May 20, 2012
Understanding The Option Value Of Eagle Ford Oil Window Acreage: Why Leaseholds Are Worth Over $100,000 Per Acre
Oil company leaseholds create instant value. By way of example, in the Eagle Ford Shale Chesapeake Energy was a late leasing entrant with their first leases acquired in November of 2009 and reached 300,000 net acres by March 2010, and later reached 625,000 net acres by October 2010 having invested $1.4 billion in leaseholds. Chesapeake later sold 200,000 net acres for $2.2 billion, leaving 425,000 net acres and 2.3 billion Boe possible to Chesapeake at a negative cost of $800 million. By obtaining cheap leasehold interest it created $7-10 billion.
Leasing (in fact a lease is a sale) is simply a very cheap way for oil companies to buy oil options for future production. Leasehold investments are no longer risky in the traditional sense as conventional oil and gas drilling were in the past. Today, shale oil and gas represent a very cheap option on a know resource. Using Chesapeake Energy provided disclosure, at $2,200 per acre (CHK cost), a Chesapeake Energy Eagle Ford acre overlays a minimum 5,000 bbls of recoverable oil. That's an option cost of =$.40/barrel plus $15.00 to develop it. Meanwhile, a financial option on oil (a call) sells for =$20.00/bbl (at strip prices covering 2015-18). McClendon asks 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 pay $.40/bbl and a $15/bbl "strike" price for an all-in cost of $15.40/bbl?
Chesapeake Energy brags their developments costs is $10-15/bbl which is effectively the strike price of this option
The CEO of Chesapeake Energy Aubrey McClendon famously asked the question "where else in the world, in any industry, cay you buy an asset for $1-1.5 billion and have it become worth >$5 billion within one year? Nowhere!" In no other industry are sheep led so willingly to the slaughter. Hydraulic fracturing along with a plethora of other new drilling and completion technology has changed the face of the oil and gas industry.
The Estimated Ultimate Recovery of all Eagle Ford Shale wells continues to go up substantially through down spacing, making it impossible to predict with any certainty how much above $100,000 per acre we will see. One thing is certain though, we are very early in the game and recovery factors are being improved by leaps and bounds.
From Aubrey McClendon's mouth to your ears: