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Economics of Shale Gas

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Karol Mazur's picture
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  • Oct 6, 2012

Since 2007, when vast amounts of shale gas in the United States have been tapped, US natural gas production has significantly grown by 20% causing sharp fall in Henry Hub's natural gas spot price. Consequently, this turned industry's attention to profitability of shale gas extraction. In the middle of this September spot gas in the USA was trading at levels of up to 3.00 USD per MMBtu which may still not be the level equalizing market price with individual producers' marginal costs. Although it may seem that April lows, when gas traded below USD 2.00, are unlikely to come back again soon, one may ask oneself where did push for this price hike come from? Also, could this movement continue over the foreseeable future? To some extent this question may be answered by looking at costs faced by a representative shale gas E&P company and at what price does it breakeven.

Cost Structure

Typical company aiming at production of shale gas faces cost structure as depicted in Figure 1 (time unit is year). At the beginning there are significant Finding & Development (F&D) costs to be incurred1. According to (2011) report published by 3Legs Resources, costs associated with development of shale formations are ranging between USD 2-3 m and may be significantly higher than these of conventional reservoirs -- it is mostly due to extensive use of horizontal drilling and hydraulic fracturing. Production begins alongside build-up phase. In particular, production from shale gas reservoirs builds up at a much faster pace, reaches higher level than in case of conventional reservoirs2 and eventually leads to higher cumulative production. Consequently, higher F&D costs are usually offset on gas-produced basis with e.g. high quality Barnett vertical well's F&D cost at USD 1.71 per Mcfe as opposed to horizontal well's USD 1.06 -- 1.34 per Mcfe (Hayden & Pursell, 2005). However, the exact F&D costs may vary significantly and obviously depend to a large extent on amount and flow-rate of gas produced. Furthermore, consultancy SAIC expects F&D costs to decline within five to ten years and reach stable low real rate of cost escalation.

After build-up phase, production from a field reaches plateau which can be considerably shorter in case of production from shale formations. Notably, horizontal wells often have to undergo costly re-fracturing in order to maintain plateau.

Importantly, as gas production from shale's occurs earlier than from conventional formations, and therefore revenue is incurred earlier too, discounted value of profits could be potentially higher.

However, while discussing economics of gas production one should not forget about the so called decline rate defined as below with Q standing for production rate at time t:

Decline rate is of particular importance in case of single well -- it presents production decline due to pressure decrease from gas well. As has been shown below, shale gas wells' production decline tends to be much higher than that of vertical wells. In terms of production against time we talk of decline curve. Although there are some projections of the latter, exact projection of production profile is difficult due to lack of long-term history data and is possible only in case of oldest shale gas plays such as Barnett.

According to engineering consultancy Fekete (2011), equation for decline is given by:

Where D(t) is the decline rate at flow rate Q at time t.

As it has been picturesquely described by John Dizard (2010) of Financial Times, some engineers involved in production of shale gas use in their production projections hyperbolic decline and some others -- exponential decline.

The difference in curvature turns out to be crucial and comes down to "b exponent". According to Dizard, with "b" in range of 0 and 1 production decline curve resembles more exponential curve, and with "b" higher than one -- hyperbolic. If production decline is modeled using hyperbolic curve, production flattens earlier than in case of exponential curve and thus leads to higher Estimated Ultimate Recovery (EUR) and longer well life which in consequence increases project's profitability. For a better picture of these logics, look at Figure 2 presented in 2006 at University of California Santa Barbara by Chris McGill.

In their thorough analysis of shale gas economics, Berman & Pittinger (2011) looked carefully at more than 1000 horizontal wells in each: Barnett, Fayetteville and Haynesville Shales. Their estimation of average "b exponent" was 0.66, 0.56 and 0.25 (accordingly) indicating that production decline curve is closer to exponential than to hyperbolic as most operators would like it to be. Furthermore, authors estimated EUR per well at approx. 50% lower than what is typically claimed by operators. It may be ascribed to operators attaching these numbers only to their sweet spot production areas while Berman & Pittinger (2011) analyzed wells in all locations.

Each gas well or field, sooner or later, is abandoned after reaching its economic limit meaning that gas flow's rate is too low in order to allow for economical production. At the same time shale gas well/field operator may incur additional clean-up costs if the property has been devalued during gas production operations for example due to visual impact or contamination.

