by Jon Bogle, RDA co-founder and past president

The Jobs Fallacy

The gas industry has a basic structure that has been in place for over a hundred years. It is a nomadic industry with very high capital needs but very low staffing requirements. Like the circus, they bring their own workers with them because they need people with specialized skills.

Wherever they go, the gas industry offers up an elaborate facade of promises they know they won't deliver. These big lies are very effective because they are things that everyone wants to believe. Their first and loudest promise is jobs. When entering a new territory, they will hire local academics to write an economic report that gives their job claims validity. In Pennsylvania, it was two professors working under Penn State's banner who promised us "An Emerging Giant." They asserted in 2009 that by this year, 2015, one hundred and sixty-thousand workers would be employed in the gas industry in Pennsylvania.

Today, however, there are only twenty-thousand gas industry jobs. Pennsylvania Department of Labor and Industry has erected a smoke screen to hide this scant fact. They invented a new economic category, "Ancillary Industries," claiming that these jobs in other industries are dependent on drilling. Almost all of them, however, were here before fracking started.
 

The gas industry shamelessly uses this ruse. This, from the current Marcellus Shale Coalition's jobs portal, "In fact, according to the Pennsylvania Department of Labor and Industry, more than 220,000 jobs in Pennsylvania are supported by responsible natural gas development." The real fact is that L&I has become a public relations arm of the gas industry. No other industry has a "Fast Facts" bulletin issued monthly and no other industry has an "Ancillary Industries" category. If everyone claimed ancillary workers, like the gas industry does, Pennsylvania would need an additional sixty million workers or five times the state's population to fill those jobs.

Every politician from a city council person to the president is fixated on jobs. They are the source of taxes, economic development, contentment, and reelection. By greatly exaggerating their jobs claims, the gas industry gained enormous leverage. Penn State's "An Emerging Giant" set the contract. The gas industry would supply a flood of jobs as long as they weren't taxed or closely regulated. The state became a partner in nurturing drilling.

Like the circus, they came with great fanfare, extracted wealth, and now are leaving empty lots and empty hotel rooms. 

The Frack Economics Fallacy

In both the oil and gas sectors, the unconventional drilling (aka fracking) industry is quickly imploding. Rigs are dropping out of service, employees are being laid off, debts are not being serviced, and lease bonus money and sometimes royalties are not being paid. David Fessler, energy stock analyst for the Oxford Club, recently published a list of 19 oil and gas stocks he predicts won't survive long because they can't service their debt. "Oil Company Death List: These 19 Oil & Gas Stocks Will Die Soon!"

The fracking industry is economically unsustainable. Fracked gas is expensive gas that the industry is being forced to sell at a loss. The wells are costly to drill and frack and they have a very steep decline rate, losing sixty percent of their production in the first year. Gas prices need to be high enough so the cost of the well, fracking, and pipeline connection is recaptured in the first two years of production. Otherwise, the money borrowed to drill can never be repaid. The Catch 22 for the gas industry is that they need gas to be in short supply so its price will stay high but when they drill, they drive the price down.

The loose consensus among analysts is that the break-even price for gas is between six to seven dollars per MMBtu. Currently, the price is below three dollars and except for two short winter spikes, it hasn't consistently topped six dollars since 2008.

If they are not making money selling gas, how are they staying in business? The short answer is - other people's money. Primarily, the industry runs on stocks and bonds based on the investor's perception of the gas reserves they have in the ground. In 2008, the Securities and Exchange Commission liberalized the rules for counting reserves, making it possible for companies to suddenly claim larger holdings.

A secondary market in leased reserves developed as Chesapeake and others, who had picked up leases early and cheaply, became adroit at flipping these reserves to other companies at considerable profits. For Chesapeake, buying and flipping leases, became their primary business. When Exxon-Mobil bought XTO, some speculated that it was a way to obtain inexpensive reserves to support their stock price. The fact that they have continued to buy lease acreage despite losing money with XTO supports this theory.

