Lee Tillman, chief executive officer of Marathon Oil Corp., told investors last month that the company was potentially sitting on the equivalent of 4.3 billion barrels in its U.S. shale acreage.
That number was 5.5 times higher than the proved reserves Marathon reported to federal regulators.
Such discrepancies are rife in the U.S. shale industry. Drillers use bigger forecasts to sell the hydraulic fracturing boom to investors and to persuade lawmakers to lift the 39-year- old ban on crude exports. Sixty-two of 73 U.S. shale drillers reported one estimate in mandatory filings with the Securities and Exchange Commission while citing higher potential figures to the public, according to data compiled by Bloomberg. Pioneer Natural Resources Co.’s estimate was 13 times higher. Goodrich Petroleum Corp.’s was 19 times. For Rice Energy Inc., it was almost 27-fold.
“They’re running a great risk of litigation when they don’t end up producing anything like that,” said John Lee, a University of Houston petroleum engineering professor who helped write the SEC rules and has taught reserves evaluation to a generation of engineers. “If I were an ambulance-chasing lawyer, I’d get into this.”
Experienced investors know the difference between the two numbers, Scott Sheffield, chairman and CEO of Irving, Texas- based Pioneer, said in an interview.
“Shareholders understand,” Sheffield said. “We’re owned 95 percent by institutions. Now the American public is going into the mutual funds, so they’re trusting what those institutions are doing in their homework.”
Mutual Funds
Investors poured $16.3 billion in the first seven months of the year into mutual funds and exchange-traded funds focused on energy companies, including drillers that create fractures in rocks by injecting fluid into cracks to enable more oil and gas to flow out of the formation. That’s almost twice as much as in the same period last year, bringing total assets to $128.2 billion, according to New York-based Strategic Insight.
U.S. oil production surged to a 28-year high in 2014, bolstering the companies’ sales pitch and contributing to a 20 percent drop in American oil prices since the end of June. U.S. output is expected to grow 12 percent next year, to the highest level since 1970, according to the Energy Information Administration of the U.S. Department of Energy. At the same time, U.S. consumption will shrink 0.2 percent this year, the EIA said.
Annual Accounting
Marathon’s Tillman, who was speaking at the Barclays Plc CEO Energy-Power Conference in New York on Sept. 3, said there are “risk and uncertainties that could cause actual results to differ materially from those expressed or implied by” his comments. Many company presentations remind investors that publicly announced estimates are more speculative than the numbers the drillers file with the SEC.
Figures the company executives cite during presentations “are used in the capital allocation process, and are a standard tool the investment community understands and relies on in assessing a company’s performance and value,” said Lisa Singhania, a Marathon spokeswoman. The Houston-based company’s shares have risen 1.6 percent in the last year.
The SEC requires drillers to provide an annual accounting of how much oil and gas their properties will produce, a measurement called proved reserves, and company executives must certify that the reports are accurate.
Resource Potential
No such rules apply to appraisals that drillers pitch to the public, sometimes called resource potential. In public presentations, unregulated estimates included wells that would lose money, prospects that have never been drilled, acreage that won’t be tapped for decades and projects whose likelihood of success is less than 10 percent, according to data compiled by Bloomberg. The result is a case for U.S. energy self-sufficiency that’s based more on hope than fact.
Judy Burns, a spokeswoman for the SEC, declined to comment on what drillers say during investor presentations.
A Rice Energy spokeswoman declined to comment on the difference between the numbers. A spokesman for Houston-based Goodrich Petroleum didn’t return calls and e-mails seeking a comment on the subject.
Predicting how much oil can be pumped out of shale has been controversial since the boom began about a decade ago. Companies combined horizontal drilling with fracking, or hydraulic fracturing. Fracking involves blasting water, sand and chemicals into deep underground layers of shale rock to free hydrocarbons.
Reasonable Certainty
Innovators such as Oklahoma City-based Chesapeake Energy Corp. said that drilling vast expanses of oil-soaked rock formations is more predictable than the traditional, straight- down method of exploration. Regulators agreed and requirements were loosened starting in 2010.
A spokesman for Chesapeake Energy declined to comment on the rules for proved reserves.
To count as proved reserves to the SEC, companies must have “reasonable certainty” that the oil and gas will be extracted from existing wells and those scheduled to be drilled within five years. The forecasts are based on fuel prices, geology, engineering and the performance of nearby wells. Planned wells must be economically and technically viable.
For Harold Hamm, the billionaire founder, chairman and CEO of Oklahoma City-based Continental Resources Inc., the five-year rule is too constraining. It will take longer than that to extract a lot of his company’s petroleum, and he should be able to cite those resources in regulatory filings, he told the Senate Energy and Natural Resources Committee on Jan. 30.
