business Consulting to the energy industrysmost prominent decision makers and thought leaders globally. Forinformation on how to receiveEnergy Perspectives , request permissionto republish an article, or comment on an article, please emailenergyperspectives @slb.com .

ABOUT SCHLUMBERGER BUSINESS CONSULTING

Schlumberger Business Consulting is all about transforming the worldsenergy business for the 21st century. We are a management consultingrm with the strategic and operational insight, global reach, and practicalexperience needed to provide a material impact on the oil and gas sector.In 2004, Schlumberger Business Consulting was established under the

sponsorship of Schlumberger Chairman and Chief Executive OfcerAndrew Gould to help oil and gas companies realize dramatic performanceimprovements and sustained growth. SBC comprises more than 200consultants recruited from the best consulting rms, energy companies, andacademic institutions globally. Operating from 13 ofces around the world,SBC engages clients on a wide spectrum of management issues, rangingfrom strategy and organization to operational effectiveness.

ABOUT SCHLUMBERGER

Schlumberger Limited (NYSE:SLB) is the worlds leading oil eld services

company supplying technology, information solutions, and integrated projectmanagement that optimize reservoir performance for customers working inthe oil and gas industry. Founded in 1926, the company today employs morethan 108,000 people, comprising over 140 nationalities, in approximately80 countries.

WEBSITES

www.sbc.slb.comwww.slb.com


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Welcome

A Natural Gas RenaissanceThis is the inaugural issue of Energy

Perspectives , a publication distributed bySchlumberger Business Consulting to communi-

cate innovative viewpoints on todays biggeststrategic, operational, and organizational issuesfacing energy industry decision makers. In thisissue, we explore the growing importance ofnatural gas in the energy mix and factors neededto make unconventional gas a success interna-tionally. Also, we present the results of the 2011SBC O&G HR Benchmark, which has uncovereda strong correlation between technical talent

and production growth. Furthermore, we getperspectives from thought leaders Amy MyersJaffe (Baker Institute) and Jonathan Stern(Oxford Institute for Energy Studies) on thestate of natural gas, and we explore theperspective of Martin Houston, BG GroupManaging Director of the Americas and GlobalLNG, on the companys outlook for natural gas.We believe a natural gas renaissance is under- way, which bodes well for our industry and for aglobal energy system in dire need of robustsources of energy.

Todays tight natural gas markets have beena long time in coming, and distant futures pricessuggest that we are not apt to return to earlierperiods of relative abundance and low pricesanytime soon, urged Alan Greenspan, thenChairman of the Federal Reserve, to the UnitedStates Senate in 2003. He continued: A major

expansion of U.S. LNG import capability appearsto be under way. Back then, conventional wisdom declared that indigenous U.S. gasproduction was experiencing permanent declineand that the country was destined to become alarge importer of gas. Soon after, however,conventional wisdom turned unconventional. Aboom in the production of shale gas, a resourcelong thought to be unextractable, transformed

the U.S. energy landscape. The U.S. went frombuilding LNG import terminals to considering

gas exportation, from volatile gas prices over$10/Mcf to stable prices below $4/Mcf, from fearof relying on foreign imports to surpassing

Russia as the worlds largest natural gasproducer. The shale gas revolution changedthe U.S. energy paradigm in a matter of a few years and even impacted global markets as LNGcargoes destined for the region were redirectedto other markets such as Europe.

Now activity has begun to spread globally asoperators look to replicate the U.S. successinternationally. A recent study by the U.S.

Energy Information Administration analyzed 48shale gas basins in 32 countries and estimatedtechnically recoverable shale gas resources at6,600 Tcf, with signicant deposits in China, Argentina, Mexico, and northern Europe. To putthose gures into context, 6,600 Tcf adds 40% tothe worlds technically recoverable gas resources and this doesnt take into account furtherresources that may be found in Russia, theMiddle East, and Mediterranean countries. Theemergence of unconventional gas comes at atime when economically viable, low-carbon, andsecure forms of energy are desperately needed.The unfortunate events in Japan theearthquake and subsequent nuclear crisis as well as recent geopolitical instability inimportant energy producing regions will forcepolitical decision makers and energy industryexecutives to think carefully about the role of

natural gas in the worlds energy mix. This issueof Energy Perspectives explores such topics andimplications for the industry.

Regards,

Antoine Rostand SBC, Global Managing Director


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2 SBC Energy Perspectives | Summer 2011

Unconventional Gas 2.0Unconventional gas changed the game in North America andhas big potential internationally. However, this new phasebrings new challenges that require a different mindset andoperating model focused around efciency, environmentalsustainability, and integrated business planning .By Muqsit Ashraf and Hermes Alvarez, SchlumbergerBusiness Consulting; Francois Dubost, Christopher Hopkins,and Cyrille Levesque, Schlumberger

Shale Gas: a Risk Worth TakingMost of the worlds shale gas resources lie outside of North America . Companies enticed to explore new areas will need toadopt alternative approaches to de-risk their investments.By Herve Wilczynski, Muqsit Ashraf, and Mohammed Saadat

For synopses of articles in this issue, see page52.

Digging Value Out of Discontinuity Drilling and completion innovations have disrupted the gas market.Heres how management teams can benefit .By Al Escher and Kathryn Hite

4

18

28

THOUGHT PIECES

EXECUTIVE SUMMARIES

Energy Perspectiv


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ContentsSummer 2011

The Flexible Unconventional

Gas FactoryEnhancing theoperational flexibility of unconventional gasdrilling programs can help reduce capital inefciencies.To achieve such exibility, operators must establish internaland externaltriggers , allowing them to adjust to unforeseenchanges in markets, geology, and resources.By Brian Forbes and Herve Wilczynski

The Strategic Importance of TalentAn SBC survey of the oil and gas industry uncovers a strong link between petrotechnical talent and production growth andforecasts a large mid-decade loss of experiencedpetrotechnical professionals.By Antoine Rostand and Olivier Soupa

The GlobalGas MajorAn interview withMartin Houstonof BG Group By Al Escherand Gavin Hall

22

Natural Gas:the Fuel of theFutureAn interview withJonathan Stern of the OxfordInstitute for Energy Studies By Panos E. Cavoulacos

36

40

48

INTERVIEWS

sbc.slb.com | SBC Energy Perspectives 3


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nconventional gas presents the world with an opportunity and achallenge. Conventional sourcesof gas supply are declining while

demand is taking off, driven by the burgeoningemerging markets and the recognition that gasis a low-cost, low-carbon energy source. Col-lectively, these dynamics act to increase im-port dependency and limit supply security forcertain regions (e.g., Europe and Asia). Un-conventional gas, which helped the UnitedStates overcome a similar challenge, is anabundant resource with big international po-tential. Its no surprise, then, that the industryhas taken action. Companies have embarkedon a global land grab for prospective explora-tion acreage from Argentina to Poland toChina in an attempt to replicate the suc-cess of North America.

However, as events in France foretell, wherethe country has temporarily suspended shale gasdevelopment due to pressure from environmen-talist groups and local communities, this newphase will be different. The statistical E&Pmodel adopted in North America will not bepractical overseas; the economic and environ-mental considerations will simply not allow it. Aset of specic challenges exists outside of North America: higher competition from competing gassources puts pressure on project economics, spa-tial factors linked to higher population densityrestrict land access, limited water resources con-strain hydraulic fracturing, and environmentallysensitive local communities and regulatory agen-cies create hurdles for operators.

Clearly, the global unconventional gas modelcannot be a carbon copy of the North Americanone. Operators will need a different modus ope-

UnconventionalGas 2.0Unconventional gas changed the game in North Americaand has big potential internationally. However, this new phase bringsnew challenges that require a different mindset and operatingmodel focused aroundefciency , environmental sustainability ,and integrated business planning .

By Muqsit Ashraf and Hermes Alvarez,Schlumberger Business Consulting;

Francois Dubost, Christopher Hopkins,and Cyrille Levesque, Schlumberger

U


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randi, one that should include: (a) optimizingdrilling and completions, (b) ensuring environ-mental sustainability, and (c) adopting an inte-grated, exible, and inclusive business model.

Optimizing Drillingand CompletionsUnconventional gas blossomed in North Ameri-ca due to favorable market conditions. Declin-ing conventional production, low competitionfrom other gas sources (e.g., LNG), and highgas prices helped drive development of theresource. This situation allowed operators theluxury to adopt an approach that relies on drill-ing and completing a large number of wells, with the expectation that collective economicsacross an entire program will meet the mini-mum acceptable rate of return. This model isoften described as a statistical E&P approach.