Breakeven Price of Shale Gas Production

Thanks to on-going technology advancements of horizontal drilling and hydraulic fracturing, production of natural gas from shale formations has become more cost-effective leading to lower breakeven price. In this paragraph, if not mentioned explicitly, estimates concern only natural gas production with no associated production of NGLs which are significantly improving wells' economics.

Berman & Pittinger have done a conservative analysis of shale gas economics in three basins: Barnett, Fayetteville and Haynesville. Their results and assumptions used for calculations can be seen in Figure 3.

The study estimated gas price at which an average shale gas producing company breaks even in its overall operation areas and in sweet spot areas (where EUR is higher) in two scenarios: (1) full financial burden including land acquisition (i.e. `Full Cycle'), and (2) limited including only drilling, well completion and operating costs. As far as it concerns land costs, they vary considerably between different operators and depend on whether the company was early or late in entering the play. Finally, authors of the study claim that gas spot price has to be in range of approx. USD 4.20 -- 8.75 per MMBtu (depending on place of production) in order to allow for profitable or at least non-loss generating production, well above current level of prices in the US market.

It has to be remembered that results of Berman & Pittinger's analysis present averages for whole basins and are based on rather conservative approach. On an individual company basis breakeven gas price are often lower in case of well managed companies with high quality assets -- this can be derived from Figure 4 below presenting comparison of different North American companies from gas industry. Importantly, it does not directly apply to shale gas since this comparison takes into consideration all assets: both conventional and unconventional gas wells.

On the other hand, in its special report (2012) IHS believes that only one third of 3,300 tcf of resource in North America may be produced profitably at price of USD 4.00 or less.

Nevertheless, several industry senior managers seem to confirm picture presented above:


  • During discussion of Q1 2012 financial results, James Tisch, Loews' CEO, said that natural gas at USD 4.50 per MMBtu is "still a veritable bargain".


  • In April 2010 John Watson, Chevron's CEO, said that production of shale gas at USD 4.00 is not profitable at all.


  • Devon Energy's CEO, John Richels, said that in order to sustain drilling activity gas prices would have to be between USD 6.00 -- 7.00.


However, it has to be remembered that costs of production may go down as learning curve of shale gas technology goes up. In particular, the best shale plays may produce profitably at prices in range from USD 2 to 3 per thousand cubic feet of gas, which is according to John Deutch around one-half to one-third the production cost associated with new conventional gas wells in North America. This has also been confirmed in some respectable studies by (1) Rice University's researchers (2011) saying that "breakeven prices for some of the more prolific shales are estimated to be as low as USD 3.00, with a large majority of the resource accessible at below USD 6.00"; and (2) by IHS Global Insight (2011) which estimates that ,the full-cycle cost of shale gas produced from wells in 2011 is 40-50% less than the cost of gas from conventional wells drilled in 2011".

Finally, one should not forget about natural gas liquids associated with unconventional gas production. As can be derived from Figure 5, price of a barrel of NGLs mix (consisting in 36.5% of ethane, 31.8% butane, 14.3% natural gasoline, 11.2% normal butane and 6.2% iso-butane) is positively correlated with price of oil. Since the latter has recently been at rather high levels, economics of shale gas production were significantly improved by production of NGLs. However, as companies drilled more and more for lucrative liquids, their price in recent months has also been depressed (best seen in Figure 6).


As can be seen from the above, unless associated with production of other liquids, current production of shale gas in the United States of America is far below its breakeven. Consequently, this fact has triggered rapid decline in drilling activity (lasting until today) and thus lowered natural gas production. This is where the recent price increase in large part stems from. However, this should be not solely ascribed to supply-side factors -- please do not forget about demand-side factors which may be equally important!



  1. These cost include: (1) acquisition of mineral lease and seismic data identifying reservoirs potential (which has to be properly interpreted later on); and (2) actual costs of drilling and developing gas field.


  2. Exact level depends on formation's structure, e.g. Haynesville's Initial Production rates are one of the highest out of all shale basins.



3Legs Resources. (2011, June). An introduction to shale gas.