“Those numbers are totally pessimistic,” Hamm said about proved reserves. Continental shares have risen 8.3 percent in the last year.
Lobbied SEC
Energy companies also lobbied the SEC to let them file more speculative estimates, known as probable reserves and possible reserves. Only three companies take that option, according to data compiled by Bloomberg. The rest report only proved reserves to the SEC and save their other estimates for public presentations, which the SEC doesn’t supervise.
The data include year-end 2013 SEC filings, the latest available, compared with 2014 marketing materials, press releases, company websites and executives’ speeches for the 73 shale drillers. The presentations rarely explain how the drillers calculated the figures. The numbers sometimes change from one presentation to the next.
Total Estimate
Many of the companies use their own variation of resource potential, often with little explanation of what the number includes, how long it will take to drill or how much it will cost. The average estimate of resource potential was 6.6 times higher than the proved reserves reported to the SEC, the data compiled by Bloomberg News show.
Several companies, including Sanchez Energy Corp., don’t provide a total estimate. Instead, they publish variables such as the number of well locations and the estimated output from each one. Analysts often use these figures to independently compute the total.
Even though Sanchez Energy provides the variables for analysts to calculate its resource potential, the Houston-based company doesn’t publish a total estimate. Executives debated whether to include one and decided against it, said Gleeson Van Riet, senior vice president for capital markets and investor relations.
‘Garbage Out’
“We don’t think that a lot of the guesstimates that go behind those sorts of things will ultimately be constructive to investors,” Van Riet said. “Put another way, garbage in, garbage out.”
Denver-based Cimarex Energy Co. is one company that doesn’t report a different number to investors than it does to the SEC. “We want to have things on the books that are part of our near- term drilling plans,” Karen Acierno, a Cimarex spokeswoman, said in an interview. “A lot of people appreciate our conservative nature, a lot of investors.” Cimarex shares are up 19 percent in the past year.
The investor presentation by Canonsburg, Pennsylvania-based Rice Energy shows 2.7 billion barrels. Rice, which went public in January, reported 100 million barrels to the SEC in March, records show.
At Pioneer Natural Resources, the number they cite to potential investors has increased by 2 billion barrels a year in each of the last five years -- even as the proved reserves it files with the SEC have declined.
The rising number is “a game changer for this company,” said Sheffield, the CEO. “It’s a game changer for this country.”
‘Great Resource’
Pioneer’s numbers aren’t misleading; they’re conservative, Sheffield said. He said he’s shared them with Senators Mary Landrieu of Louisiana and Lisa Murkowski of Alaska, the Democratic chair and Republican ranking member, respectively, of the Senate energy committee.
“Obviously it’s helped us in regard to making headway on convincing people to lift the export ban,” Sheffield said. “We want to convince them that we have this great resource. We don’t want it trapped here in the U.S. That’s for the public, the administration and Congress. So if we’ve got this great resource, why don’t you allow us to export it?”
The message is getting through. While Landrieu said she favors more study, Murkowski said she supports ending the ban.
A loosening of trade restrictions imposed after the 1973 Arab oil embargo would be worth billions to drillers such as Pioneer, Marathon and Continental because the price of oil on the international market in the past year has averaged 8.5 percent more than in the U.S.
Bakken Shale
“If you don’t allow the exports of this oil, they’re going to reinvest someplace else where they can market this oil,” Senator Heidi Heitkamp, a North Dakota Democrat, told CNBC Sept. 15. “And so it’s going to reduce the development and the dollars coming in.”
Joining her that morning was John Hess, the billionaire CEO of New York-based Hess Corp., who said, “We’re in a period of supply strength.”
Hess’s company told the SEC it had the equivalent of 659 million barrels of proved reserves in the U.S. The latest investor presentation said the company had 1.2 billion barrels just in the Bakken shale, in Heitkamp’s home state. Hess shares have increased 7.9 percent in the last year. A Hess spokesman didn’t return calls seeking comment.
Lee, the University of Houston professor, said in an interview that he’s alarmed by the inconsistent and overly optimistic estimates published by shale companies.
Shale Engineers
In August, Lee led a workshop in Houston on the best practices of reserves estimation. The audience in the ballroom of the Hotel Derek included engineers for shale drillers such as Marathon, Continental and Rice.
Pamela Allen, a senior reserves coordinator for Marathon, raised her hand and told Lee that she was worried that using outsized forecasts in public presentations would run afoul of the SEC and “come back to haunt us.”
Singhania, the Marathon spokeswoman, said she was unable to comment on Allen’s remarks without seeing a transcript.
“If a lot of people get burned -- and I think a lot of people can and will be burned -- by these numbers in the investor presentations, there may be a push by investors to get the SEC to do something about it,” Lee said during the workshop.
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