The Frackers: The Outrageous Inside Story of the New Billionaire Wildcatters (23 page)

Liquefied natural gas is simply natural gas subjected to the intense cold of minus 260 degrees Fahrenheit. The supercooling process converts the gas to a liquid form that’s one six-hundredth its original volume. As long as it remains at this temperature, liquefied natural gas can be shipped for use elsewhere. Producers transport it in a cryogenic container, which isn’t much more than a very, very large thermos. At its destination, the liquefied natural gas, or LNG, is “regasified,” or heated until it turns back into its natural gaseous state. Then it can be distributed through traditional natural gas pipelines for heating, electricity, and other purposes in homes and businesses.

Souki knew the LNG business was growing abroad. But the amounts being shipped weren’t huge and few considered sending it to the United States. There were just four facilities in the country capable of accepting LNG and converting it into gas. All of these had been built nearly two decades earlier and two of them had been mothballed, a sign of how unpopular and unprofitable the idea had become. Most in the industry saw the low price of natural gas as a sign that the country had more than enough of it, so shipping more of it to America was the last thing on their minds.

Souki came up with a strategy that seemed unrealistic, if not harebrained, especially for a tiny company run by a relative energy novice. Cheniere would raise enough cash to secure land for an enormous gas import terminal, or maybe even a few terminals. Then the company would convince regulators to give it permission to build the facilities. After that, Cheniere somehow would raise billions of additional dollars to build the facilities. Oh, and Cheniere also had to persuade foreign companies to ship LNG to the United States and pay Cheniere to regasify it so the gas could be sold domestically.

The idea sounded crazy, but Souki figured he could get a meeting or two with foreign businessmen and government officials to pitch it, if only because some of them still had fond memories of his father. Then he’d sell them on the idea, like he had sold so many of his previous deals.

Others know about the subsurface, but I know about traveling internationally and moving in different cultures,
he thought.

Souki quickly realized that not everyone was as convinced of the value of importing gas to America as he was. Warburg Pincus, the white-shoe Wall Street firm he had struck the earlier deal with, turned down a chance to invest in the project. Other large investment firms also rejected Souki’s offer.

“I definitely lacked credibility,” he acknowledges.

Souki knew he’d have to recruit experts who knew something about importing LNG, so he approached Charles Reimer, who had spent twelve years on the board of directors of the world’s biggest LNG liquefaction plant in Indonesia, asking him to join Cheniere.

Reimer was skeptical. “Charif was a minor-league player,” he recalls. “He was doing small things.”

Souki took Reimer to lunch in the summer of 2000 at Houston’s upscale Coronado Club to outline his plan and convince him that it could succeed. Reimer shared Souki’s belief that energy prices were headed higher, but Souki’s scheme didn’t seem likely to succeed.

“Let me put some numbers together,” to see if the idea even makes sense, Reimer finally told him.

That summer, Reimer went over the math, assessing what it would cost to freeze, ship, and warm natural gas. He determined that the expense would be huge—but the endeavor could be profitable if gas prices rose as much as he and Souki expected. After Souki convinced him that the financing for the huge project would come, Reimer signed on, giving Souki encouragement that his plan might actually work.

Reimer wasn’t entirely convinced that importing gas to America was the brightest idea, even after agreeing to come onboard. But he had just spent a decade in Indonesia and was eager to try something new. Reimer figured he’d roll the dice on Souki and his radical idea; even if it didn’t work he’d likely still have fun and learn a thing or two.

“The idea was a little bit out there, but I was at the point in my life where I could take a chance,” he recalls. “You could see he was extremely smart and thought outside the box.”

In the summer of 2000, Souki and Reimer began working on importing boatloads of natural gas from foreign countries. If he could get his hands on enough gas to quench the nation’s growing thirst, Souki was sure he could make a fortune.

That same year, Aubrey McClendon and Tom Ward launched their own push to discover a historic amount of natural gas in the United States, while Harold Hamm at Continental Resources set out to tap rock in the Bakken formation in Montana.

McClendon, Ward, and Hamm didn’t seem like the most likely candidates to transform the nation and revolutionize global energy markets. Souki was an even longer shot. Soon, all four underdogs would get a chance to pull off their audacious and unlikely schemes.

S
omething big was coming. Tom Ward repeated it, again and again.

It was late 1999 and Ward was having breakfast with Dan Jordan, a fellow energy executive, at Oklahoma City’s Classen Grill, a well-known restaurant frequented by hometown sports legends like Keith Jackson and Barry Switzer.

Over raisin-bran toast, poached eggs, home fries, ham, and coffee, Ward relayed what he and his partner, Aubrey McClendon, were telling investors: Natural gas prices were about to soar and their company, Chesapeake Energy, was going to take advantage.

Ward and McClendon were just trying to get investors excited about Chesapeake shares, Jordan figured. His friend was like a salesman reciting a pitch falling on mostly deaf ears. After all, natural gas prices were barely above two dollars per thousand cubic feet, about the same level as a full decade earlier.

Ward went on and on, though, explaining why anemic production and rising demand would send prices higher. Jordan began to realize his friend wasn’t just mouthing a favorite line.

He’s really starting to believe his own bullshit,
Jordan thought.

Ward took his pitch up a notch. “Natural gas will be at double digits,” he said confidently, predicting that prices would soar fivefold, from two dollars per thousand cubic feet well past ten dollars.

Jordan almost choked on his coffee. “What?!” he stammered. “Where are you getting that from?”

“Just look at rig counts,” Ward responded. They were dropping and gas supply was drying up, so prices were bound to skyrocket, he argued.

Jordan shook his head. “Yeah, maybe when we’re seventy-five years old,” he told Ward dismissively. “You’re crazy.”

Ward smiled. Just watch, he seemed to be saying.

Natural gas prices drifted over the following few months and Jordan’s skepticism looked well placed. By the spring of 2000, however, the market perked up and prices moved past four dollars per thousand cubic feet. By the winter, gas was above five dollars.

Many experts viewed the rise as a temporary blip. But McClendon and Ward insisted to colleagues, investors, bankers, and pretty much anyone else who would listen that gas prices were heading still higher. The Chesapeake executives had heard that Charif Souki was crafting a plan to import natural gas to the country, a step that might add to supplies. But Souki’s company was tiny and insignificant; it was doubtful he or anyone else could raise the billions necessary to bring much gas to the country. The biggest energy companies still weren’t wasting much time drilling for new deposits in America, another reason the Chesapeake cofounders were so sure demand would outstrip supply.

The company began buying wells, trying to get its hands on natural gas. McClendon told investors that Chesapeake had a chance to improve the nation’s well-being by leading a shift to natural gas, which was both homegrown and cleaner than oil and coal. McClendon repeated the message to colleagues, a sign he truly believed in his pronouncements, no matter how naïve, corny, or self-serving they sounded.

“This can change our
country,
” he told Marc Rowland, the company’s chief financial officer.

Rowland, who had the job of figuring out how to pay for McClendon’s grand vision, rolled his eyes. “Okay, but in how many years, Aubrey?” he responded.

“I wondered if I’d still be alive,” Rowland recalls.

McClendon wore Rowland down, though, as he did others at Chesapeake, convincing them that consumers and businesses would shift to natural gas from other energy sources.

“This is the fuel of the future, it will be in demand,” McClendon said in another internal meeting. “Everything will change.”

McClendon and Ward had embraced horizontal drilling before most competitors. Now they closely monitored how specialists were improving hydraulic fracturing techniques, enabling drillers to shatter gas-soaked rock to free natural gas.

It dawned on the Chesapeake executives that a unique opportunity—maybe even a historic one—might be within reach. Huge oil companies with talented geologists and engineers once held an insurmountable lead over small, “independent” companies like Chesapeake because big organizations were best equipped to pinpoint new reservoirs and then extract oil and gas. But now, thanks to improved fracking and drilling techniques, it seemed that finding and pumping meaningful energy deposits was the
easiest
part of the equation.

The new challenge, McClendon and Ward decided, was to grab prime acreage before their rivals figured out that energy prices were headed higher. Chesapeake had to get its hands on gas-producing wells as quickly as possible. McClendon and Ward seemed the perfect men for the task. After all, who knew how to quickly lock up land better than two land experts?

