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National Oilwell's Shale-Gas Optimism -- Prescient or Self-Serving?

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Lately, the natural-gas exploration sector has taken a nasty hit -- spot prices for natural gas have dropped roughly 40 percent since early summer, and stock prices of many exploration companies have followed suit. Although gas prices are still relatively high by historic standards, the recent decline raises some serious questions for gas-exploration companies, especially those with ambitious plans to exploit huge reserves trapped in shale formations that extend from New York to West Texas.

Managers in the exploration business live with the uncomfortable reality that while drilling is a long-term investment -- shale produces slowly and requires a lot of wells -- gas prices rise and fall from minute to minute. So it's especially difficult to estimate how profitable such investments might be.

Some exploration execs might be tempted to take heart in a pep talk delivered a few weeks back by executives of National Oilwell Varco, a major provider of oil and gas drilling equipment. Because the company sells to just about anyone who's anyone in the business, National Oilwell is sort of a canary in the coal mine -- or at least a pack mule in the shaft. Although the company makes most of its sales outside the U.S., its customer network puts it in close contact with every big and small name in the oilwell service business.

At its second-quarter conference call at the end of July, National Oilwell executives repeatedly described an "explosion" of U.S. drilling demand aimed at exploiting gas shale reserves. Their optimism was based on the company's sales to those drilling and completing those wells, and is especially notable because drilling horizontal wells and then knocking out the gas from these hard-to-produce formations tends to require the kind of high-performance equipment in which National Oilwell specializes.

"There is cash out there today" for rigs "designed specifically for these shale plays," National Oilwell CEO Pete Miller said at the time. "Look at some of the drilling contractors that are best in new technology, they're winning the game... Even if you saw a decrease in the price of natural gas, you're still going to see the shale plays being drilled, and you're still going to see the demand for these new rigs.''

Among other things, Miller predicted that gas drilling will benefit from federal energy-policy changes that will encourage U.S. demand for natural gas. He suggested that the U.S. land-rig count could rise to somewhere between 2,200 and 2,300 next year -- up from a bit more than 1,900 now.

There will be losers as well. Miller and others noted that old rigs unable to go after unconventional formations will be replaced by newer, more efficient equipment. Higher demand in other markets has also allowed service companies to pass on some stiff price increases. The combination of higher priced services and lower gas prices isn't good news for companies drilling hundreds of wells to develop gas in the next hot plays.

Of course, National Oilwell can afford to look on the bright side. After all, if there's a gold rush on, the best way to profit is to sell shovels. So -- is Miller's optimism about the prospects for U.S. gas exploration well-founded, or just self-serving?

Stephen Rassenfoss is a business writer in Houston and a former assistant business editor at the Houston Chronicle.