For instance, in one of the prolic shale gas ba-sins in the United States, nearly 80% of the pro-duction came from less than a third of the wells, with total development expenditures onmarginal wells exceeding $100 billion.

Outside of North America, however, compe-tition from other gas sources is high. Regionssuch as Europe and Asia have several supplyoptions, such as piped gas or LNG from multiplesupply points. This creates a new obstacle foroperators looking to develop unconventionalgas abroad. Also, large amounts of land avail-able for unconventional gas development actedas a key enabler for success in North America.Outside of North America, however, the story isdifferent. While large amounts of land havebeen attained at low lease prices in many coun-tries (e.g., Poland), spatial constraints makeland access a major obstacle. These constraints I L L U

S T R A T I O N

B Y

P H I L B L I S S


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are linked to population density: in promisingregions such as Europe (116/km 2) and China(140/km 2), population density is a lot higherthan in the United States (31/km 2). 1 For exam-ple, a comparison of satellite images near twoactive or potential shale gas developments inthe U.S. and in France highlights a drastic dif-ference in land access (see gure 1, below). Although this example illustrates very differentoperating conditions Haynesville well pads versus a Paris Basin gas eld near a city inFrance it underscores a real challenge thatoperators will have to overcome.

Furthermore, higher population densitiesconstrain water resources that are critical tounconventional gas well completions. A com-parison of renewable water resources per cap-ita (m 3 per person per year) highlights thispoint: USA (6,816), China (2,125), and Poland(1,601). 2 Economics outside of North Americaare also challenging due to structural cost dif-ferences, lack of scale, and a limited learningcurve. Optimizing drilling and completions will be fundamental to overcoming these sig-nicant obstacles.

Optimizing well placement:drilling the right well A key determinant of success will be how opera-tors can reduce their footprint by drilling onlythe highest quality wells. This will require asweet spotting approach whereby productiontargets can be met with fewer wells and comple-tions. Optimal well placement can be achievedthrough better reservoir characterization thatincorporates both reservoir and completionquality models. A reservoir quality model identi-es locations of gas productivity potential basedon petrophysical, petrological, geophysical, andgeochemical data. A completion quality modelidenties the potential for creating and retain-ing adequate surface area for gas productionbased on mechanical rock property, horizontalstress, and natural fracture data. A combinationof these models across the eld will ensureidentication of optimal well locations and tra- jectories. This will ultimately reduce the num-ber of wells drilled and completed, alleviatingland access constraints and improving econom-ics while retaining production targets. Addi-tionally, by targeting sweet spots, it is easier

FIGURE 1: DRASTIC DIFFERENCE IN LAND ACCESS

Higher population densities near certain international shale gas plays will restrict land access. A comparisonof satellite images of shale gas developments near the Haynesville play and near Frances Paris Basinhighlights this problem. The gure on the left, in Haynesville, shows a typical shale gas development in NorthAmerica with copious access to land and well pads. The gure on the right, near a promising shale gas basinin France, shows the proximity of operations to local communities. Operators will need to reduce theiroperational footprint through more efcient drilling operations that emphasize optimal well placement insteadof the North American statistical approach that requires the drilling of thousands of wells.

Images courtesy of GoogleSOURCE: SCHLUMBERGER BUSINESS CONSULTING

Paris Basin(France)

Haynesville(USA)

1 mile 1 mile


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to develop the reservoir with multi-well pads,further minimizing the surface footprint.

Improving drilling efficiency:drilling the well right Another way to overcome challenging econom-ics is to increase the efciency of the drillingprocess by using: (a) drilling technologies thatreduce drilling time and increase reservoir con-tact by lengthening the wellbore, (b) loggingtechnologies that ensure optimal placement inthe target zone, and (c) drill bits optimized forshale reservoirs. For example, this approachhas signicantly reduced the drilling days oftwo early unconventional gas wells in Europe(see gure 2, above). Each of these wells hasseen a signicant improvement of 3040% inactual time versus planned time. This smarterapproach to drilling unconventional gas wells isa step toward improved economics versus thetraditional brute force statistical approach.

Optimizing stimulation treatments:completing the well rightWater must be managed optimally as it is an

integral input for unconventional gas devel-opment. Two solutions can help address waterconstraints: (a) optimal water sourcing andproduced water management (discussedlater), and (b) reduction in the overall num-ber of stimulation treatments needed. A reservoir and completion combination model canhelp optimize where fracturing stages are tar-geted and provide visibility into the impact ofthe stimulation on the reservoir and surround-ing rock, especially when monitored with mi-croseismic monitoring technology (see gure3, page 8). This approach helps target develop-ment wells only in the best stimulation zones,thus reducing overall usage of water.

Ensuring EnvironmentalSustainabilityConcern over environmental issues is one ofthe biggest hurdles facing development of un-conventional gas resources abroad. The busi-ness risk associated with environmentalimpacts can be as signicant as traditional oiland gas industry risks (e.g., geopolitical insta-bility). For example, the French government

FIGURE 2: DRILLING OPTIMIZATION & EFFICIENCY

Time-depth curves for two of the rst unconventional gas wells drilled in Europe show the big impact thatdrilling optimization and efciency can have on overall well economics. Actual drilling time was reduced by

>30% versus planned, which helps make project economics competitive versus competing gas sources.SOURCE: SCHLUMBERGER

Time

Depth

Time

Depth

Well A

ActualPlanned

Actual

Planned

Well B


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has temporarily suspended shale gas drillingin the country due to opposition by environ-mentalist groups and local communities. Themoratorium came after licenses were permittedfor several promising basins across the country.Most operators were probably blind-sighted bythis, as France is generally considered a safeinvestment bet. This problem is not limited toEurope. The South African government blockedshale gas development in the Karoo Basin dueto environmental concerns. Even in the U.S.,the birthplace of shale gas, environmental con-cerns are taking center stage. For example,New York State has placed a temporary banon shale gas drilling due to concerns over aqui-fer contamination. As a result, operators needto adopt a sustainable development approachthat addresses the following concerns: (a) op-erations consume large amounts of water andgenerate signicant amounts of waste water,(b) operations have the potential to contami-

nate freshwater aquifers, and (c) operationsuse fracturing chemicals that have the poten-tial to negatively impact the environment.

Managing the water challenge A comprehensive water management framework will be a strategic imperative for operatorslooking to develop unconventional gas abroad.First, sourcing of water will have to be handledoptimally. This will involve the use of innovativetechniques that reduce sourcing needs or allowfor alternative sourcing options so as to ensuresecurity of supply by avoiding competition withmunicipalities. Second, produced water mustbe managed appropriately through technologiesthat allow for minimization of produced waterat the surface, for greater reuse, and for appro-priate disposal. Integrating water managementinto the overall E&P planning cycle will becomean enabler for successful exploitation of unconventional gas abroad.

One way to overcome lower land access and water availability internationally is to optimize well placementand stimulation treatments by employing a modeling approach that encompasses both a reservoir qualitymodel and a completion quality model. Figures above show Barnett shale models guided by seismic andmicroseismic events. A combination model improves subsurface visibility.SOURCE: SCHLUMBERGER

FIGURE 3: OPTIMIZING WELL PLACEMENT & STIMULATION TREATMENTS

Completion Quality Model

Reservoir Quality Model

Combination Model


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This exible and integrated operating mod-el (see gure 4, above) departs from the rigidfactory approach. The management systemhas to evolve to ensure exibility and transpar-ency across functions, thus enabling collabora-tive planning and execution. Operators have touncompromisingly drive down the silos thatplague many upstream organizations in orderto overcome the multifaceted hurdles facingunconventional gas development abroad.

Managing stakeholders inclusively Operators must employ an inclusive approachthat fosters relationships with several stake-holders. Other operators, service companies,regulators, and local communities all playan important role and must be managedappropriately.

Relationships with other operators and service companies will become increasingly im-portant as activity shifts to more prospective,higher-risk plays. Collaboration allows opera-tors exibility to respond better to changesand uncertainties, to move up the learning

curve more quickly, to realize economies ofscale, and to congure the right technologyand capabilities. Operators may have to part-ner with other operators to mitigate risksassociated with a new geography or to leveragelocal know-how. Also, operators may need to work closely with service companies to crackthe technology and design code. Knowledgefrom North America will provide a foundation,but operators will have to build on this inorder to develop applications that meet sub-surface and regulatory requirements acrossdifferent geographies. Each shale play is differ-ent, however. Thus, extensive experimentation,eld-based R&D, and customized well andstimulation design will be required. Collabora-tion will be critical to success, whereby costsand risks can be pooled.