The Chesapeake cofounders began testing their theory with friends and others in the business. “We’ll never be able to compete with” large exploration companies and their huge staffs, McClendon told his old college friend Ralph Eads, who had joined pipeline company El Paso Corp. after a stint as an energy investment banker. “But I’ve got the skills to get land.”

Eads and others lent encouragement, agreeing that a new age had begun, one in which even a small company like Chesapeake might hold a unique advantage. Who knew—maybe the company could even become a true energy power.

McClendon began telling bankers and rivals that Chesapeake was eager to bid on almost any gas well in the country up for sale. The company still wasn’t very interested in acreage that held shale and other challenging rock. It didn’t seem likely to McClendon and Ward that George Mitchell’s extraction methods could work outside Texas’s Barnett Shale formation, at least not in an economical way. But there were so many “conventional” wells available that they didn’t need to look at shale formations.

The deals started small: In July 2000, Chesapeake paid $28 million to buy a competitor, Gothic Energy Corp., which controlled some of the best natural gas assets in Oklahoma. Chesapeake was willing to assume Gothic’s $316 million of debt as part of the deal. Other purchases followed, most just $200 million or so in size. Chesapeake slowly expanded its gas production and investors sent the company’s stock price climbing above ten dollars a share in March 2001, a move that encouraged the executives to look for more acquisitions.

Around that time, McClendon placed a call to John Penton, a local rival who helped run Canaan Energy, which owned wells in Oklahoma, Texas, Arkansas, Nebraska, and elsewhere.

“Why don’t you sell your shares to us?” McClendon asked Penton. Chesapeake was willing to buy Canaan at a price that was more than 20 percent above its share price, he said.

Penton and his longtime business partner told McClendon to get lost. They had spent a decade assembling a collection of natural gas wells that was enjoying strong and steady production. Penton later told a local reporter that he felt a “strong pride in ownership” and wasn’t interested in any kind of sale.

That fall, the September 11 terrorist attacks destroyed the World Trade Center, a terrible blow to the nation that sparked immediate fears of an economic recession. Rather than halt their acquisition spree, McClendon and Ward decided that only a temporary drop in energy demand would result from the attacks, so they should continue to search for deals.

Throughout the dark period, McClendon couldn’t let go of his pursuit of Canaan. Chesapeake managed to buy 10 percent of Canaan’s shares as a foothold investment. After one more failed attempt to sweet-talk Penton, McClendon called him with a threat: Agree to a sale or Chesapeake would announce an offer to buy the company.

“I’m going to take it public,” McClendon promised him.

Penton and his team told McClendon to go away. His offer of twelve dollars a share still seemed insufficient, even though Canaan shares were trading at just above nine dollars. Couldn’t McClendon just leave them alone already?

McClendon and his fellow Chesapeake executives grew more frustrated. In November, they followed through on their threats and went public with a hostile takeover offer for Canaan. To the relief of Penton and his partner, Canaan’s shareholders didn’t seem interested in the bid.

In early 2002, McClendon and Chesapeake boosted their offer to eighteen dollars a share, a price so high that Canaan’s brass felt it had no choice but to hire a banker to conduct a formal sale. By then, McClendon had changed his tactics and had turned on the charm, forging a friendship with Penton, who came to respect McClendon’s persistence. Canaan even included seven thousand acres in the Barnett Shale formation in Texas in the sale as a “sweetener” to help McClendon justify his higher price to his board of directors and shareholders. It was a nice gesture, but McClendon and Ward had little interest in costly shale wells and decided to abandon them if they succeeded in buying Canaan.

When executives couldn’t find a better offer, Canaan agreed to sell itself to Chesapeake for eighteen dollars a share, or $118 million, in an April 2002 deal.

“Aubrey was tenacious,” Penton recalls. “He knew he wanted the company, it took him a year and a half, and he got it.”

“It was a key first component in my plan to build our presence in the Anadarko Basin,” McClendon says, referring to a formation in western Oklahoma and the Texas Panhandle and into Kansas and parts of Colorado.

