Is The Shale Gas Boom A Second Gold Rush?

Pierre is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

It's been the talk of the town in 2012. Unless you've been living in a bubble or hiding in a Tibetan monastery (and even there I'm sure the monks have Wi-Fi) you must have heard about it. No, I'm not talking about the Gangnam Style video or about Clint Eastwood discussing Medicare with a chair. I'm talking about the shale gas boom in the United States, the so-called "horizontal hydrofracking revolution" that has got everyone so excited that even Nancy Pelosi's face moved when she talked about it.

You've probably heard it by now: how technological improvement in hydraulic fracturing allows the US to tap into the world's second greatest shale gas reserves (after China). How America is now 75% energy independent.  How it will become a net natural gas exporter by 2016 and totally energy self-sufficient by 2035, thereby ending its addictive relationship with foreign oil, OPEC, the Middle East and all the geopolitical dangers that come with it. America's shale gas production has been going through the roof and everybody is jumping on the bandwagon. As for the jobs created, the numbers are remarkable: only 10,000 people were employed in the shale gas industry in 2005. Now the number has reached 600,000 and is growing. According to energy consulting firm IHS Global Insight, about 900,000 new jobs directly related to shale gas development will be added to the US economy by 2015. Considering all this is happening during the most significant economic downturn since World War 2, this is stunning. Some have even gone as far as to label the hydrofracking breakthrough the "new Internet revolution." Even Michael Economides, the editor in chief of the Energy Tribune and considered one of the world's greatest energy experts, has called the shale gas boom: the «most important story in America's energy mix over the last 40 years ». And he knows his stuff.

"Cui bono" from this?

Well, not everybody, but almost. Industries that will lower their costs by supplying themselves with cheaper energy -natgas instead of oil- will gain from this. These could be chemical companies, such as Dow Chemical, fertilizer companies, manufacturing companies, auto companies. Also water treatment companies and cement companies that provide the materials used in hydraulic fracturing. But no one will benefit as much as the energy industry.

Enter the sharks

The biggest fishes in the energy pond are now moving in. Yes, I'm talking about ExxonMobil (NYSE: XOM) and Chevron (NYSE: CVX). And as always with them, they mean business. 

  • ExxonMobil

After its disastrous Valdez oil spill in 1989, Exxon has turned its image around and reinvented itself as the most environmentally aware and safest oil company out there. This is a crucial advantage when it comes to shale gas production because it's no secret that hydrofracking is a touchy subject for environmentalists. Exxon realizes better than any other E&P company that serious ecological issues could eventually get US authorities to halt production. Companies that adhere to strict environmental concerns and are technologically innovative will be the main beneficiaries from the shale gas boom because they will be able to prosper from this new source of revenue without having to worry about the EPA tapping on their shoulders. When its interest over hydrofracking started, one of the first things ExxonMobil did was to use increased amounts of recycled water that reduces the burden on local water infrastructure. Hydrofracking drilling technique needs a lot of fresh water and this is raising many concerns among local communities. Exxon is taking them seriously and is working on laying pipelines where economically and ecologically feasible in order to reduce the need to store fresh water and minimize truck traffic. 

The other comparative advantage of a huge company like ExxonMobil is that it has enough capital to make the necessary infrastructure investments to enter the shale gas game in a major way. In 2010 it acquired XTO Energy Inc. (XTO) in a merger operation that aimed at combining both companies’ strengths in order to further discover growing natural gas potential in the US. In my view Exxon overpaid for XTO, but with time it should pay off because it's part of a long-term strategic move to dollar cost average in effect of the purchase. The plan is to progressively weed out the weaker competitors, control domestic energy resources, and make it much harder for smaller independent companies to gain access to these resources on terms as attractive as were possible in the past. A classic bigger-fish-eats-smaller-fish situation. Giant corporations can bring unique technological acumen to complicated projects that always gives them an advantage in this type of environment that is very capital intensive to begin with. And no companies are better positioned in this regard than ExxonMobil and Chevron.

  • Chevron

Chevron doesn't want to be left behind. The second-biggest E&P company is a new player in the shale gas business, but it is thinking big and expanding fast its shale gas acreage by purchasing land in Pennsylvania, Canada, and Eastern Europe. Chevron is now the largest leaseholder in Pennsylvania with more than 700,000 net acres of leases in the Marcellus Shale which alone provides 850 billion cubic feet of proven natural gas reserves, enough to supply 100% of US natural gas needs at the present level for about 7 months. Additional acreage in Michigan is currently being evaluated. Last December Chevron bought a 50% stake in the Kitimat export project in British Columbia and is now the only bidder in a tender for shale gas exploration rights in Lithuania. The company has also drilled two wells in Poland and is preparing for a third. This is important because Poland and the Baltic Region are believed to have the largest shale gas reserves in Europe along with the UK. As long as the EU doesn't ban hydraulic fracking on ecological grounds (something that is under discussion but that only France and Bulgaria have done so far) there is a great future for big American energy corporations to use their technology know-how to their advantage in this area.

Everyone wants a piece of the action

In less than 5 years, 40,000 wells have been drilled in Texas, Pennsylvania, Oklahoma and North Dakota. Shale gas now represents 34% of America's natural gas production. In 2005 it was less than 2%! There has never been any other energy source in history that increased its market share from essentially zero to more than 30% in only seven years. And that number is expected to grow to 60% in 2035, contributing $230 billion to the annual US gross domestic product and turning the US into the world's largest gas producer.

The shale gas revolution could turn out to be a successful example of trickle-down economics by creating a lot of activity in the service industry. Drillers will need new softwares, lawyers, mining rights specialists and so forth. But most of all, it is about to give the US a major competitive advantage: cheap energy. To benefit from this lucky break, American companies are converting major parts of their coal-power plants into natural gas power plants. From Chicago to San Diego, US companies are now saving $400 million dollars every day on their electricity bills. That amounts to a 10% reduction of their production costs, a huge comparative advantage over Europe and Asia. According to the Boston Consulting Group in 2015 production costs differences between America and China could be virtually zero in many sectors! IT firms that make most of their sales revenues in the US will therefore be able to bring back 30% of their production into American soil before 2020. General Electric has just brought back to Kentucky part of their Chinese production of water-heaters. And Caterpillar cancelled in 2012 the construction of a new factory in China to build it in Georgia instead.

It seems hydrofracking could give Uncle Sam his manufacturing revenge over China sooner than expected...


PierreDV has no position in any stocks mentioned. The Motley Fool recommends Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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