The original thought was that shale could be successfully drilled anywhere and the operation could be mechanized like a factory. Shale, however, varies greatly depending on its thickness and its characteristics leaving only a few, rather small, hot spots that are worth drilling. There is much contention on how much real value is supporting the industry's stock and bond prices. As far back as 2009, Art Berman was saying that most gas industry stock holders were already underwater.

In those early heady days, Aubrey McClendon, then CEO of Chesapeake, bragged that his Marcellus holdings were worth nearly forty-thousand dollars an acre. Later, the price for leased acreage settled in at around fifteen thousand dollars an acre. In 2010, Shell bought out East Resource's holdings for a bit over seven thousand dollars an acre. Last August, Shell sold a third of those acres to Rex Energy for under six hundred dollars an acre.

The Marcellus Drilling News declared a bargain in its headline "Rex Takes Shell to the Cleaners." Since then Rex's stock has crashed from over twenty dollars per share to under four. David Fessler has recently picked it as one of the gas stocks that is so over loaded with debt it is unlikely to survive.

References:

"Oil Company Death List: These 19 Oil & Gas Stocks Will Die Soon!"

David Fessler

http://www.investorvillage.com/uploads/77263/files/OXFORD19CODEBTHITLIST.pdf

Shale Gas-Abundance or Mirage? Why The Marcellus Shale Will Disappoint

Expectations Arthur Berman on October 28, 2010

http://www.theoildrum.com/node/7075

"Default Monday": Oil & Gas Companies Face Their Creditors"

Wolf Richter on March 5, 2015

http://wolfstreet.com/2015/03/05/default-monday-oil-gas-companies-face-their-creditors

The Golden Goose Fallacy

When they came to Pennsylvania in 2008 and 2009 the gas industry proclaimed itself to be "the goose that lays the golden egg." Drilling was going to be a "game changer," a "generational resource," a hundred years of gas was in the ground, and wells would produce for forty years. Hundreds of thousands of jobs would be created along with billions of dollars in tax revenues.

A gold rush was declared! Landsmen showed up at farmhouse doors offering riches and a "standard" contract that many, if not most, signed without much scrutiny. Politicians, from city council to President Obama, became fervent believers, relentlessly parroting extravagant gas industry claims. Regulators greased the skids so drilling permits would flow and allow the industry to self-inspect some of its environmental requirements. The commonwealth sold the rights to drill hundreds of thousands of acres of pristine state lands.

Colleges and universities saddled up, establishing gas industry research institutes, publishing papers that extolled the future of gas, and setting up programs to train gas workers. The derisive term, "Frackademics," was applied to these legitimizations of industry hype. Penn State was one of the worst offenders, publishing a series of papers that presented the gas industry's self-interests as research. Coming from the state's flagship university, these papers changed the political climate and saved the industry from having to pay a severance tax, thereby costing the state's treasury hundreds of millions of dollars.

Even as the gas boom was expanding, the coming bust was evident to those who were doing their homework. As early as 2009, two analysts, Art Berman and Deborah Rogers, started to question the economics of shale. In 2011, Ian Urbina wrote a series of articles in the New York Times where he released insider emails from analysts who, as early as 2007, were also questioning the economics. In some of those emails the correspondents said the gas boom felt like the dot com bubble, or Enron, or a Ponzi scheme.

Now, as gas drilling and fracking equipment flows out of the state, the folks being hurt most are the small business people. They believed the industry's hype, believed their government, believed their university, and believed their economic leaders. They bought tanker trucks, built hotels and restaurants, converted their rental properties, and modified their business plans to fit gas industry needs. The much-touted economic growth in Williamsport has largely been the result of local capital being mis-invested.

References: 

Insiders Sound an Alarm Amid a Natural Gas Rush

Ian Urbina on June 25, 2011 

http://www.nytimes.com/2011/06/26/us/26gas.html

http://www.nytimes.com/interactive/us/natural-gas-drilling-down-documents-4-intro.html