Managing the relationship with regulatorsand local communities will be critical. Opera-tors have to be proactive in engaging regulatorsto help dene the regulatory framework and toassure regulators that operations are environ-mentally robust. Also, operators have to effec-

Commodity prices Service provider availability

External Triggers

Frac technology Drill technology Surface equipment performance

Reservoir response Operability Maintenance requirements

Internal TriggersBase

Production P r o

d u c t i o n

Rig 1

Time

Rig 2

Rig 3

Asset Results

Check forTrigger Events

MonitorPerformance

Adjust InvestmentPacing & Capacity

Appraisal Factory

FieldDevelopment

Plan

Access & Permit

Design & Prepare

Execution Factory

Construct & Drill

Complete & Commission

Adjust Design

A exible operating model that departs from the traditional statistical approach is needed to improveoperational performance and economics. This is vital in the highly competitive international gas markets.SOURCE: SCHLUMBERGER BUSINESS CONSULTING

FIGURE 4: FLEXIBLE & INTEGRATED OPERATING MODEL


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tively address concerns by local communities.Lack of complete knowledge and apprehensionover the potential implications of oil and gasdevelopment can drive local communities topressure regulators into banning unconven-tional gas operations. Operators have to engagelocal stakeholders early on in the process andfully outline the extent of operations. In orderfor operators to be successful they must:(a) ensure a consistent message, (b) demon-strate transparency and responsiveness, and(c) build trust with the general public. Gainingregulatory and local buy-in will pave the wayfor long-term and unhindered development ofinternational unconventional gas resources.

New Challenges, a New MindsetIt is fair to assert that unconventional gas hasbeen the biggest breakthrough in the oil and gasindustry over the past decade. In unconvention-al gas, the world has found a resource that canoffer competitive economics and a practicalopportunity to materially reduce global carbonemissions. Unconventional gas is an abundant

and global resource, found in geopolitically sta-ble countries. These qualities help unconven-tional gas bolster supply security and serve the worlds growing appetite for natural gas. But itspotential to date has only been realized in North America. The next phase of unconventional gasdevelopment is fraught with new challenges.The new model required for winning on a globallevel will be distinct from the one employed inNorth America. The global model requires thatoperators rise to the challenge and adopt a newmindset that balances technology, the environ-ment, and economics (see gure 5, above).

Muqsit Ashraf ([email protected]) is a Vice President atSBCs Houston ofce, whereHermes Alvarez is aConsultant.Christopher Hopkins (VP UnconventionalResources),Francois Dubost (Principal Reservoir Engineer),andCyrille Levesque (Technology Advisor) work forSchlumberger. We welcome your comments on this articleat: [email protected] 2011 Schlumberger Business Consulting. All rights reserved.

1. The CIA World Factbook2. World Resources Institute

Several challenges exist that will create hurdles for operators trying to develop unconventional gas abroad.A new approach is needed that balances technology, environment, and economics.SOURCE: SCHLUMBERGER BUSINESS CONSULTING

FIGURE 5: A NEW MODEL FOR INTERNATIONAL SUCCESS

UNCONVENTIONALGAS CHALLENGESINTERNATIONALLY

OPTIMAL DRILLING& COMPLETIONS

ENVIRONMENTALSUSTAINABILITY

INTEGRATEDBUSINESS MODEL

Optimal well placementImproved drillingef ciency

Optimal stimulationdesign

Optimal watermanagement

Ensuring well integritySustainable fracchemicals

O perational exibilityIntegrated decisionmaking

Stakeholdermanagement

ChallengingEconomics

RestrictedLand Access

WaterConstraints

EnvironmentalConcerns

Higher Prospectivity& Risk

Solution is critical to challenge Solution is of little relevance to challenge


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Energy Perspectives: How would you describethe impact of shale gas on the United States energy security and energy independence?

Amy Myers Jaffe: The U.S., which only a few years ago was projected to become a large im-

porter of LNG, has virtually eliminated its gasimport requirements for at least two decades.We see shale gas becoming the majority ofU.S. natural gas production by 2030. The situa-tion in North America has changed substantial-ly and has had a ripple effect around the globe

As recently as four years ago, it was widely thought that U.S. natural gas was in short supplyand that the country was destined to become a large importer. Over the past decade or so, indig-enous gas production was declining steadily at the same time that demand was growing signi-cantly, stoking fears of shortages and growing dependence on foreign imports. What happened next was nothing short of amazing. Operators were able to unlock large supplies of natural gas trappedin shale rock at lower costs through technology breakthroughs, igniting a frenzy of activity. TheU.S. went from building LNG import terminals to considering gas exportation, from volatile gasprices over $10/Mcf to relatively stable prices around $4/Mcf, and from fear of relying on foreignimports to surpassing Russia as the worlds largest natural gas producer. Shale gas has revolution-ized North American gas markets and even impacted global ones, as LNG cargoes destined for America were redirected elsewhere. And now activity has begun to spread globally. Amy MyersJaffe, Director of the Energy Forum at the Baker Institute, recently discussed the global implica-tions of shale gas with SBC Vice President Muqsit Ashraf and SBC Consultant Hermes Alvarez ather ofce in Houston, Texas.

The ShaleGame-changer An interview with Amy Myers

Jaffe of the Baker Institute

By Muqsit Ashrafand Hermes Alvarez


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as LNG cargoes destined for the United States were freed up for other markets. Also, the suc-cess in North America has fostered immenseinterest in shale gas in other parts of the world.

EP: Will we see North America exporting shale gas anytime soon?

AMJ: I believe this is a possibility. If I were aWestern Canadian producer like Apache andcould get oil-linked prices to sell my strandedshale gas into Asia, then I would go throughthe risk and expense of building LNG exportfacilities. Currently, companies are applyingfor licenses to export LNG from the U.S. GulfCoast, so we are likely to see this happeningover time.

EP: Some say the United States has a monopo- ly on shale gas. What role do you see theUnited States playing in exporting thetechnology and expertise globally?

AMJ: The U.S. will make its presence knownon a global stage less through global govern-ment-to-government bilateral exchanges toexport the expertise and more through theindustry itself developing technologies thataddress some of the initial obstacles neededto make shale successful globally. Amongthe technologies that will expand shalespotential will be better reservoir characteriza-tion capabilities, alternative non-toxic uidsfor fracking, and fracking technologies andprocesses that reduce the amount of waterneeded to increase gas ow rates. The U.S. hasthe most developed effort in shales and, there-fore, technologies and methods to overcomeinitial drilling and production challenges forshale production are likely to be developedhere and then exported globally. There areall kinds of experimentation currently takingplace in the U.S., some of it driven by cost andsome driven by environmental concerns andregulation. This is what will propel the U.S. to

Amy Myers Jaffe Wallace S. Wilson Fellow in Energy Studiesand Director of the Energy Forum at theBaker Institute

The lesson of shale gas is thatrunning out of fossil fuels is notgoing to be the thing that causesus to shift to something else.

CAREER HIGHLIGHTS: Member of the Council on Foreign Relations Strategic adviser to the American Automobile

Association (AAA) of the United States Widely published, most recently as coauthor

ofOil, Dollars, Debt and Crises: The Global Curseof Black Gold (2010)

Served as Project Director for the Baker Institute/Council on Foreign Relations Task Force on StrategicEnergy Policy

Served as Principal Adviser to USAIDsproject Options for Developing a Long-TermSustainable Iraqi Oil Industry


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Interview withAmy Myers Jaffe

have a leading role. The U.S. has an incentiveto solve development that are arising with ris-ing shale gas production because shale gas is very important to the U.S. economy. Once newtechnologies are developed here, it will thenfacilitate the use of those technologies inother markets.

EP: Looking outside of North America, what impact do you see shale gas having on the global gas supply equation in the near term(by 2020) and longer term (post 2020)?

AMJ: Weve been lucky in the U.S. to haveseveral key enablers to shale developmentin place. We have a large existing nationalinfrastructure; we have a pipeline regulatoryframework conducive to rapid infrastruc-ture development; and we have transparent,regulated futures markets to underpin pricediscovery and market liquidity. However, ininternational markets there are some bar-riers to quick production, such as a lack ofinfrastructure, shortages of water resources,or market structure challenges. Nonetheless, we expect activity will spread much broaderand become a global phenomenon over time.In the 10-year time frame you will likelysee some production in Asia and in Europe.But denitely in the 20-year time frame gasproduction from shales will be a signicantportion of the global market.

EP: What can shale gas mean for Europe?

