Drilling for Gas on the Stock Market

12/14/2009 3:19 pm EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

I told you this was going to be a big trend.

On Monday, December 14, ExxonMobil (NYSE: XOM) announced it will buy XTO Energy (NYSE: XTO) for $31 billion in stock. (ExxonMobil will also assume $10 billion in XTO Energy debt.)

This acquisition is just the latest example of a shift among the international energy majors from exploration and development for oil in risky new geologies and tough climates to a concentration on predictable, low-production-cost assets such as onshore US reserves of natural gas locked up in shale formations such as the Barnett shale formation of Texas. (See links below to the two earlier posts that flagged this trend.)

XTO Energy is one of the largest producers of unconventional natural gas from the Barnett shale region. Through a series of recent acquisitions of its own (Headington Oil, Hunt Petroleum, and Linn Energy), XTO Energy has built positions in new, unconventional natural gas and oil formations such as the Bakken shale of Montana and North Dakota, and the Marcellus shale that stretches through the Appalachians from New York to West Virginia.

The company has proven reserves of almost 13.9 trillion cubic feet of natural gas and another estimated 31 trillion cubic feet of unproven reserves. XTO produces about 5% of all US natural gas.

ExxonMobil’s cost in the deal is roughly $13.42 per barrel of oil equivalent for the proved reserves and $5.47 a barrel of oil equivalent for total proven and unproven reserves.

That compares to a finding and development cost of $13.19 per barrel of oil equivalent for ExxonMobil at the end of 2008, according to calculations by Deutsche Bank.

That comparison—$13.19 per barrel in finding and development costs in 2008 versus a cost ranging from a low of $5.47 a barrel to a high of $13.42 a barrel to acquire XTO Energy—tells you why ExxonMobil is doing this deal, even through natural gas prices are stuck in a slump of $4 to $5.50 per million BTUs.

As I explained in this December 1 column, investing in predictable reserves of unconventional natural gas, such as those in the Barnett shale formation, instead of exploring for oil in risky geologies and climates, makes sense because the finding and development costs are so low.

Predictably, ExxonMobil’s acquisition of XTO Energy has put boosters on the price of all the other US unconventional natural gas plays such as Ultra Petroleum (NYSE: UPL), up nearly 5% in early afternoon trading; Denbury Resources (NYSE: DNR), up 5.2%, and Chesapeake Energy (NYSE: CHK), up 6.1%.

Even EOG Resources (NYSE: EOG), which I wrote about as a long-term bet on a shortage of oil five years or so down the road, is up 6.1% today. For more on that future oil shortage and two stocks that stand to profit from it, see this recent post.

Full disclosure: I own shares of Ultra Petroleum. 

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