What’s the Fracking Problem?
To frack or not to frack…That is the question that has been creating quite a stir in the media of late. Fracking is the name used to describe hydraulic fracturing, a method of oil and natural gas extraction that involves the use of fluid pressure (typically a mixture of water, some sand and chemicals) to fracture rock layers in order to release oil or natural gas that is trapped inside. The use of this method in several regions throughout the United States has proven highly profitable for many exploration and production (E&P) companies and has been touted a boon for the entire domestic energy market over the past decade. However, the process is said to have high potential for environmental contamination and has been a hotly debated topic among energy companies, environmental advocacy groups and government agencies for some time.
Last month, France’s unprecedented move to implement a nationwide ban on the somewhat unpopular extraction method put the kibosh on an aggressive play by formerly Dallas-based, independent E&P outfit (now headquartered in Paris, France) Toreador Resources (TRGL). The company made sizable bids to control the largest share of permits to drill the Paris shale basin. After the company discovered the bounty of undeveloped resources in the basin in 2009, it essentially went “all in.” Toreador sold its assets in Hungary, Turkey, and Romania, moving its headquarters from Dallas, Texas to Paris and teamed up with Hess Corp. (HES) to accumulate the most acreage of all other competing E&Ps and prepared to begin drilling. After about a year of preparation in anticipation of French government approval, the company’s basket of eggs began to tumble in February once the government announced concerns about the environmental repercussions associated with fracking, which sent Toreador’s stock price into a five-month tailspin. This culminated with France implementing a nationwide ban on fracking, which sent the stock over another cliff. When all was said and done the shares bottomed out at $2.62, 86% off of their 52-week high, costing the shareholders hundreds of millions in share value.
Conversely, in the United States, New York State is considering lifting its long-standing ban on the process amid much resistance from environmental groups, activists, as well as some local officials and residents. The New York Department of Environmental Conservation (DEC) has announced that, assuming the ban is lifted, it intends to monitor and stringently regulate companies that use the method. The DEC has also proposed that certain regions, including the New York City and Syracuse watersheds, as well as state parks, be completely off limits. Nonetheless, that leaves roughly 85% of New York’s gas-rich Marcellus shale basin open for drilling.
Not surprisingly, the list of companies eagerly vying for the opportunity to tap into this vast supply is a who’s who of major E&Ps, including ExxonMobil (XOM - Free Exxon Stock Report), Chevron (CVX - Free Chevron Stock Report), and Royal Dutch Shell (RDS). In fact, many of these companies have come under pressure from their own respective shareholders, who have been airing concerns about the environmental and financial risks of fracking. Still, the profit potential seemingly remains too enticing, and some of these companies have staked their claim with sizable investments, including ExxonMobil’s $35 billion acquisition last year of XTO Energy, an active driller in the Marcellus shale formation. This suggests that Exxon has dug in and is prepared to stay the course. Moreover, given the current economic challenges facing New York, the estimated $11 billion that is likely to be injected into the state budget over the next few years, and the substantial increase in job creation that will result from lifting the ban may be too much to pass up.
In the meantime, while regulators continue to mull over proposals that would satisfy groups on both sides of the fence, the wind appears to be shifting forcefully in the direction of lifting the ban and imposing highly restrictive policies. Nevertheless, given the limited disclosure and somewhat varied information about the actual long-term impact that the chemicals used in the process may have on New York’s environment, particularly its drinking water (ranked among the most potable in the nation), skepticism and dissent abound. Alas, the age-old investment quandary of balancing risk versus reward seems inescapable, but the cliché of desperate times calling for desperate measures appears to be in play, as well.
At the time that this article was written, the author held no shares in any of the companies mentioned.