Natural Gas 201

Published in Investing on 25 October 2011

An intro to shale plays, horizontal drilling and hydraulic fracturing.

A version of this article originally appeared on our US site, Fool.com.

Yeserday I offered a brief primer on the fundamentals of U.S. natural gas production. Today we dig a little deeper, covering shale plays, drilling methods, and the media darling that is hydraulic fracturing.

Where's the gas?

Most natural gas (but not all) recovered today comes out of layers of shale buried deep in the earth. The shale plays in the U.S. are located in one of many geographic basins. The basins are all given clever names to let us know where they are, like "Fort Worth Basin," "Michigan Basin," "Appalachian Basin," and so forth. Given that basins aren't referred to as often in the media or annual reports, and shale play names can be less straightforward, it helps to have a map.

Shale PlayMajority Location
ConasaugaAlabama
FloydAlabama, Mississippi
FayettevilleArkansas
MontereyCalifornia
Monterey-TemblorCalifornia
NiobraraColorado
New AlbanyIllinois, Indiana, Kentucky
Haynesville-BossierLouisiana
AntrimMichigan
BakkenMontana, North Dakota
GammonMontana, Wyoming
MarcellusNew York, Pennsylvania, West Virginia
UticaNew York, Ohio, Pennsylvania, West Virginia
DevonianOhio, Pennsylvania, West Virginia
WoodfordOklahoma
Excello-MulkyOklahoma, Kansas
BarnettTexas
Eagle FordTexas
Avalon-Bone SpringTexas, New Mexico
HermosaUtah
Manning CanyonUtah
MancosUtah, Wyoming
MowryWyoming

Source: Energy Information Administration.

The three biggest shale plays in the U.S. are the Marcellus, Haynesville, and Barnett. It is important to note that in some of these cases, the shale contains both oil and natural gas.

Now that we know where the gas is, let's go get it.

Horizontal vs. Vertical Drilling

Natural gas companies drill two types of wells, vertical and horizontal. Vertical wells go straight down into the ground; horizontal wells go down, and then gradually bend out to the side for about a quarter of a mile until the pipe is running parallel to the ground above. A horizontal well can run under the ground anywhere from 3,500 to 10,000 feet. This section of the well is called the lateral.

On average, it costs twice as much to drill a horizontal well than a vertical one. Of course, if it wasn't lucrative, companies wouldn't do it: The average horizontal well can yield as much as 15 to 20 times the natural gas that a vertical well produces. On top of that, drillers are able to drill horizontally in vertical wells that were previously tapped dry.

Take, for example, the Mississippi Lime play. Underneath the ground in northern Oklahoma and southern Kansas is a layer of limestone rich in oil and natural gas liquids. Vertical drilling for oil boomed 100 years ago in this area, making companies like Phillips Petroleum into big names. Though it was considered dry decades ago, SandRidge Energy (NYSE: SD.US), Chesapeake Energy (NYSE: CHK.US), and Devon Energy (NYSE: DVN.US) have brought it back to life with horizontal drilling, first reaping the rewards there two years ago.

Fracking: The process

Once a horizontal well is drilled, the next step is hydraulic fracturing, also known as fracking. Fracking a well happens over several stages, each stage a repetition of the same process along a different section of the lateral. The process breaks down like this:

  • Insert a perforator into the section of the lateral at the furthest end of the well. This section is now known as Stage 1 Frac.

  • Send an electric current to the perforator, setting off a charge that blows small holes through the lateral and into the surrounding shale.

  • Pump fracking solution under incredibly high pressure down into the well and up out of the small holes.

  • The pressure from the solution breaks apart the shale, releasing natural gas trapped in the rock, which then flows to the well.

  • A temporary plug is placed at the end of the Stage 1 Frac and the process is repeated on the next section of the lateral, called the Stage 2 Frac.

  • After all the stages of the lateral have been fracked, the temporary plugs are removed and gas flows up the well to a pipeline.

Hydraulic fracturing can also be used in vertical wells, but it is essentially impossible to produce gas from a horizontal well without it.

Fracking: The controversy

No one has ever argued that drilling for anything is good for the environment, so it should come as no surprise that this is a contentious issue. The main concerns surrounding hydraulic fracturing are the contents of fracking solution, and the fear of gas and fluids leaking into the water table.

Fracking solution varies from company to company, some of which are more willing to disclose their "recipe" than others. Typically the solution contains water, sand, gel, and chemicals -- ingredients whose purposes range from keeping the cracks in the shale open to preventing bacteria buildup in the well. In an example of industry best practice, Range Resources (NYSE: RRC.US) discloses the contents of fracking solution on a well-by-well basis, posting the information on its website.

Well, well, well

Knowing what's in the solution is helpful; knowing that the solution and the gas it has released are not in your drinking water is even more helpful. Studies have implicated fracking in the contamination of numerous water wells in northeast Pennsylvania, the dissolved methane appearing in higher concentrations when active gas wells were close by. The industry, naturally, refutes it.

This has been an especially complicated problem in Pennsylvania, home of the Marcellus Shale and multitudes of horizontal wells. This is a state that, for some reason, has no laws or regulations that govern the construction of private water wells. A 2009 state survey discovered that 43% of all drinking water supplies failed to meet safe drinking water standards, entirely because of contaminants unrelated to fracking. This doesn't mean that fracking is off the hook, it simply shows how messy the situation really is.

Many now advocate for testing water wells near drilling sites before, during, and after fracking. Certain states also have laws that require testing. West Virginia requires water well testing within a 1,000-foot radius of a gas well before drilling commences. Chesapeake Energy offers free water testing to anyone within a 2,500-foot radius of a proposed well site.

Don't worry, there's more

The water issue does not end there. When the fracking solution flows back up from the well, it is ultra-salty and can contain significant amounts of hazardous material. The water can be recycled and used again as fracking solution, injected into storage containers deep in the earth, taken to a wastewater treatment facility, or sold as de-icer to be spread over America's roadways come wintertime. It's estimated that 65% of fracking solution was recycled in Pennsylvania this year. That's a great number, up significantly from the past, but 50 million gallons went unaccounted for, so there is still work to be done.

Foolish bottom line

Some U.S. states have introduced a ban on drilling new wells until the EPA concludes once and for all how bad fracking really is. The environmental concerns are real, but they can often be overblown by the media just as the gas companies can exaggerate how safe the process is. The best bet for an investor serious about the industry is to read extensively from a variety of sources and ultimately make his or her own decision about investing. 

Tune in next week for the final primer, "Natural Gas 301" for insight on financial metrics and risks important to investing in natural gas companies.

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Comments

The opinions expressed here are those of the individual writers and are not representative of The Motley Fool. If you spot any comments that are unsuitable hit the flag to alert our moderators.

LiverpoolDelta 25 Oct 2011 , 9:02pm

This has nothing to do with making money. Basically there's loads of gas and they're finding more and more every day, there's no moat around any of these companies.

Small profits to be had by all until it starts to run out in 5011.

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