Ward helped develop Chesapeake’s deal strategy and he endorsed the acquisition push, as did Rowland, the CFO. But rivals whispered that the deals were reckless. Some Chesapeake senior executives and members of the board of directors began to question why the small company was spending so much money. “They’re giving me grief,” McClendon confided to an industry executive during the Canaan negotiations.

Bowing to the criticism, in the summer of 2002 McClendon announced plans to focus on low-cost prospects in the Midwest and to sell wells in the Permian Basin in Texas. Chesapeake didn’t receive much interest in the Texas acreage, though. Soon, McClendon and Ward were buying even more wells in the area, shelling out $420 million. It was as if they couldn’t help themselves.

Over time, McClendon’s arguments won over Chesapeake’s board of directors, which gave him the green light for still more acquisitions. It likely helped that some on the board had close relationships with the Chesapeake cofounder. One director, Wall Street executive Frederick Whittemore, had even lent money to McClendon in the late 1990s, despite the fact that Whittemore served on the board’s committee that determined how much McClendon should be paid.
¹

The Chesapeake cofounders crafted a division of labor that allowed each to excel at what they did best—and stay out of each other’s way. Ward and his team vetted all the assets up for sale and determined how much gas the wells could produce. McClendon and his own group, located in a separate building, decided how much to pay for the deals and how to finance them. McClendon did the vision thing, while Ward made it all happen.

“Aubrey would get the first call from bankers for every package” of natural gas assets up for sale, Ward recalls.

Soon, Chesapeake was outbidding rivals for the nation’s best wells. Because McClendon and Ward were convinced gas prices would continue to rise, they were willing to enter hefty bids. In the industry’s lingo, Chesapeake used a higher “price deck,” or estimate of where prices were going, than rivals. In 2003, Chesapeake spent $530 million to buy natural gas assets, and the company emerged as the eighth largest natural gas producer in the country.

McClendon and Ward’s plan was to establish a foothold with a group of newly purchased wells. Then they’d quickly assemble a team of landmen to buy additional acreage near the wells, extending their conquest and conquering new territory, as if they were playing the board game Risk. They would drill new, productive add-on wells in this virgin territory before natural gas prices climbed further and rivals caught on to their “acquire and exploit” strategy.

Since they were land pros, McClendon and Ward figured they had a good shot at hiring a battalion of the best landmen around the country, especially since rivals remained scared to spend a lot of money on U.S. drilling. Landmen would be the key to the company’s future. It was among the first times in modern history that a company bet so much on these pros, the Rodney Dangerfields of the energy patch, who usually command little respect.

The landman profession is uniquely American. That’s because the United States is among the few countries in which citizens, rather than the government, own the mineral rights under their own properties. If an energy company wants to produce oil or gas in a certain area it generally has to persuade landowners to sell or lease their mineral rights before drilling can begin.

There are two types of landmen—financial and legal specialists who sit in a company’s office, and “field brokers” who negotiate with landowners. The field brokers are the industry’s extroverts and natural salesmen, the backslappers and handshakers who can knock on a door, find a topic in common with a landowner, and cut a deal. To be a good field broker, “you’ve got to be able to sell a refrigerator to an Eskimo in the middle of January and make them think they need it,” says Ted Jacobs, who runs the energy management program at the University of Tulsa, which trains landmen.

During the industry’s good times, landmen find adventure and wealth. Starting salaries have reached as high as $85,000 in recent years and work has been easy to find. When things slow down, though, landmen scrape by. Those in the field usually are contract workers who have no salary or benefits to fall back on. It’s also not uncommon for a landman to find a door slammed—or a gun cocked—by a suspicious landowner. These “lease hounds” are always on the move. It’s a lifestyle that can wreak havoc with family life.

“You have to go where the action is and where you can find work,” Morris Creighton, the veteran landman who was part of Tom Ward’s team in the late 1990s, says. “Lots of people see it as romantic, and it is, but it’s very, very tough on the young.”

Wildcatters who risk it all to find oil and gas usually get notoriety, wealth, and even women. Landmen are viewed as little more than used-car salesmen. Movies are made about wildcatters. Jokes are made about landmen.