27 September 2012 10:53 [Source: ICB]
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"From the beginning of 2013 we'll start to see those dollars rolling in"
Bill WinceVice president of business development, Chesapeake
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At these prices, natural gas and natural gas liquids (NGLs) would still be a very attractive resource for the chemical industry and other industrial sectors, Chesapeake says.
Bill Wince, vice president of business development for Chesapeake, points out that the petrochemical industry uses natural gas for process energy and NGLs like ethane and propane as a feedstock. With such a comprehensive use of natural gas for its operations, the chemical industry benefits significantly from increased resource availability and modest prices.
He believes the chemical manufacturers that are adding NGL cracking capacity in the US have a great opportunity to capture value through exports.
"Though there are no restrictions on exporting raw NGLs, those who can process raw NGLs in the US have excellent opportunities to market their products in higher priced global markets," he adds.
Smaller and specialty chemical manufacturers will also have much more attractive input costs thanks to shale gas. "Our message is that you'll have a real advantage in the US and you need to be looking at ways to take advantage of that for domestic markets and for export."
The figures speak for themselves: following years of decline, industrial demand for gas has grown each year for the past three years as prices have fallen. "Those who can switch to gas have done so. But some of the fundamental shifts take time because they require new investments," says Wince.
Lower natural gas prices have generated significant new demand opportunities in the US, he says. The most immediate demand response has been in the power sector, as low gas prices have allowed gas-fired generation to displace coal.
Mothballed fertiliser plants have been brought back on stream, and methanol facilities have been debottlenecked. Over the longer term, he says, capacity additions from ammonia producers for fertilisers and urea, as well as methanol producers, will add significant new baseload industrial demand.
Wince says: "You begin to see some major projects under construction, so from a construction perspective the early-movers will have an advantage. From the beginning of 2013 we'll start to see those dollars rolling in."
Gas will also see increasing use in transportation: "People believe there has been a fundamental change in the relationship between petroleum prices and natural gas prices," he says. Truck engine manufacturers like Cummins and Westport are developing engines to burn liquefied natural gas (LNG), as are locomotive builders such as Caterpillar and GE.
VOLATILITY DECLINES
Investors like to make long-term decisions based on predictable conditions and, according to Wince, price volatility for natural gas and NGLs is already decreasing thanks to all the investment in infrastructure and increased supply.
He says: "In the past, price spikes were often weather-driven. We would ramp up rigs in response, but this would involve going out and finding the gas. Today, we've found the gas and future drilling will be driven by pricing signals - that has effectively dampened volatility."
In the past a lot of natural gas supply was offshore so it was subject to hurricane interruptions. Tight and shale gas is all onshore so the impact is much less pronounced. "Katrina was a huge event for pricing; we think shale insulates the US from that volatility," says Wince.
There has been a huge amount of investment in gas exploration and production in the US over the past few years, enabling producers to deliver gas in a much more flexible and reliable way, thereby cutting volatility.
"Our prices have traded down slowly over 3-4 years. But we had a very hot summer and difficult winters before this last one. These would have caused price spiking in the past but we had virtually none," he says.
Wince adds: "You can make investment decisions based on a presumption of lower volatility in gas markets. Investors should be confident that the long-term equilibrium price will be favourable versus alternative fuels and absolute prices ought to be more stable than in the past."
UNSUSTAINABLE PRICES
However, Chesapeake sounds a note of caution over current pricing. It believes a price of $4-6/MMBtu may be viable for producers and consumers in the intermediate term. With prices currently tanking below $3/MMBtu and below $4/MMBtu for the whole of this year, the number of gas rigs has fallen from 1,400 to 452 between 2008 and 2012.
Chesapeake is not planning to increase its number of gas rigs until it gets the right price signals. It has significantly curtailed capital expenditure investment in dry gas shale plays. Its budget has been adjusted so it spends more on oil and NGL exploration instead.
"We don't think the US can survive on incremental gas production from wet gas plays alone, whose higher value liquids make drilling economic at lower gas prices. Most dry gas plays don't become economic until prices are above $4/MMBtu. A lot of gas can be found at $6 and less, so $5 is a good midpoint," says Wince.
Chesapeake believes natural gas prices will self-correct in the long run and make exploration and production viable again. A record inventory of natural gas in storage in the US is now being worked off via coal-to-gas switching in the power sector, and that will continue through the end of this year, it says. Having bounced back from historic lows, they expect prices to increase late this year or early in 2013.
On the NGL side, Wince adds: "A lot of ethane crackers had gone into maintenance in the first half of 2012. Supply has been growing but part of the NGL price falls have been due to plant turnarounds this year. Nevertheless, supply growth will outpace demand until new crackers come online in the second half of this decade, so prices may remain modest."
Wince is confident that the $4-6/MMBtu natural gas price attractive to chemical producers can be sustained. He expects producers will return to dry gas plays in force when prices incentivise new drillings.
"The nominal price might increase because of inflation but adjusted should stay favourable versus all other fuel sources well beyond the next decade.
"Some in government and industry still don't recognise what an incredible resource we have and how we should leverage it. There are so many opportunities to underpin new jobs and real economic growth," says Wince.
As an independent oil and gas producer, Chesapeake is investing in research to boost the use of natural gas rather than conventional petroleum-based fuels in cars and heavy vehicles. It is also trying to encourage utilities to increase gas usage.
The company has also taken a 50% stake in biofuels group Sundrop Fuels, which uses natural gas and biomass to create transportation fuels. Wince adds: "The shale gas revolution is expanding to include more than just shale gas. Technology is being used in older oil and gas zones, which we call non-conventional or tight zones."
The new zones have become extremely important over the last 2-3 years, he says. "We've seen shale and associated drilling begin to focus away from typical dry gas zones and rig counts are now increasing in areas like Eagleford and the wet gas portion of Marcellus. The economics for wet gas, oil and condensate drilling have become better as we've adapted drilling techniques used to develop the dry gas plays."
By: Will Beacham
+44 20 8652 3214
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