Friday, November 19, 2010

Eagle Ford: The Only Thing Proprietary Is The Land

I recently listened to the flamboyant co-founder and CEO of Chesapeake Energy, Aubrey McClendon, say to a group of investors that when it comes to shale plays, that the only thing that is proprietary is the land. He went on to explain how valuable the 625,000 net acres of Eagle Ford leaseholds that Chesapeake owns is. He compared it to owning the physical oil in place in the ground. That got me to thinking, that it surely follows that all of us who own land not yet leased in the Eagle Ford are in the identical position as McClendon and his leasehold.  In it's simplest terms, we own acreage that sits on top of a huge reservoir of billions of barrels of proved crude oil. The word "proved" has great significance as it relates to oil in place under the land. By being proved acreage, big oil companies are allowed to tell their investors what their estimated ultimate recovery will be. Big oil almost always understates the actual EUR so as to avoid any potential future stockholder lawsuits. All the operators have booked the crude oil underlying their Eagle Ford leaseholds as being recoverable crude oil assets in place.

McClendon spent a lot of money putting together his 625,000 acres of leasehold and some financial gurus were questioning that large expense. In answering that question, McClendon went into great detail explaining to investors how they should look at the Eagle Ford oil under the ground in Chesapeake leaseholds. He compared it to owning a financial option on oil, a "call", that sells for $20/bbl at strip prices covering the years 2015-2018. He then goes on to ask his investors if it is smarter to buy a call option on a barrel of oil at $20 bbl where the strike price = $90/ bbl for an all-in cost of $110/bbl or is it smarter to do as he has done and pay .40 cents/bbl and $15.00/bbl "strike" price for an all-in cost of $15.40 bbl? Now let me explain what McClendon is asking here. McClendon poses the question, that by him knowing that there is at a minimum of 5,000 barrels of crude oil under each acre of leasehold land he has bought, for an average price of $0.40 per barrel, if that is not more lucrative than than buying a call option? McClendon states that the average cost to produce a barrel of oil in the Eagle Ford is $15.00 per barrel, and when added to the $0.40 per barrel cost for the land, comes to a grand total cost to him of $15.40 per barrel of crude oil. If you tried to do that in the futures market by buying a call option for future delivery of crude oil it would cost you on the order of $110.00 per barrel. This is simple arithmetic, therefore would you choose McClendon's cost factor of $15.40 per barrel of oil or buy a piece of paper for future delivery at $110.00 per barrel? As you can readily see, that's a whopping $95 per barrel better deal by buying the Eagle Ford leases. McClendon goes on to ask and answer his own question, "Where else can you earn a return like that? Nowhere!" Aubrey McClendon makes my point so eloquently and simplifies the way to look at leases in the Eagle Ford in such a way that I am struck dumb at trying to do better.

The Eagle Ford is no longer the least bit speculative, there are absolutely no dry holes, there is no finding cost, it is proved reserves. Each Eagle Ford oil window acre overlays a minimum of at least 5,000 barrels of crude oil per acre, in the "Goldilocks" zone perhaps even greater than 15,000 barrels of oil with operator stated EURs going up almost monthly. On my small 70 acres, that means there is at least 350,000 bbl of oil and probably more on the order of like 1.05 million barrels of oil. Another way to look at it is what that oil would be worth out of the ground today. At today's price of $82 per barrel, where NYMEX crude oil is trading on November 19, 2010, there is between $28.7 million and $86 million worth of recoverable oil from my 70 acres. The only way to determine what is fair and equitable for landowners and operators alike is through honest negotiations. To date, not a single operator has come to me with a fair offer and I steadfastly refuse to sign a lease that is patently unfair. The take-it-or-leave-it operator attidude is akin to a bully.

As McClendon fairly states, there is a average cost right now to operators of $15 per barrel to develop and produce a Eagle Ford well. That means that after subtracting the cost to drill, frac, transport and market the crude oil contained in the reservoir below my land, there is a profit of $76 per net flowing barrel of crude oil. The question is how much of that profit should go to the operator and how much should go to me the landowner. There is absolutely nothing, nada, zip, that is proprietary about drilling, fracing and producing a well from the unconventional rock in the Eagle Ford. As a matter of fact, the only thing proprietary about anything in the Eagle Ford is who owns the land. Well, I own 70 acres of Eagle Ford land and I demand fair treatment and the recognition that I own a valuable asset. I am not being unreasonable today, nor have I ever made any unreasonable demands from operators. Today, a $30,000 per acre lease bonus with a 30% royalty would be modest when compared to the great treasure that lay under the land. That's not an offer. When you know for a fact that the land holds at least $28.7 million worth of crude and perhaps $85 million worth of crude, it would make for a good starting point. 

So, if an operator doesn't own the land, he looks to how he can either obtain the land, or failing that, how he can exercise control over the land through the regulators at the Texas Railroad Commission so as to prevent others from developing the land. With their clever army of lawyers, operators often get the RRC to enact field rules whereby landowners can't develop their own land or they make it uneconomic to do so. There are storm clouds on the horizon that operators are going to be asking the Texas Legislature to take away landowner rights in the next legislative session by changing the law to require forced unitization and pooling. This naked aggression by operators on landowner rights will be promoted under the false flag of orderly development. I have heard, but not seen, a lot of talk about the government coming for our guns, but I have never seen any evidence of that. Unlike the threat to take away our guns, the threat that the Texas Legislature will take away our landowner rights is very real and the battle will most probably be waged during the next legislative session. Hopefully, we will be able to convince our legislators that property rights are sacred. Now is the time to contact your state representative and state senator to let them know you are against big oil taking landowner rights.


  1. You have the best blog on the web about the Eagle Ford

  2. You demystify and clarify the complicated and arcane, with a easy to understand method of establishing a well thought out measurable way of establishing value for lease acreage.

  3. Sic semper tyrannis!

  4. You make the complex nature of assigning value to land in the Eagle Ford easy. I use your method when talking to landman and they don't have a come back. Brilliant reasoning. You have inspired me and you have made me a worthy negotiator.

  5. This article is a very clever way to get people to understand how much money is at stake. Have you awaken with a horse head in your bed lately?