Banks, F. E. (2007, November 13). Natural Gas: A Long Modern Survey (Part 1 and 2). Retrieved May 7, 2012, from 321energy:

Berman, A. E., & Pittinger, L. (2011, August 5). U.S. Shale Gas: Less Abundance, Higher Cost . Retrieved May 12, 2012, from The Oil Drum:

Bonakdarpour, M., Flanagan, B., Holling, C., & Larson, J. (2011). The Economic and Employment Contributions of Shale Gas in the United States. IHS Global Insight. America's Natural Gas Alliance.

Deutch, J. (2011). The Good News About Gas: The Natural Gas Revolution and Its Consequences. Foreign Affairs , 90 (1).

Dizard, J. (2010, March 20). Realistic shale gas price . Financial Times USA .

Donnelly, M. F. (2011, June 9). The Cost of Unconventional Gas Supply and its Future Influence on Florida Basis. SAIC. Retrieved May 17, 2012, from

Fekete. (2011). Analysis Techniques. Retrieved May 15, 2012, from

Gue, E., (2012). Weak Second Quarter For Linn Energy Is No Cause for Concern. Retrieved September 19, 2012, from Seeking Alpha:

Hayden, J., & Pursell, D. (2005). The Barnett Shale: Visitors Guide to the Hottest Gas Play in the US. Pickering Energy Partners, Inc.

Stoppard, M., Srinivasan, S., Ruseckas, L., Moehler, W., Barcella, M. L., Zhou, X., Ellis, A. (2012) Unconventional Gas: Transforming the Global Gas Industry. IHS CERA and International Gas Union

Medlock, K., Myers Jaffe, A., & Hartley, P. (2011). Shale Gas and U.S. National Security. James A. Baker III Institute for Public Policy. Rice University.


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Ferdinand E. Banks's picture
Ferdinand E. Banks on Oct 6, 2012
Interesting and useful, is how I would describe this article. Put another way, this is exactly what we need. I dont believe everything I have heard or read about shale gas, but it is almost certainly a valuable resource, And because it is a valuable resource we need to know just how valuable, by which I mean that we can dismiss the work of more than half of the so-called experts dealing with shale gas, and more than that proportion dealing with shale oil.

Thanks Karol, and stick with energy economics. You and some of the people contributing articles and comments to this forum are badly needed.

David Katz's picture
David Katz on Oct 9, 2012
Thanks for the insight into the shale gas pricing and how it relates to production costs. In addition the pricing also relates to the value and the use of the gas and as it becomes more readily used to make electricity and replace electricity for some HVAC applications, it will rise in price. The lower price is making investments in energy efficiency investments look bad but the risk of the price going up is much greater than current predictions as we question the value and environmental impacts of coal use and carbon sequestration.
Chris Neil's picture
Chris Neil on Oct 9, 2012
I reviewed several oil and gas company presentations that showed that their gas production is heavility hedged in the $4/MMBtu range. Futures prices are considerably above the spot price. The higher futures price and the liquids value are part of the reason that natual gas can be produced when the spot price doesn't justify it.
Karol Mazur's picture
Karol Mazur on Oct 10, 2012

Thanks for comments.

David, higher futures prices reflect expected higher demand for natural gas in winter. Last winter we saw low demand (largely due to mild winter), however, within last months many facilities have switched to gas (major incentive being very low price), what should ensure proper demand in the months to come.

Remember also that storage operators get their portion of margin from futures/spot differentials.

Karol Mazur's picture
Karol Mazur on Oct 10, 2012

Fred, I totally agree. This is why in my home country - Poland - many people are actually driving LPG or CNG vehicles.

Ferdinand E. Banks's picture
Ferdinand E. Banks on Oct 11, 2012
I see, I think that I get the message Mr Linn.

The engineers and managers who dont know as much as you do are just stupid. Well, the only country I am interested in at the present time is Sweden, and my conclusion is that although the ignorant Swedish education minister wants to import researchers and pay them extra, they are not needed, and the present energy structure is almost as good as it gets. Also, if you walk through Stockholm, it compares favorably with least on a sunny day.

Almost as good as it gets! Two more nuclear facilities would be a wonderful addition, along with an export tax on electric energy, and the use of things like solar, wind, and the items mentioned by you and Karol if they make economic sense. And yes, subsidies should be resorted to if necessary if the decision makers came to the conclusion that they make economic sense.