AMJ: There are obstacles that need to beovercome in the short term. First, there areregulatory and market structure issues thatneed to be resolved, and I think over time they will be. Second, concerns over environmentalimpacts in places such as France also need tobe resolved. Higher population densities andcompetition for water resources has createdpushback in certain regions. Apparently, thereare shale gas resources near Bordeaux, aregion with a signicant wine industry.Therefore, the recent backlash in France

against shale gas development is not surprisinggiven that it would mean a potential newindustry coming in and competing for waterresources with wineries or other agriculturalindustries. In the long term, we expectindigenous shale gas to become a big part ofEuropes gas supply in the 2030 year timeframe (~20% of total supply). This will changethe markets for LNG and pipeline gas, in whichRussia is a big supplier.

EP: If European shale gas lives up to this potential, how will it impact Russia? What other options does Russia have?

AMJ: In the end the Russians will respond tomarket forces. You are already seeing animpact as some LNG destined for North America has been redirected to Europe. Thishas led to the Russians recently agreeing tohave a formula for some buyers that incorpo-rates elements of gas-on-gas pricing. Over timeit will become harder to implement oil-linkedcontracts and harder for Russia to remainsolely a European supplier. They will have tolook to other markets. Our analysis shows thatan increasing amount of Russian gas would goout to China and other Asian economies asthese markets may over time offer a bettercommercial return than ghting to maintainmarket share in Europe. The Russians have tomake some fundamental decisions. One optionis to reform their gas market to try to takemore earnings internally and x their gasbalance in that way. Another possibility youhear get thrown around, but one that is notlikely to succeed, is Russia ooding theEuropean gas market to bump out shale gasproducers. You hear about Russia consideringdevelopment of the Shtokman resources. But itdoesnt seem practical to invest billions ofdollars if a market for the gas cannot beassured. In our industry, history has shown thata price-war stance is not likely to work. It isdifcult to win those battles because of theingenuity of the private sector to reduce coststhrough technology innovation. Also, it is hard


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to ood a market with pipeline barrels. But toeven say that a gas glut in Europe would sinkprices so precipitously that it would shut shalegas in is a stretch. I dont see how that wouldbe a successful approach for Russia.

EP: So you envision that if the early going getstough for European shale gas developers they will hang in and nd ways to improve the economics of their plays?

AMJ: Exactly. One of the key lessons in ourindustry is that companies nd ways to gettheir costs down when a competitor comes inand threatens their long-term viability. It willbe hard to knock early European shale gasdevelopers out of the market because they seeit as a new play with huge long-term potential.In the United States, the experience has beenthat shale operators dont want to give up theiracreage and are willing to accept lower protsand even losses to learn the business. There-fore, companies will hang on to their plays andleases even if it doesnt initially make 100%commercial sense for the immediate term.The same thing is likely in Europe. Anotherpoint that people fail to factor in is that shalegas is a totally different type of reservoir. Weare all used to thinking conventionally andthinking that once a completion is made youcant afford to turn the reservoir off because(a) it can damage the reservoir, and (b) youare stuck with a sunk cost. With shale gas youcan nish a completion, walk away for severalmonths or even a year, come back during thehigh-priced winter season, and turn thereservoir back on without damaging it! Shalegas production functions almost like just-in-time inventory; once the completion is nishedthe resource is like permanent inventory thatcan be produced or not produced at will. Thisis a dramatic change in the way the industry isused to operating. I dont think people havegrasped how this will affect market strategies. Analysts often look at drilling statistics and say,Look, they did all of this drilling and barelyhad any production, but these analysts are not

factoring in this new inventory dimensionthat shale gas brings into the picture.

EP: How can shale gas impact China, probably the biggest wildcard in the global gas demand equation?

AMJ: There are obstacles that need to beresolved. For example, there are someareas with promising gas resources in Chinathat are already experiencing water strain. Access to water resources is critical for shalegas completions and is an issue that has to beovercome. Second is whether you believe whatI call the China Story, which is that a lot ofLNG producers comfort themselves by sayingthat developments in shale gas are irrelevantbecause there will be so much gas demand inChina that it will soak up a lot of the worldsexcess LNG. If there is something wrong withthis story if, for example, China has aneconomic setback or shale gas turns out to bea big success then forecasts for a lot of LNGprojects wont be as rosy. In the long run, wesee a bright future for shale gas in China.There could be so much Chinese domesticshale gas that it may be possible to exportsome of it via pipeline to the Koreas.

EP: Recent shale gas discoveries in Argentina hint at big potential for Latin America. What impact can shale gas have in this region?

AMJ: If we take Mexico as an example, we knowthat the Eagle Ford extends into Mexico andpeople are now saying that the resource is muchlarger than previously imagined. A few years agoMexico was expected to become a big LNGmarket. Mexico thought it could have severalLNG import terminals and could resell gas tothe U.S. Now, we are in a situation where theU.S. market is moving toward a surplus andthere are potentially large indigenous shale gasresources that extend into Mexico. If theresource is large enough, it could ease pressureoff a Mexican government currently banking onthe high-risk Gulf of Mexico deep waters for its


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Interview withAmy Myers Jaffe

next wave of incremental production. That is just one example. If you look at other Latin American countries such as Argentina, you cansee that shale gas has big potential in the region.

EP: More broadly, what impact can shale gas have on global geopolitics?

AMJ: It may impact certain countries that havegeopolitical problems think Venezuela andIran. These countries will have to wait a lotlonger to nd a market for their gas. Also, itmeans the world will need less supply from theMiddle East. Theoretically this means themarket might be less vulnerable to supplydisruptions and, therefore, could be less volatile, with lower prices for longer periods of time.Last, it could also thwart the possibility of agas OPEC emerging in the foreseeable future.

EP: Skeptics of shale gas often cite higher costs and environmental concerns as key reasons for its limited global potential. How do you view these constraints? What other potential obstacles and geopolitical constraints need to be overcome or kept in context?

AMJ: The biggest constraint could be stringentand proactive carbon legislation. Because eventhough we talk about gas as a cleaner fuel and it is versus oil and coal it is not asclean as other alternatives. So any constrainton any fossil fuel would slow things down.Other regional issues such as water strain orenvironmental protests against drilling couldhave an impact. However, I am less convincedthat these local issues cant be resolved by thedesire and need for energy supply and by theindustry coming up with better practices.

EP: What impact can shale gas have on the competition between energy sources?

AMJ: If the price of natural gas is cheap,companies may eventually delay LNG projects.This eventually leads to the market tighten-ing up a little. At the same time, you could get

substitution effects that can cause the priceof other commodities to drop. For example, inthe Middle East if you talk to countries that just produce oil you get a sense that they are worried about gas-on-gas pricing. Gas-on-gaspricing makes it more attractive to makepetrochemicals with natural gas than withnaphtha. Also, gas-on-gas pricing makes gas amore attractive fuel for power generation thanoil. So there is potential for gas to take the oilmarket share.

EP: So you feel that current high oil prices arent a secular trend that is likely to persist?

AMJ: I dont like the discussion of peak oil.The thesis of peak oil is that we are runningout of oil and that someday it will become soexpensive to explore for it that, as the middleclasses in China and India start driving, oil willskyrocket to $500/bbl and stay there and insert your own catastrophic ending! I donteven know what the catastrophic ending isnowadays. But one thing I always tell peopleis that I can take coal out of the ground todayand convert it into gasoline or another liquidfuel for $3050/bbl. If I know that oil prices will go to $500/bbl and stay there, then I haveno problem because I know I have to liquefycoal. The point is, the market has a correc-tive feature to it and you would imagine that,eventually, the value between commoditieshas to come back in line through demanddestruction for the more expensive commod-ity. We are not in 1973 anymore; we know howto leverage technology to convert from onefuel to another or to make automobiles moreefcient or able to run on fuels other than oil.I think any producer that concludes they cancharge $140/bbl and hold market share foreverplays a dangerous game.

EP: What impact will the earthquake in Japan and the subsequent nuclear crisis have on the development of shale gas globally now that several countries have scaled back their nuclear ambitions?


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AMJ: The critical factor here is that the Japa-nese public doesnt trust commercial players orthe government to deliver safe nuclear power.This is a big shift because in the past people were committed to the idea that nuclear power was the only viable domestic Japanese energysource. Post-Fukushima, that will not be a pal-atable thing for a politician to say. In terms ofdemand, you have to look at trends. Japan hasnot been a fast-growing economy. It is a service-oriented economy that is not energy intensive. Also, Japan has historically been a leader in cli-mate policy, but the government is not currentlypushing that stance given other equally pressingeconomic and societal imperatives. Althoughthe exact impact of the earthquake and nuclearaccident are hard to predict, we do know theimpact will be large. Most people guess that theJapanese market will turn to gas because theyimagine gas is inexpensive and abundant and this may be true but nothing is so selfevident in the energy market. Energy efciency,for example, could turn out to be a big factor, soat this point it is too early to tell if gas wins in apost-Fukushima Japan.

