The Frackers: The Outrageous Inside Story of the New Billionaire Wildcatters (31 page)

That’s all well and good, some investors said. But Continental was only producing seven thousand barrels of crude a day from the Bakken. Almost all of its 342,000 acres remained undeveloped. “What evidence do you have” that production won’t slow to a trickle in the Bakken? a mutual fund executive asked Hamm at one meeting.

Stark and Hume received encouraging results from staff in the field as they joined Hamm in meetings with investors during the ten-day road show in early May 2007. But it wasn’t the kind of formal data the Continental executives could share with investors. Passing a BlackBerry device with raw corporate data to a hedge fund executive during a meeting isn’t considered proper, let alone legal.

“We knew production was growing,” Hume recalls. “But they couldn’t see it, and they didn’t know if it would grow.”

Other investors doubted the new drilling and fracking technique could be applied successfully throughout Continental’s North Dakota acreage. “Is it repeatable?” an investor asked Hamm and his team during another meeting.

Halfway through the road show, Hamm seemed to have won over most investors. The two investment bankers from Merrill Lynch leading the sales effort had introduced Hamm to investors as one of the nation’s last wildcatters. Hamm’s plainspoken, straightforward speeches earned him high marks with prospective investors, and the bankers said an IPO was expected at between seventeen and eighteen dollars a share.

Back at Continental’s headquarters in Enid, key staff members like Brian Hoffman counted down to the IPO. They were set to receive shares as part of the offering. Word within the company was that there would be so much demand for the stock that it was sure to begin trading above twenty dollars a share. Maybe it would go even higher, Hoffman thought, like other hot IPOs.

Things were looking up when the Continental executives and their bankers reached Denver for a dinner at the elegant Brown Palace Hotel and Spa after another investor meeting. That’s when a phone call to the Merrill Lynch banker interrupted their meal. They were told that public companies Bill Barrett Corp. and St. Mary Land & Exploration had run into trouble drilling in the Bakken. The two bankers, Christopher Mize and Aaron Hoover, leveled with Hamm—it was really bad news for Continental’s IPO. Now it was going to be hard to sell the shares.

All eyes at the table shifted to Hamm.

“That’s some luck,” he responded glumly. He looked discouraged.

“Do we keep going?” one of the Continental executives asked him.

The bankers said it was up to Hamm. A poorly received IPO would be an embarrassment that could weigh on the company and make it harder to raise financing at attractive rates.

Hamm didn’t answer. He couldn’t believe what was happening. He knew their drilling was going to work. Continental was targeting the Nesson Anticline, a subterranean ridge that seemed full of oil. The two rivals with the bad luck were west of the anticline, Hamm knew.

Hamm returned to his room for the evening, weighing whether to go forward with the offering. The next day, he decided to proceed with the IPO. They had come too far to turn back now. “Guys, let’s go ahead,” he told his colleagues. “We’ll have to show” Wall Street.

Continental succeeded in selling its shares, but only at a reduced price of fifteen dollars a share. “We felt like we were getting there,” but investors didn’t seem to agree, Hamm recalls. “It was a bitter pill.”

The lowered price disappointed Hamm and his staff. But it was a shock to Hoffman. When the stock fell to $14.10 on the very first day of trading, Hoffman became really concerned. He knew all about geology, but not nearly as much about the stock market, so he walked over to Continental’s legal counsel to ask why investors were turning their backs on the company’s new shares.

The lawyer, who didn’t seem any more of a stock market expert, told Hoffman the subdued reaction was due to lower commodity prices, even though oil prices were rising at the time, not falling.

Hoffman, who had introduced the North Dakota Bakken to Harold Hamm, immediately sold all his shares. Just like investors, he held serious doubts about Continental and its future, even though they seemed to be making headway. After speaking with the lawyer, Hoffman decided the “shares wouldn’t go any higher because the hype was over,” he recalls.

Shortly after the IPO, Hoffman quit Continental, though it mostly was to get away from living in Enid, the company’s headquarters. “Enid was just too small a town,” he says. “Everyone knew each other’s business.”