Bob Amorosi's picture
Bob Amorosi on Oct 11, 2012
Fred Linn,

All of your points about CH4 are technically correct, it has many desirable qualities over oil as a transportation fuel. Indeed the conversion technology for automobiles and buses and trucks exists and has for decades. But CH4 never became viable commercially on a large scale as big as oil has because we are too entrenched in our economies that are based on cheap plentiful supplies of oil.

To add the conversion equipment to an automobile costs over $2000 last time looked some years ago, turning an off-the-shelf gasoline engine car into a dual-fuel system. And in spite of government subsidies and consumer tax rebates offered here in Ontario many years ago that reduces this cost by more than half, the use of the technology has been severely limited to fleet vehicles. The vast majority of consumers just didn't want it, even though they know the savings in fuel costs would pay for the conversion costs many times over the lifetime of the vehicle.

The reasons for its commercial failure with consumers is largely convenience. There are virtually no CH4 refilling stations around, so one has to drive a long way to fill up unless you are prepared to buy a home compressor and fill up at home over night. Secondly, to get the same range out of a car as on a tank of gasoline, you need a couple of very large high-pressure CH4 tanks that use up most of the cargo space in a vehicle's trunk - another very undesirable knock against CH4.

So as long as we have relatively affordable oil and gasoline available on every street corner gas station, don't count on seeing widespread switching over to CH4 in spite of its advantages. Of course over time as oil prices escalate and our pocketbooks take a larger and larger beating at the gas stations, consumers will gradually take a liking to CH4 in their vehicles, and the CH4 companies will gradually get into the retailing of CH4 at corner gas stations.

Jim Beyer's picture
Jim Beyer on Oct 11, 2012
What gets me about CH4 is that it is at least 3X denser energetically than hydrogen to store. Some improvements for hydrogen storage have occurred, but such is also the case with methane (CH4). So it remains 3X denser storagewise, than hydrogen.

What does this mean? Well, let's assume one can actually make a fuel cell that is 100% efficient. Obviously impossible, but let's just assume that. That means, for the same tank volume, a methane-driven vehicle need only get 33% efficiency in order to have the greater range.

And we already know methane tankage is problematic due to it's larger volume and cost. This is even more so with hydrogen. The basic science is against hydrogen as a fuel, compared with methane. (It probably wasn't even a good idea for the Space Shuttle.) Yet, the hydrogen believers still muster on.

Why? Methinks a hydrogen fuel infrastructure would be novel, and thus controllable and taxable. With widespread methane use, you'd be hard put to add road taxes to a gas that's used for so many other things. Even kerosene can be dyed. Harder to dye a gas though. Also Fred L., another advantage of CH4 is that it doesn't go bad in the tank. Stays fresh indefinitely.

Michael Keller's picture
Michael Keller on Oct 11, 2012
Good article!

As far as hydrogen versus natural gas, the economics of producing and distributing hydrogen are pretty dismal.

Might be economically viable to concentrate on using natural gas with heavy trucks by upgrading existing truck-stop networks.

I vaguely recall T. Boone Pickens advocating such an approach, however never saw much in the way solid justification. Karol, have any economic data on such an approach?

Regards, Mike

Karol Mazur's picture
Karol Mazur on Oct 11, 2012
Since you started the discussion on CH4 vehicles, let me share with you some of my research on it which I may send in full to energy pulse if my time constraint allows me:

According to information from Natural Gas Vehicles for America (, today there are approx. 120,000 NGVs (out of 14.8 million worldwide) on US roads with about 1000 NGV fueling stations across the country. Large trucks (waste collection, transfer vehicles) represent the most prospective NGV segment. In particular, 4 out of 10 trucks purchased in the United States of America in 2011 were natural gas powered.

One of hurdles comes as electric plug-in vehicles are much more energy efficient. Plumer (2012) reports that it is much more efficient to generate electricity from natural gas and to power plug-in vehicles than to run NGVs which is due to combustion engines in cars and trucks which are loosing more energy than modern combined-cycle gas power plants.

Jim Beyer's picture
Jim Beyer on Oct 12, 2012
Great article Karol, but the last paragraph of your 10.11.12 comment is off-base.

Efficiency is not the only issue w.r.t. vehicles. The cost of energy for vehicles is extremely expensive and always has been. Take a gallon of gas which equals about 36 kw-hr per gallon of energy. But you lose about 75% in the engine, and another 5% getting the wheels to the road, so we have 8.5 kw-hr LEFT. Even at $2.00 per gallon, that's a whopping 23 cents per kw-hr. At $4, it's 46 cents. That's far pricier than even solar power, so I guess we should be panelling all our cars with solar cells, right?