EP: Major oil companies played a limited role in the initial development of North American shale gas, but are positioning themselves early for the global push. What can oil companies doto reect the growing importance of shale gas?

AMJ: In natural gas, more so than in oil, a rstmover advantage is very important. And eventhough that is traditionally an LNG idea, itgoes a long way toward explaining the hugeinterest and M&A activity in North Americanshale gas. Companies want to learn this busi-ness, and ExxonMobils acquisition of such asuccessful operator as XTO is a great example.ExxonMobil is a company with a lot of capitalat its ngertips, and the best way for it to reinvent the shale gas wheel is not to reinvent it atall, but instead to pick out a solid, well-regard-ed operator and learn the business in-house. Also, the majors have a lot more resources tothrow at new issues related to making shale a

success in new geologic plays internationally.They have strong ties around the world andan excellent record for technological achieve-ment and innovation. Although they have somecatching up to do in the U.S. market, I wouldnot count the majors out.

EP: You have said that in your 30-plus years of covering the industry you have seen few events that have the potential to revolutionizethe industry as shale gas does. Why will shale gas change the world?

AMJ: In the end, I do feel shale will changethe world. I believe we could be on the vergeof having an oil and gas renaissance in the U.S.I sat on a panel a few years ago and said thatI just dont think $1015/Mcf gas prices wererealistic and that we are going back to $34/ Mcf. After the panel, people in the audiencecame up and patted me on the back patroniz-ingly and said they understand that Im an oilperson and, therefore, I am not expected tobe so knowledgeable about natural gas. Thepoint is that and this goes against conven-tional peak oil wisdom the resource isunder the ground. If I know its there and theprice goes high enough I will need to come up with a technology to get it out of the groundbetter, faster, and cheaper. If theres money tobe made, the paradigm of the industry is willdo. The lesson of shale gas is that runningout of fossil fuels is not going to be the thingthat causes us to shift to something else. Thereason could eventually turn out to be that wehave to shift away from fossil fuels becausegeopolitical turmoil in countries where it isabundant and cheap to extract prevents usfrom producing it. But the reason will not bethat we eventually run out of it.

Muqsit Ashraf ([email protected]) is a Vice President atSBCs Houston ofce, whereHermes Alvarez is aConsultant.Amy Myers Jaffe is Director of the EnergyForum at the Baker Institute in Houston. We welcome yourcomments on this article at: [email protected].

Copyright 2011 Schlumberger Business Consulting. All rights reserved.


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Most of the worlds shale gas resources lieoutside of North America .Companies enticed to explore new areas will need to adoptalternativeapproaches to de-risk their investments.

nconventional gas accounts for halfof North American production, withinvestment exceeding $25 billion a year. Although this has changed the

continents energy outlook, there may be a big-ger prize: nearly 75% of the worlds shale gasresources lie outside the region.

The need of many countries to secure theirenergy supply combined with the ambition ofsuccessful North America shale gas rms to ex-pand globally is a growth opportunity, espe-cially for companies that missed out on the rstphase of the unconventional gas revolution.

But there are risks. Experiences gained inthe U.S. are not directly applicable elsewhere. Ifdevelopers dont adopt different approaches torisk in new countries, they may make strategicdecisions based on overly optimistic assump-tions, or miss out a new long-term play.

There are signicant differences betweenNorth Americas shale gas sector and the onesdrillers will nd elsewhere. A number of plays onthe U.S. Lower 48 are now viable at gas prices

below $5 per MM British thermal units (Btu);and some, such as parts of the Marcellus andFayetteville, are feasible at sub-$4. New tech-nologies (e.g., sweet-spot modeling and microseismic) and other efciencies, such as leandrilling and completion, have driven down costs. A deep and transparent gas hub and an exten-sive distribution network provide easy markets, while a robust oileld services sector and matureregulatory and land-access framework have sup-ported development, despite weak gas prices.

Considerable uncertaintyIn other parts of the world, things are less cer-tain (see gure 1, page 20). Limited subsurfacedata and complex formations hamper the abilityto minimize investment risk and guarantee eco-nomics production. So do the slow pace of mar-ket deregulation, edging hubs, and a lack ofclarity on future oil-linked gas-supply contractsand price subsidies. Additionally, the servicessector and infrastructure are undeveloped,fewer than 50 land rigs are operating across

U

Shale Gas: a Risk Worth Taking

By Herve Wilczynski,Muqsit Ashraf, andMohammed Saadat

I L L U S T R A T I O N

B Y

D A N

P A G E


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Shale Gas

continental Europe, compared with around2,000 in North America. And the regulatoryframework has not been dened in many re-gions, leaving fragmented and, in some cases,uncertain permitting, environmental, scal,and investment policies.

In short, lessons learned in North America wont necessarily apply elsewhere. Short of atechnology breakthrough, or radical changes inlocal rules or labor cost, drilling and comple-tion (D&C) costs from rst wells outside North America are unlikely to fall more than 3040%.In some U.S. basins, costs have dropped bymore than 60%.

There are several ways for a company to con-trol its risks as it searches for shale gas interna-tionally, including:

A multifaceted exploration process. Manyoperators spend most of their energy addressingsubsurface risk before making large invest-ments. But this singular focus often ignores sig-nicant considerations that affect the econom-ics of an unconventional project. Yet, researchby SBC shows commercial factors and surfaceattributes, such as gas price and well costs, canmake or break an investment with, for example,

as small as a 10% variance in these factors im-pacting project returns in excess of 20 percent-age points.

Use an entry strategy that spreads risk.Local conditions dictate the approach. AcrossEurope the availability of prospective acreagein key formations and the subsurface and com-mercial prole (pipeline capacity, services sec-tor capability, gas markets) of these plays variessignicantly. A joint venture or farm-in can mit-igate these risks while providing access to coreacreage and the development learning curve.Integration with midstream or downstreamplayers can lower intermediary costs, or guar-antee market exibility and price. Most playersare adopting these strategies, such as Exxon-Mobil with Wintershall in Germany and Shell with CNPC in China. This is different in the U.S. where, until recently, most players developedand operated assets independently.

Keep investment options open throughoutthe asset life cycle. Unconventional invest-ments look riskier than conventional ones. Butthey offer myriad options. Investors do not needto commit large capital sums up front explo-ration and appraisal often require a commitment

UnconventionalGas Risk Factors Low Risk

Price Volatility

Demand/Import Requirements

Market Maturity

Pricing Structure

Infrastructure

Regulations and Policies

Service Sector/Capabilities

Technology

Well Design

Geology

Resource Potential

High Risk

North America Europe Asia

FIGURE 1: UNCONVENTIONAL GAS RISK FACTORS


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in the tens of millions. They do need to monitorlocal conditions and information and adjust theirportfolio accordingly. To enable this, they shouldidentify key signposts for example, Russiacommissioning a new export pipeline, or a largeoperator withdrawing after eld appraisal that validate/invalidate project assumptions.

Reduce unit cost as a natural hedge be-come a exible producer. Several North Amer-ican operators have followed a statistical modelthat focuses narrowly on reducing developmentcosts and the cycle of large numbers of wells.This approach is not appropriate for projectsoutside the region because of minimal subsur-face data, high D&C costs (possibly more than$10 million per well) and tighter economics.Many operators have now adopted a exiblemodel requiring continuous improvement pro-cesses to integrate, in real time, factors such asnew subsurface information and technology.

Use technology. It has been decisive inNorth Americas shale gas revolution and it willbe in Europe and Asia too. Well productivity hasimproved signicantly in the past ve years andmany assets have jumped the hurdle from non-commercial to valuable. Technology will re-main a driving force in North America and anenabler elsewhere (see gure 2, above).

Adapt commercial strategies to regionalconditions. Investors need to adjust their riskappetite as they evaluate opportunities. North American players will have to adopt longer-termcontacts and take on risk-sharing agreements with service providers; local players in Europeand Asia must use hedging techniques and par-ticipate in spot markets. Investors should alsoparticipate in local lobbying groups and engagein policy issues.

Entry into the unconventional gas sector isnot about committing billions of dollars overmany years with high uncertainty over success.Its about diligence and exibility, keeping op-tions open, and investing gradually basedon factors that inuence the asset life cycle.This has implications for an entry strategy andthe way a rm values assets, as well as for own-ership structure, capital deployment, eld op-erations, and organization. Success hinges onchallenging established aspects of the operat-ing model to de-risk what may otherwise be anunattractive bet.