Hoffman never received any kind of special bonus for encouraging Hamm to push into the North Dakota Bakken, nor did he get any kind of thank-you from the Continental chief executive, he says. Soon, however, he was on a flight to the Rockies to work for another energy company that let him live in Denver, fulfilling his dream of moving to that city. He made enough money from the proceeds of his sale of Continental shares to afford a down payment on a home.

Hoffman had finally reached Denver. But Harold Hamm’s own goal of finding enough oil to change the country and creating “ancient wealth” for himself seemed as fanciful as ever.

•   •   •

C
harif Souki and Cheniere seemed set to help satiate America’s growing hunger for natural gas. The company had inked deals with Total and Chevron to convert two billion cubic feet of LNG per day to natural gas. Souki owned Cheniere shares that were worth over $120 million, and he was fast becoming the toast of Houston’s business establishment.

By 2006, the idea that the world was in danger of running out of energy had grabbed hold of the nation’s psyche, despite the enthusiasm of McClendon, Hamm, Papa, and others for shale drilling. By then, the United States was importing about 16 percent of its natural gas, close to an all-time high.

Those subscribing to the peak oil theory included most mainstream politicians, businessmen, and investors. A flood of new books appeared, some predicting deep economic troubles, maybe even popular unrest, anarchy, starvation, and disease, all triggered by expected oil and gas shortages. Some of the semi-apocalyptic titles included:
The Long Emergency,
High Noon for Natural Gas,
and
The Empty Tank
.

“We face an era of scarcity that involves higher prices for oil and fiercer competition for what’s left,” argued Peter Maass in
Crude World: The Violent Twilight of Oil
. “We are a foggy-headed boxer on his knees, unaware of the blow that awaits us.”

Another book, the best seller
Twilight in the Desert,
by Matthew Simmons, a wealthy investment banker and adviser to George W. Bush during his first presidential campaign, argued that Saudi Arabia “clearly seems to be nearing or at its peak output.” Some experts, such as Daniel Yergin, the Pulitzer Prize–winning author of
The Prize,
disputed the peak oil theory, saying it was based on incomplete data. He was in the minority, however.
¹⁰

With Russia assuming the mantle of the world’s biggest natural gas producer, President Vladimir Putin spoke of using his nation’s energy resources as a political weapon. Around the same time, Chevron made plans to sell oil and gas properties in the United States, including those in Texas’s Permian Basin, to focus on what it believed was more attractive acreage outside the country, another sign of how energy power seemed to be permanently shifting away from North America, no matter what the shale enthusiasts were saying.

With all the doom and gloom, Charif Souki realized he had an extraordinary opportunity to bring relatively inexpensive gas to his energy-hungry country. The plant Cheniere was building in Louisiana was slated to convert 2.6 billion cubic feet of LNG each day into natural gas, or over 4 percent of the nation’s daily gas demand. Cheniere already had sold two billion cubic feet of that capacity to Total and Chevron, but the country’s hunger for gas was such that Souki was sure he could find new customers if he built more capacity at the import facility.

In 2006, Souki and his team decided to expand the Sabine Pass terminal to allow four billion cubic feet of LNG to be converted to gas each day, or nearly 7 percent of the nation’s daily needs. At that size, the facility would be able to receive about five hundred LNG ships each year, though the expansion also meant pushing the cost of the plant up to $1.5 billion, with another $500 million needed for the pipeline connecting to the facility.

Cheniere borrowed money to pay for the expansion, pushing its debt to a whopping $2 billion. It seemed worth it, though. The $250 million Cheniere was going to get each year from its first two customers was nearly enough to meet its annual debt payments. If they could sell the full four billion cubic feet of capacity, Souki knew the company would be solidly profitable.

Souki didn’t lose much sleep over the decision. U.S. demand for natural gas was growing and foreign companies were furiously building natural gas production. Their supplies could easily be sold to the American market. Even after the expense of shipping the liquefied natural gas to Souki’s terminal in Louisiana and converting it back to gas, the foreign companies seemed sure to score profits because U.S. natural gas prices were so high. If Souki built his bigger plant, he was sure the foreign gas would come.