The problem is energy density is also very important. And refill times. And vehicle range. And a lot of other stuff. A more balanced approach that takes more of this stuff into account would be:

Have enough battery storage for a typical drive day, say 40-50 miles. Add NG tanks to raise the range to 250-300 miles. And then maybe add a 5 gallon gas tank, just so the vehicle can interact with the broad-based gasoline infrastructure already in place.

Typically, the driver will never use the fuel portion of the energy storage, but it's there to provide the desireable range of the vehicle. Adding more batteries would just add weight and (high!) cost for an important feature that is not used often.

Just as a computer uses many forms of memory (registers, cache, ram, hard disk) to produce optimal performance at a low cost, a vehicle should use multiple energy stores (kinetic energy, U-caps, batteries, NG, gasoline) to achieve optimal performance at the lowest possible cost.

Ferdinand E. Banks's picture
Ferdinand E. Banks on Oct 14, 2012
During the time that I have been in Sweden, there has been a dedicated group of nut cases who are prepared to work night and day to reduce this country to the level of the Stone Age countries that have received billions of dollars in Swedish 'aid'.

I could not figure out the reason for this until I heard a very successful man use the expression SCHOOL STARS. He, evidently, was not a school star, and though very successful it caused him great agony. What we are talking about here is something called THE ROYAL SWEDISH ENVY, and it affects top politicians and multi-millionaires just as strongly as it affects a great many university professors.

Well, yours truly does not have any of that. When OPEC countries took over foreign oil in their countries - which they had every right to do - Sweden constructed 12 nuclear reactors in 13+ years. I am no friend of the breeder reactor nor a plutonium community, but eventually this country will have 12 breeders, and so the talk about CH4 is a PARTIAL - a PARTIAL - waste of time for Sweden, at least right now.

And once again: Swedish engineers and managers do not need any help from Fred Linn or Fred Banks. When Social Democracy came to this country, and later women were encouraged to take advantage of engineering educations, the die was cast. When or if the time comes to play games with CH4, Swedish engineers will know what to do.

Finally, if anyone reading these words of wit are Swedish, Belgium, French and probably a few others, they can forget about nuclear and CH4, and concentrate on getting their governments to put export taxes on electricity. Why play the fool for someone lik Angela Merkel.

Michael Keller's picture
Michael Keller on Oct 14, 2012
Might be an interesting exercise to plot gas transmission/major gas distribution networks and the proximity of heavy truck stops on the interstates. Then run economic pro forma on break-even costs to install the needed infrastructure and sell the natural gas. Profit potential could be straightforwardly estimated.

General concept would be to install modest sized pressure vessels for compressed natural gas, with the vessels pressurized at night using low-cost off-peak power. The truck stops tend to have lots of room and are generally not near much in the way of population centers. The big semi's should have no trouble adding a couple of tanks aft of the cab area and as Fred Linn observed, the diesel engines can readily handle natural gas with your basic "ACME" adapter kit.

Karol, maybe you could precipitate some academic interest.

From an investment standpoint, the idea may have merit. I'd kind of like to poke at it, but I have my hands completely full with our hybrid-nuclear efforts. Anybody have an inside track with T. Boone Pickens?

Michael Keller's picture
Michael Keller on Oct 14, 2012
PS Karol - I believe Poland is actively pursuing shale gas and may actually have quite a bit. The truck-stop concept might also be an interesting approach for Poland.
Ferdinand E. Banks's picture
Ferdinand E. Banks on Oct 15, 2012
Fred Linn, so you and your dogs hunted wild bores and boars in Sweden. Well, when you were hunting those wild things, my international finance students were inviting me to some of the best parties that had ever been held in Sweden or anywhere else.
Michael Keller's picture
Michael Keller on Oct 18, 2012
Just happened to get an e-mail from the folks at EnergyCentral on Compressed Natural Gas (CNG) for vehicles. Turns out, there are a number of firms moving on deploying CNG at truckstops. Based on the pamphlet they sent, looks like conversion costs are about $5 grand per truck and fuel savings about $6000 per year with payback in a little over a year. See

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