Herve Wilczynski ([email protected]) is a Vice Presidentand Head of North America at SBCs Houston ofce, whereMuqsit Ashraf ([email protected]) is a Vice President, andMohammed Saadat is a Manager. We welcome your

comments on this article at: [email protected] 2011 Schlumberger Business Consulting. All rights reserved.

FIGURE 2:TECHNOLOGY NEEDS AND SOLUTIONS

NEEDSIncrease Asset

ProductivityEnhanceRecovery

OperationalEfciency

M I T I G A T E E N V I R O N M E N T A L I M P A C T

TECHNOLOGYEXAMPLES

Imaging Sweet spot modeling

Micro seismicmonitoring

Eco-friendly frac Integrated perforation

EXPLORATION DEVELOPMENT PRODUCTION

NEEDS

Alleviate Lack

of Well Data

Reduce

D&C Costs

Minimize

FootprintS U S T A I N A B L E D E V E L O P M E N T

TECHNOLOGYEXAMPLES

Seismic integratedwith reservoir andcompletion quality

Modeling

Drilling with LWD/Advanced rotarysteerables

Completion withprecise frac place-ment and noworkover and coiledtubing perforation

Horizontal wellsPad drillingEco-friendly fracWater management

NORTHAMERICA

REST OF

WORLD


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Over the past decade BG has successfully transformed itself into the only true global gas major.The company has always articulated a clear and consistent strategy of securing competitivelypriced gas resources and connecting these resources to high-value gas markets. It wasthe rst company to break the old LNG point-to-point sales ideology, the rst to blaze the Atlantic Basin LNG trail with its success in Trinidad, and the rst to successfully build an LNGbusiness around unconventional gas. The company has more than doubled its gas productionand gas reserves over the past decade and is well on its way to reaching its 2015 LNG supplygoal of 20 Mtpa, solidifying its integrated gas growth strategy. The coming decade will bringfurther transformation for BG as it prepares to break the 1 Mmboe/d production milestone,enter new frontiers like East Africa, and commission a number of large-scale developmentprojects globally. Martin Houston, Executive Director for BG Group, recently discussed thecompanys strategy and outlook with SBC Director Al Escher and SBC Vice President GavinHall in London.

The Global Gas Major An interview with BG GroupsMartin Houston

By Al Escher and Gavin Hall

Energy Perspectives: What is your outlook for global gas demand and what are some interesting trends you foresee?

Martin Houston: This year, for the rst time,

in addition to publishing our various annualpublications and our February strategypresentation, we put out our outlook for theglobal gas market. We felt that as a globalgas major we ought to share our views on


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trends. We envision strong gas demand overthe next decade. Currently, global gasdemand is at 3,000 Bcma and we predict ithitting 4,000 Bcma by 2020. The strongestgrowth will come from non-OECD countries,especially Asia, where Chinese demand isexpected to grow by a staggering 10% per year. Also, we expect demand growth to bedriven by oil substitution in emergingeconomies, mainly in the industrial,commercial, and residential sectors.

EP: Earlier this year you spoke about the 2020 supply challenge. What is your supply-side outlook and, specically, why do you believethe world is not awash with gas?

MH: Over the next decade the industry willexperience a 1,000 Bcma supply shortfall asmany existing gas projects approach the end

of life. So, in fact, incremental gas supply will have to replace greater than 75% ofcurrent supply to meet 2020 demand [seegure 1, page 24]. The supply gap is biggerthan many people believe. Our view is thatthe world is not awash with gas, which goesagainst some of the conventional wisdom.We feel that supply will be the constrainingfactor. Up until recently, conventionalindustry wisdom saw demand as the problem.Slowly, the industry is realizing that supplyis the real challenge.

EP: How does the industry need to evolve to meet this 2020 supply challenge?

MH: I think the industry needs to solidify theNOC/IOC bargain and recognize thestrengths of both parties. Private companiescan share expertise, train local resources,

I define a leader as a value creator,as someone who has an ambitionand a supporting strategy needed

to deliver that ambition.

CAREER HIGHLIGHTS: Based in Houston and London, he is responsible

for activities in the Americas and for global LNG Played a leading role in developing the Groups

global LNG business Extensive international experience from a

wide variety of technical, commercial, andmanagement roles

Joined BG in 1983, appointed BG GroupExecutive Vice President in 2000, appointed tothe Board in February 2009

Fellow of the Geological Society of London anda Companion of the Institution of Gas Engineers

Martin HoustonExecutive Director for BG Group


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Interview withMartin Houston

and invest in local communities. Hostcountries need to provide stable scalregimes, favorable contract provisions, andtransparent regulatory frameworks thatencourage investment. LNG supply will bekey to meeting the 2020 supply challenge, and Australia will play an important role here.However, issues such as labor availability needto be overcome if Australia is to overtake Qataras the largest LNG exporter within a decade. Also, U.S. LNG exports may provide anotherinteresting opportunity to help meet 2020demand. Looking beyond 2020, the industrycan do several things to ensure supply security.First, companies such as BG have to continueto open up new supply provinces such as East Africa, where BG has already had drillingsuccess in Tanzania and in Kenya and where we have recently signed upstream agreements.Second, the industry has to continuouslyinnovate to solve the problem of resource inplace (think FLNG). Last, the industry has tocontinue to work with governments to unblockthe domestic concerns that have stalled

projects in the past (e.g., Nigeria). Price andrisk/reward realism is required on both sides.

EP: What is your view on oil indexation of gas?

MH: At every single analyst meeting Iveattended over the past three years, someonehas told me that the world is awash with gasand that this signals the end of oil indexation.We just dont believe that. Just because theglobal LNG trade is going to hit 350 Mtpa by2020 does not signal that gas is on its way tobecoming a global commodity. Sure, themarket will become more liquid, but we seethat as a very small part. Gas is still illiquid asa fuel. The global gas market is a collection oflocal and regional markets that change as gasis pulled from one region to another. Regionalmarket differences will persist because theglobal gas business is principled on the notionthat gas markets are variable. We move gasaround the world; we buy it from anywhereand can sell it everywhere. Furthermore, oilindexation provides certainty for both buyers

FIGURE 1: GLOBAL GAS SUPPLY 2010-2020 (BCMA)

SOURCE: BG GROUP 2011 STRATEGY PRESENTATION

20202010

4,000

3,0003,087

4,108

1,000

2,000

0

>75% of CurrentSupply

Decline

NorthAmerica

Russia

C. AsiaM. East

LNG

Other

CAGR 2.9%CAGR 9.0%


27/56


and sellers because the oil price broadlyreects macroeconomic energy supply anddemand conditions over the long term. Oilcosts set prices and are transparent. Ourrecent experience in marketing almost10 million tons of LNG conrms that oilindexation is still regarded as the norm forlong-term supply contracts. We estimatethat around 75% of the increase in globalgas demand will compete with and,therefore, be priced against oil. And wesee this happening for theforeseeable future.

EP: BGs strategy of connecting low-cost supplyto high-value markets has been incredibly successful.To achieve this you havetalked about BG breakingthe LNG paradigm. Can you explain this and also explain what you think might be the next paradigmto break?

MH: We broke the inexiblepoint-to-point salesparadigm that was prevalentin the industry before 2002.The cornerstone of our LNGstrategy is exibility, whichallows us to seek the best markets globally.This thesis has worked well for us and hasallowed BG to create a sustainable LNGproposition. We have a suite of cost-advan-taged LNG assets around the world. We haveglobal shipping and marketing capabilities,an in-depth understanding of target markets,and an array of short- and long-term markets.Looking back, we changed the model in severalother ways. First, we contributed to therenaissance of the Atlantic Basin by creatingTrinidad Atlantic LNG. At Trinidad LNG weinvested in the plant without any supply, and

instead locked capacity for future gasdevelopments. At the time people scratchedtheir heads and wondered how that could work. For us, it created an opportunity topull future gas through Trinidad. Second, wecontracted several LNG carriers when themarket was tight. That allowed us the oppor-tunity to commit to 100% of the capacity ofLake Charles and then build a fungiblesupply portfolio that gave us the exibility tobuy, sell, trade, and swap. Overall, we are

optimistic about theevolution of the LNGindustry. BG is on track toreach our global target of20 Mtpa of contacted volumes, up 57% fromcurrent levels, by 2015.The ramp-up in Queen-sland CSG-to-LNG will be akey driver of this growth.In terms of the nextparadigm, it could be theU.S. becoming an exporterof gas. This would free upshale gas as an LNGfeedstock. Weve actuallymet with the U.S. Depart-ment of Energy in Washing-ton and have applied forour own export permitfrom Lake Charles. We are

still trying to understand what the ultimateconditions will be, but concerns over largeexports moving the price too far are likelyto emerge.