Souki anticipated limp domestic natural gas production and strong U.S. prices. He had good company. In February of 2007, private equity powers KKR and Texas Pacific Group, along with investment bank Goldman Sachs, joined forces to pay $45 billion to acquire a huge Texas utility called TXU Corp. The deal, the largest leveraged buyout in history, was a mammoth bet that natural gas prices, already past seven dollars per thousand cubic feet, were headed higher, likely pushing up prices for wholesale electricity. Famed investor Warren Buffett spent about $2 billion on TXU bonds—even he seemed to believe energy prices would remain strong.

In some ways, Souki had no choice but to expand the terminal. Investors had bid up shares of Cheniere in the expectation that more contracts would be sold and more plants would be built. If Souki veered from the vision he had sold Wall Street, his stock would tumble. He couldn’t shift gears now.

An odd thing happened in the second half of 2007, however. As the Cheniere staff tried to find new customers to ship LNG to America, they began getting the cold shoulder. Meg Gentle, the head of strategic planning, found it almost impossible to sign up global natural gas producers, as if foreigners were becoming wary of sending gas to the U.S. market.

“The mood had changed,” Gentle remembers. “Something seemed to be happening.”

Gentle got in touch with an industry consultant who said U.S. natural gas production was slowly growing, after bottoming out in the summer of 2005, perhaps helped by production from new shale formations. Not only that, but the cost of producing gas from shale formations was dropping sharply, and in some places was lower than the cost from more conventional rock formations.

“That’s nuts,” Gentle responded. She told the consultant that it was “geology 101” that the cost of producing gas from compact, challenging shale couldn’t be lower than producing it from more conventional reservoirs.

The consultant also was skeptical that anything big was happening that would affect the U.S. supply-demand equation. Yes, seven years of high natural gas prices meant drillers actually could make money focusing on high-cost shale formations. And sure, many were managing to reduce production costs. But it still seemed too costly to get gas from shale wells. A wave of new U.S. supply seemed unlikely. Imported natural gas seemed as necessary as ever.

Souki, Gentle, and others at Cheniere eventually concluded that foreign producers were wary of shipping gas to America simply because few of them had extra gas to sell. A number of projects were set to be completed, however, so sales to the United States likely would pick up. Souki’s decision to borrow more money to build additional import capacity still seemed like a no-brainer.

Late in 2007, Cheniere’s stock weakened a bit, falling to about thirty-three dollars at year’s end, as some investors fretted about the company’s debt. Souki, usually ebullient around the office, turned more pensive. The housing market had begun to weaken and subprime mortgage lenders were cratering. The overall stock market held up, but Souki had an inkling that trouble might be around the bend.

Cheniere already had raised over a billion dollars from investors and lenders. Souki didn’t feel they’d have the appetite to buy additional shares or debt from his company, even though Cheniere needed to drum up an additional $300 million to complete construction of his Sabine Pass terminal.

He decided they’d wait until early 2008 to get the financing. He crossed his fingers, nervously hoping markets would hold up.

•   •   •

M
ark Papa also was becoming scared, though for a different reason than Charif Souki.

Papa ran EOG Resources, the energy company spit out of Enron years earlier. It already had accumulated 320,000 acres in the Bakken formation, buying some of the most promising chunks from Michael Johnson, the septuagenarian oil explorer. By 2007, EOG was making a bit of progress extracting oil from challenging rock in the region.

But Papa and his fellow EOG executives weren’t very focused on the Bakken or even on oil. EOG was a natural gas company, after all. Seventy-six percent of the company’s revenues came from gas. Thanks to an early embrace of horizontal drilling and advanced fracking techniques, EOG was seeing surging production from natural gas wells in the Barnett and in other areas around the country and improving on George Mitchell’s techniques. In 2007, EOG’s gas production and reserves grew by about 15 percent, management boosted the company’s dividend by 50 percent, and there didn’t seem much to worry about.

“We were busy patting ourselves on the back,” Papa recalls. “We were geniuses, finding more gas than we ever dreamed of.”

In October 2007, nearly twenty of the company’s top executives gathered at the Hyatt Regency Resort and Spa in Scottsdale, Arizona, prepared for a few days of meetings, sun, and hopefully some fun.