Shale gas: A Ponzi scheme?

BHP Billiton Limited (ASX: BHP) is expected to write-down the value of its US shale gas assets within the next couple of weeks, due to lower gas prices and following two other companies writing down their assets. Canadian company, Encana Corporation wrote down the value of its shale gas assets by more than US$1.7 billion and  UK based BG Group wrote down the value of its US shale gas assets by US$1.3 billion. Falling gas prices due to an oversupply of shale gas are being blamed for the write-downs. BHP spent $20 billion to acquire Petrohawk Energy for US$15 billion in 2011, and assets from Chesapeake Energy for US$5 billion earlier.

Under accounting rules, the book value of acquisitions must be determined within 18 months of the acquisition.

The NY Times has quoted an IHS Drilling Data official as saying that shale gas could be a giant “Ponzi scheme”. In an email obtained by the paper, a Chesapeake Energy executive suggested the assets sold to BHP were amongst the most difficult shales in the country to extract gas out of, and contained much less gas than expected.  If true, BHP may have been hoodwinked out of US$5 billion.

Shale gas was unobtainable until advances were made in hydraulic fracturing or ‘fracking’. The advances prompted a drilling frenzy in the US, as it offered the potential for America to reduce its reliance on foreign energy.

According to a report released by the US Energy Information Administration (EIA), shale gas is expected to represent 49% of natural gas produced by 2035, up from 23% in 2010. The report also suggested that gas prices are expected to remain low for more than a decade. EIA officials have also expressed concerns about the economic realities of shale gas production, and described irrational exuberance in the market, mass land purchases, and millions spent of exploration and drilling wells, which could lead to the downfall in some shale gas companies.

The issue of shale gas has major implications for the US and other Australian companies. Should shale gas turn out to be the ‘real deal’, the US is likely to stay a low energy cost country  for years to come, and could become an exporter of gas. That could become an issue for Australia’s other gas companies such as Woodside Petroleum (ASX: WPL) , Santos Limited (ASX: STO), Oil Search Limited (ASX: OSH) and Origin Energy (ASX: ORG) as they may need to compete with US exporters to sell their gas in future.

The Foolish bottom line

Should shale gas turn out to be a “Ponzi scheme”, prices are likely to rise, and the US will need to import more energy than it current expects. Such a situation would be good news for  companies with little exposure to US shale gas. Higher gas prices and potentially a new export market would be good for their businesses – but it could be very bad news for BHP, with the company likely forced into more write downs.

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Motley Fool writer/analyst Mike King owns shares in BHP. The Motley Fool‘s purpose is to help the world invest, better. Take Stock is The Motley Fool’s free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. Click here now to request your free subscription, whilst it’s still available. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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