EP: In terms of the role of gas in the global energy mix, how do you see this evolving and what role do you see for gas as atransition fuel and even perhaps adestination fuel when coupled with CCS?

MH: Gas will continue to play a key role in abalanced energy mix. We recognize that the

We recognize thatthe solution will come

from a number oflow-carbon energysources that are

needed to reduceglobal emissions. Thegood news is that gas

technology is availabletoday, so there isnta need to wait for

other options.


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Interview withMartin Houston

solution will come from a number of low-carbon energy sources that are needed toreduce global emissions. The good news isthat gas technology is available today, so thereisnt a need to wait for other options.We view gas as the long-term energy choicebecause it is the lowest-carbon fossil fuel andmore reliable than intermittent wind andsolar. Furthermore, gas can respond quicklyto back up renewable energy sources.

EP: How do you see the global LNG markets evolving by 2020 and, specically, how do you view China and India, probably the two biggest wildcards in the global LNG demand equation?

MH: The consensus is thatLNG trade will hit around350 Mtpa by 2020. In termsof trends, almost half of thefuture LNG demand growthis expected to come fromChina and India the two wildcards, as you say. Also,a large number of new markets will emerge inplaces such as Argentina, Brazil, Kuwait, Dubai,Singapore, Thailand, and potentially Saudi Arabia. Current and sanctioned LNG supply isaround 280 Mtpa. In the next 10 years we willalmost double the capacity we built in the past40 years! It is interesting also to look at theshift in suppliers former powerhouses suchas Algeria, Indonesia, and Malaysia havealready been overtaken by Qatar, and couldeventually be overtaken by Australia andperhaps Nigeria. Going back to our view on thesupply gap, there is still a shortfall of around 70Mtpa that the industry needs to sanction inorder to keep up with demand growth (equiva-lent to a Gorgon project sanctioned every yearfor the next ve years just to close the gap).

This further supports the notion that it issupply and not demand that will act as aconstraining factor. China will be key. Currently,gas accounts for less than 4% of the Chineseenergy mix, much lower than comparableeconomies. A 1% increase in gas penetration inChina adds around 25 Bcma to current Chinesedemand, equivalent to the total output of fourQCLNG trains in Australia. If Chinese gaspenetration were to rise to a level similar toIndias (still low by global standards), it would

add around 150 Bcma ofdemand, equivalent to 100Mtpa of LNG or one and ahalf times the total capacityof Qatar! Chinese LNGdemand will rise dramaticallyover the next decade; thecountry has nine importterminals under developmentand will have a total of 13 by2015. These few exampleshighlight why the industry isso bullish on Chinese gasdemand.

EP: Unconventional gas has increasingly played an

important role in BGs global portfolio. Looking back, what stands out to you about BGs entrance into unconventional gas and what has been the companys investment philosophy?

MH: In terms of our investment philosophy, welook at several things such as accessibility,quality of the rock, resource availability, andmaximum returns. In terms of unconventionalgas, we currently have interests in the UK,Poland, Germany, the Netherlands, and, ofcourse, Australia and the U.S. In the U.S. we seestrong demand and a competitive price, whichcomplements our gas trading business. Overallgas demand in the lower 48 in 2010 hit a recordhigh of 66 Bcf/d, driven by economic resurgence

If Chinese gaspenetration were torise to a level similarto Indias (still low

by global standards), it would add around 100Mtpa of LNG equiva-lent or one and a halftimes the total capac-

ity of Qatar!


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and extreme weather. We see demand growing ataround 1.5% per year and strongly believe thatthe Henry Hub is sustainable at $5/Mcf. Whilethe U.S. business is very margin sensitive, we arecondent about our favorable returns because ofour experience, efciency in drilling, andfavorable land position that keeps our operatingcosts down. Furthermore, new acreage is widelyavailable in the U.S., a country with a signicantundeveloped resource. The large scale of themarket provides us with materiality. Our intentis to build a sustainableposition in the U.S., which isone of our core countriesalong with Brazil and Australia. We currently haveover 235,000 net shale acresin both the Haynesville,operated by our partnerEXCO, and in the Marcellus,operated by our JV withEXCO (total net potentialresources are 8.5 Tcf). TheU.S. has a lot of good thingsgoing for it, such as a highlydeveloped service industryand the potential for gasexportation in the future. Interms of our Australian unconventional gasbusiness, it is based in another stable OECDcountry with major gas reserves (sixth largestcoal seam gas resource in the world). Ourpurchase of QGC an experienced coal seamgas E&P company and our new LNGproduction and export facility in Queenslandshould be proof that we see a huge upside there.Weve made Asia Pacic commitments for up to9.5 Mtpa of LNG with Japan, China, Singapore,and Chile that underpin our investment inQCGLNG.

EP: In retrospect, what are some of the key lessons you have learned about leadershipthroughout your career as a key decision maker at BG?

MH: Leadership is ultimately about people.There are several keys to excellent leader-ship. First, you need to hire the right peopleand place them in jobs that match their skillsand potential. Second, you have to expectresults and empower people throughattractive situations and personal develop-ment opportunities. Last, you have to provideconstant feedback and reward successfuldelivery. In addition, as a leader, my role is toprovide the vision, a strategy, and a plan. The

vision needs to inspire, thestrategy needs to be aligned with what our investorsseek (i.e., growth andreturns in our case), andthe plan has to be exible,inspirational, and viable. Ibelieve leaders need to berelentless in the pursuit ofoutperformance. At BG,even when budgets arexed and agreed, the truebusiness leader is inspiringthe team to nd the nextopportunity, the one thatallows the stretch goal to beachieved. Leadership at BG

isnt just me and my colleagues at theexecutive level. I dene a leader as a valuecreator, as someone who has an ambition anda supporting strategy needed to deliver thatambition. A leader has to energize andmotivate people. In doing so, they can enrichthemselves and the organization. Therefore, Ibelieve leaders exist at all levels within acompany.

Al Escher ([email protected]) is Director of North andSouth America at SBCs Houston ofce.Gavin Hall ([email protected]) is Vice President at SBCs London ofce.Martin Houston is Executive Director for BG Group inHouston. We welcome your comments on this article at:[email protected].

Copyright 2011 Schlumberger Business Consulting. All rights reserved.

I believe leaders needto be relentless in thepursuit of outperfor-mance. At BG, even when budgets are

fixed and agreed, thetrue business leaderis inspiring the team

to find the next

opportunity.


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Digging Value Out

of Discontinuity Drilling and completion innovations have disrupted the North Americangas market. Heres how management teams can benefit.

By Al Escherand Kathryn Hite

fter a long period of relative pre-dictability, the U.S. natural gasmarket behaved unusually overthe past few years. Despite a drop

in drilling activity in 2009, domestic productioncontinues to grow, and it is now commonly un-derstood that innovations in recovery technol-ogy are driving production growth. This articlefocuses on understanding the impact of theseinnovations and the implications for E&P man-agement teams.

The Production PuzzleThe accepted wisdom in the E&P industry fromthe late 1990s through the middle of the pastdecade was for declining well productivity toresult in an eventual plateau in domestic pro-duction. As proof, up until January 2006 the rigcount had increased more or less steadily for adecade and domestic production in the U.S. re-

mained at. Counter to this belief, domesticproduction grew 15% from 2006 to 2009, llingstorage to near capacity such that only last win-ter, the coldest winter in decades, 1 led to stor-age draw-downs.

When the gas rig count started to drop inSeptember 2008, the persistence of relativelyhigh domestic gas production was counterintui-tive. From peak to trough, 57% of domestic rigsdrilling for gas became inactive or retired. Ad-ditionally, the industry commonly believed thatmost of the new wells, which were unconven-tional, would produce on a very steep declinecurve. The industry thought the drop in drillingactivity would quickly bring the market backinto balance, or even a shortage, and that prices would return to around $8 per MMBtu or higher.Reecting this optimism, the futures marketpersistently priced contracts for late 2010around $7 per MMBtu for one full year after the

A


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initial drop in rig activity. But production didnot drop, and supply continues to outstrip de-mand. Forsaking previous expectations, thespot market has since dropped to around $4 perMMBtu, and the futures curve has attened.

This sustained increase in production hascaused much disruption for the LNG market forNorth America. Before 2009, the anticipatedgap between domestic production and growingdemand was presumed to be met by LNG. Manycompanies invested millions of dollar to planand seek permits for re-gasication plants. Byearly 2006 some 60 re-gasication plants hadbeen proposed for North America, greatly ex-panding capacity beyond the four plants in service at that time.2 In the three years since, thosecompanies have either shelved or publicly aban-doned those projects, such that today the num-ber of proposed re-gasication plants haddropped down to seven proposed plants.3

Clearly the status quo has changed. Just asthe futures and LNG markets had to adjust tothe new and persistent growth of domestic sup-ply, companies strategies must also adapt.Long-term decisions need to be based on an un-derstanding of the new market brought aboutby innovations in recovery technology.

