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Continental Shift: BP Is Latest Gas Player
Deal in Oklahoma
Signals the Return
To Interior Sources
By BEN CASSELMAN and RUSSELL GOLD
July 18, 2008

Oil giant BP PLC will pay $1.75 billion for natural-gas assets in Oklahoma, placing a big bet on North America's booming unconventional gas fields.

The deal with Oklahoma City-based Chesapeake Energy Corp. is the latest sign of a major shift in Big Oil's strategy. For years, the largest oil companies have all but ignored the continental U.S. in favor of huge oilfields overseas and offshore. Now, facing declining production, shrinking reserves and increasing political challenges, the companies are coming back.

They're returning to a rapidly changing North American energy scene. In recent years, smaller independent companies including Chesapeake have learned how to produce gas from unconventional reservoirs -- tightly packed sands, coal beds or dense rocks called shales -- that were long considered too difficult or too expensive to produce. That's led to a drilling boom in Texas, Colorado, Pennsylvania and elsewhere, spurred in part by soaring energy prices.

Global companies such as BP had largely remained on the sidelines, shunning the fields because they require hundreds of small wells managed by large numbers of employees. In years past, they'd sold most of their U.S. assets, arguing it was a mature region that didn't offer adequate returns.

Now that's changing as they face harsh political treatment in energy-rich nations and are losing access to the world's best remaining reserves.

BP's dive into unconventional U.S. gas is "a seminal event," said Ralph Eads, chairman of Jefferies Randall & Dewey, the energy investment banking arm of Jefferies & Co.

Like most big oil companies, BP has struggled recently to replace aging fields and grow its production. Its oil and gas production was down 2.8% in 2007 from a year earlier.

In Thursday's deal, the company is buying 90,000 acres of natural-gas leases, believed to contain two trillion cubic feet of gas, the equivalent of more than 350 million barrels of oil. Chesapeake produces about 50 million cubic feet per day production on the Oklahoma property.

BP's announcement comes three days after rival Royal Dutch Shell PLC announced a C$5.9 billion (about $6 billion) takeover bid for Canadian natural-gas producer Duvernay Oil Corp. Shell also has partnered with EnCana Corp. to enter what has become the hottest new unconventional play, the Haynesville Shale in east Texas and Louisiana.

In April, Exxon bought an interest in an unconventional gas field in Hungary and has plans for gas wells in Germany also. ConocoPhillips jumped ahead of the trend in 2005 when it purchased Texas-based gas-producer Burlington Resources Inc. for $35 billion.

Unconventional oil and gas fields offer significant advantages. Not only are they in politically stable areas, they offer relatively little risk. Because each well is much like another, costs can actually go down over time, a sharp contrast to the rapidly rising costs of wells overseas.

"I think they're blown away with what the end results are," said Jefferies & Co. analyst Subash Chandra. "The resource grows over time and the costs go down."

The numbers are huge. The first major shale field to be produced, the Barnett Shale near Fort Worth, Texas, is estimated to contain 50 trillion cubic feet of gas, the equivalent of nearly nine billion barrels of oil -- about as much as the recently discovered giant Tupi field off the coast of Brazil. Chesapeake estimates that the Haynesville field could hold five times that, and other major shale fields have been found in Arkansas, Pennsylvania and British Columbia.

Chesapeake Chief Executive Aubrey McClendon said the deal with BP should highlight the importance of such fields.

"What the market should pay attention to is that a company like us has assets that have appeal to the biggest companies in the world," Mr. McClendon said.

Thursday's deal likely won't be the last of its kind. Big oil is suddenly realizing "this wild shale mania is for real," says Art Smith, president of Triple Double Advisors LLC, a Houston-based energy investment manager.

He predicts there will be more deals as the global companies seek to build production in the stability of North America. "I absolutely see more deals coming," he said. "We've long thought they were going to regret their decision to ignore North America."

The deals highlight how attractive operating in the U.S. and other politically stable countries have become as western oil companies find themselves increasingly boxed in by foreign governments emboldened by high oil prices.

These companies have full or partial access to only 13% of the world's oil and gas reserves, according to consultant PFC Energy, down from 19% of global reserves a decade ago and 85% in 1970.

BP made a large bet several years ago in Russia, setting up a joint venture called TNK-BP Ltd. But it's now in a dogfight with the Kremlin, which western officials accuse of harassing the company with police raids, audits and immigration hassles in an attempt to drive BP out.

Last year, Venezuela required oil companies to cede control of their interests there, forcing Exxon Mobil Corp. and ConocoPhillips to exit the country.

"The world has been getting much smaller to them for some time," said Jefferies' Mr. Chandra.