Wonders We Have Seen At one level, major technological innovations inthe natural gas business are not new. Horizontaldrilling is at least three decades old and hydrau-lic fracturing is much older. These two technol-ogies, with improved zonal control of the frac,have been tested for years. At the simplest level,all that is accomplished with this combinationis greater total surface contact with the reservoir. On its own, this would not appear to be agame-changing innovation.

The greater impact of this technology has I L L U S T R A T I O N

B Y

J O N

K R A U S E


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Digging Value

come from rening the design for local circum-stances and then widespread adoption acrossthe continent. Zonal control has improvedthrough several generations of design. Place-ment of wellbores has improved due to next-generation steerable systems. The impact of asingle wellbore has increased as lateral sectionsextended from a few hundred feet to severalthousand feet. The optimal combination ofthese advances has been rened, often throughinformed trial and error, in thousands of elds.So it is difcult to appreciate the potential im-pact of this technology package without alsoconsidering the journey towards its adoption.

Viewed this way, the shift in drilling activityin 2008 was due less to a drop in activity andmore to a change-out from old to new technol-ogy. As gure 1 (above) shows, horizontal anddirectional rigs had been making inroads in theU.S., especially after 2005. The economic crisisof 2008 accelerated a process that was well un-der way. The relative economic advantage ofhorizontal technology led to its increased mar-ket share, especially as lower gas prices led pro-ducers to switch to less-costly technology.

Another equally instructive market observa-tion is the growth of tight sands production.In spite of the recent interest in shale gas, thegreater contributor to growing United Statesgas production so far has been tight sands (seegure 2, opposite page). Viewed over the pasttwo decades, this is especially instructive in two ways. First, the industrys ability to developtight, thin sands has increased steadily overthat time frame, with some acceleration in thepast ve years. So the time required to developthis previously non-commercial resource on acontinental scale was measured in decades, andtight sand gas production is still increasing.Furthermore, it should be noted that tightsand gas production was increasing well be-fore widespread adoption of horizontal drilling with zonally controlled fracturing. Other tech-nologies, from 3D seismic to thin-bed resolutionlogging tools, helped develop more economicallytight sand reservoirs. The latest round of drill-ing and completion technology simply acceler-ated the trend.

Turning to shale gas, it appears to be in asimilar position to that of tight sands some 20

Proportion of U.S. Rig Count

Horizontal

Directional

Vertical

1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011

100%

60%

40%

70%

50%

30%

10%

20%

90%

80%

0

By September 2008, thepercentage of rigs drillinghorizontal and directional

wells overtook thosedrilling vertical wells

FIGURE 1: RIG COUNT BY DRILLING TYPE (OIL AND GAS)

SOURCE: BAKER HUGHES RIG COUNT FOR BOTH OIL AND GAS THROUGH JULY, 2010; SBC ANALYSIS


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years ago. The recent initial round of technolo-gy has unlocked some of these resources. Sub-sequent rounds of technological improvement,and widespread adoption, could have a similar(or greater) effect on shale gas production and,therefore, on total U.S. production. Horizontaland directional drilling, along with hydraulicfracturing, could also make a signicant impacton coalbed methane (CBM) production, butdewatering costs and modeling reservoir char-acterization remain signicant challenges.

Even with only a few years of productiondata so far, the results from extended lateralhorizontal drilling technology, coupled with zon-ally controlled multi-stage fracturing, grabmainstream attention. As noted above, the in-crease in surface area contact with the reservoircan be calculated and the impact estimated.One way to measure this impact is by looking ataverage IP per well, 4 but results like those shownin gure 3 (page 33) strain belief. The gurecompares increases in initial well productivityfrom conventional tight gas reservoirs toincreases from shale gas reservoirs, over a six- year period. Normally we would expect to see

declines in initial well productivity as a basin isdeveloped, with the best parts of the basin developed rst and more marginal areas after- wards. Instead, gure 3 shows increases overtime in each basin, including the relatively ma-ture conventional tight sands of East Texas. Thisdemonstrates the magnitude of impact on ourability to produce more and more as the tech-nology is applied more extensively. There is anatural limit to how far we can push this tech-nology (e.g., we have gone from two frac jobs per well to 20, but we will never reach 200), but wehave not yet exhausted the use of this technol-ogy today. Using Fayetteville as an example,there are new plays that look to produce eco-nomically much more than what was possible just ve years ago. This is exceptional and rein-forces the idea that the wedge of gas shale pro-duction shown in gure 2 will continue to growfor a long time and defy conventional wisdom.

The potential scale and impact from theseinnovations creates both a communication andcognitive challenge for E&P management teams.The challenge arises from our ability to explainto other industries and governments the magni-

Dry Natural Gas Production(Bcf/d)

60

40

50

30

10

20

01990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2009

Unconventional

Tight Sands

Shale

Coalbed Methane (CBM)

Conventional

Onshore Non-associated

Onshore Associated

Offshore Non-associated

Offshore AssociatedAlaska

FIGURE 2: U.S. DRY NATURAL GAS PRODUCTION BY SOURCE TYPE

SOURCE: EIA; SBC ANALYSIS

NOTE: Associated gas comes from wells primarily producing oil. Non-associated gas comes from wells primarilyproducing natural gas


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Digging Value

tude these innovations will have. The outside world does not expect step-level technologicalinnovation from the E&P industry, perceiving itas a stable low-tech industry with only smallincremental improvements. Today, those in andoutside the industry view this technology set as just another good idea that works nicely andhelps grow production and reserves. Instead, itis quite likely the E&P industry has the ability toproduce domestically 1530% more gas at cur-rent $4/MMBtu prices. Just as with LNG re-gas-ication plants, the expanded domestic supplybase can/should alter long-term investment de-cisions for North American industries. There-fore, E&P management teams will be challengedto explain the new market dynamics both insideand outside the industry as companies try toseize opportunities.

A Technological DiscontinuityLike Any Other At the core, the United States gas market is ex-periencing a technological discontinuity simi-lar to those seen in other industries. It ts thepattern of a competence-enhancing, process-based discontinuity.5 There are documentedinstances of similar innovations, in industriesas diverse as earth moving, glass making, andminicomputers. For example, from 19041916automated glass bottle-making machinesboosted productivity 15 times, over a series ofve related innovations. The initial innovation was the Owens machine with arms to automatebottle production. After the rst six-armedmodel came out, the number of arms in a ma-chine kept increasing eventually up to 15arms.6 The contemporary analogy with multi-stage fracs clearly comes to mind. This earlierdiscontinuity changed not just how bottles were made, but who made glass bottles, howmany glass bottles were needed, and how they were used. The same questions apply in thecase of natural gas production.

The pattern of behavior from this kindof technological discontinuity is fairly wellestablished. Since it is competence enhancing,

we expect the main beneciaries to be compa-nies already in the business (not all technologi-cal discontinuities are this way; for example,the widespread use of cell phones led to thedisappearance of conventional phone manufac-turers 7).

We expect an era of ferment after the intro-duction of the new technology, where trial anderror leads to a dominant design that most ef-ciently incorporates the technology.8 Clearly, we have witnessed that phenomenon in naturalgas production over the past few years. We alsoexpect to see more incremental, evolutionarychange after the basic introduction that adds tothe impact of the discontinuity. For the contem-porary drilling and completion technology pack-age, the steady increase in length of horizontalsections and number of stages in a frac clearlyt this particular model.

Finally, we would expect that the innovationdoes not become mainstream, and its full po-tential felt, until it captures around 50% of itsmarket.9 In this case, gure 1 conrms that di-rectional and horizontal drilling captured 50%market share in September 2008. Now, the termshale gale is de rigueur. So it is reasonable toadd natural gas drilling and completion to earthmoving, glass making, and minicomputers asindustries where technological discontinuitiesfundamentally changed the landscape. 10

The ImplicationsTechnological innovation of this magnitude will affect companies on two levels. First, it will affect the macro-level supply-demand bal-ance for gas, with a consequent impact on pric-ing. While inuential, gas pricing is also a func-tion of several other factors, including LNGimports, overall economic growth, and legisla-tive changes that impact structural demand. Infact, focusing too much on the pricing implica-tions of this technological discontinuity canpotentially distract from the actions that indi- vidual rms can take.

We believe it is more useful to approach thischallenge from the perspective of the second

8/12/2019 Energy

energy perspectives - summer 2011

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