Oil & Gas Masterclass: How to Evaluate Energy Investments - Part 1

Hello, future billionaires. Welcome back to another episode of the Invest Like a Billionaire podcast. Today on the podcast, we have something a little bit unique. So just recently we hosted a webinar on oil and gas investing, and this is something that we thought was just too good not to share with our podcast listeners. And so we're actually going to do a two-part series because this was a pretty long webinar and really diving deep into the nuances of oil and gas investing. And so we brought on a 40-year expert in this space. His name is Jeff Mahager of Mahager Energy Advisors. He's been a consultant on billions of dollars of drilling for very large operators, and they've operated 5 of their own funds. And so he's seen everything you can see over the past 40 years and up and down markets. And as this landscape has evolved, and so this is something if you've been following us for a while that we're very bullish on. We think there's a lot of opportunity in oil and gas investing. And so we really wanted to kind of lay out, you know, this masterclass concept of all the things you got to think about when you're looking at deals in this sector. And so some of the things we cover first and foremost on this first part of the podcast is what's the bigger picture environment, what's the macro environment going on, what's the political environment, what are the economic things going on, and how is it kind of changing the energy landscape? And then we dive really deep into the technical side of it, right? Understanding you know, the nuances of horizontal versus vertical drilling. We talk about different ways and types of investing in oil and gas. You talk about fracking, right? And then the next part of this, you'll see the kind of final pieces that we talk about, which will include talking about the risk factors and things you got to consider, and then really where we're seeing the opportunity. So a lot of juicy detail here that you're going to want to stay tuned for. So do not Tune out and enjoy this masterclass, uh, part 1 on oil and gas investing. This is the Invest Like a Billionaire podcast where we uncover the alternative investments and strategies that billionaires use to grow wealth. The tools and tactics you'll learn from this podcast will make you a better investor and help you build legacy wealth. Join us as we dive into the world of alternative investments uncover strategies of the ultra-wealthy, discuss economics, and interview successful investors. Looking for passive investments done for you? With Aspen Funds, we help accredited investors that are looking for higher yields and diversification from the stock market. As a passive investor, we do all the work for you, making sure your money is working hard for you in alternative investments. In fact, our team invests alongside you in every deal, so our interests are aligned. We focus on macro-driven alternative investments so your portfolio is best positioned for this economic environment. Get started and download your free economic report today. Hello everyone. Thanks for coming on today. This is our oil and gas masterclass. Even rhymes. We're super excited to do this today in The whole kind of topic is a deep dive on oil and gas investing and really how to evaluate energy investments, right? So if you've been tuning into our podcast or listening to any of the content we've been putting out at Aspen Funds, you know, we're very bullish on oil and gas, meaning we're very— believe that the prices have some room to run to the upside. There's a lot of extraneous factors going on that we think support investing in this asset class. And as we've been doing over the past couple of years, we've been seeing a lot more people coming out with different oil and gas opportunities, and they're not all created equal. And so we wanted to bring on our guest today, Jeff Mahager, who we're very excited to have here in person in our office here in Kansas City. And this is Oil and Gas Investing.

I thought this was the wrong one.

Well, Jeff has been in this space for almost 40 years.

40 years.

Yeah.

Okay. So he's seen it all, been through many, many cycles and obviously just has a whole lot of experience and wisdom to share with us.

So, so we're going to be focused in on making oil and gas investing approachable to investors who haven't done oil and gas before. So a lot of folks in our, in our world have done real estate investing, note investing, other kinds of investing. But oil and gas is one of these scary things. That a lot of people have, have had bad experiences and or have heard about bad experiences. So we're going to dive in and actually look at how to do this right.

Yeah. So before we do that, Jeff, can you give a little bit of your background and just to give people context for, you know, your, your expertise and—

Sure. I went to the University of Kansas, studied geology, rock chalk, and got a job right out of school school, moved to Houston. Um, and so a lot of people call it the Planet Houston. I did a tour in Houston, um, where a lot of energy folks go. I worked for a company called Panhandle Eastern Pipeline that moved from Kansas City right down on Broadway to, uh, to Westover in, uh, West— I'm sorry, Westheimer in Houston. And, um, it was a great experience. It was interstate pipeline. Got a lot of great experience. They moved me very quickly from the geology department into contracts. So I ended up doing a lot of contract work and was there for almost 5 years. My dad had started a consulting firm here in Kansas City with an office in Houston, and it was energy consulting, energy consulting, petroleum engineering, geological consulting, geophysical consulting. And his anchor client was a large endowment fund that was wanting to do energy investing. And back in the late '80s, oil prices had crashed and this fund had put together a mezzanine bank fund. And so we were named the technical or exclusive technical consultant to the fund. So we— the fund basically made around $400 million in investments. We advised on all of those.

Obviously, by making $400 million, we probably looked at over $1 billion worth of investments and advised on geology, engineering, all things technical related to this and value, technical and economic and economic.

Yeah. So we'd run all the economic models, doing all the forecasts and, you know, from a, from a— we were very fortunate in the fact that the fund made over a 20% rate of return when they closed. So at that point we decided, hey, you know what, we're doing a pretty good job for the fund. Why don't we consider doing it for ourselves? So in 1992, we came across a project that we really liked and we decided to move forward on it. It was in the Rockies. It's about 400 producing oil and natural gas wells. That we partnered with a company called KN Energy, who was interesting enough, was the predecessor to Kinder Morgan, if anybody knows that name.

Sure.

So they're the predecessor to Kinder Morgan. They were our partner and we went out and we developed probably around 100 to 150 wells in about a 3-year time span. KN sold their interest to a small company called Tom Brown Inc. out of Midland at the time. This would have been 1997. A person by the name of George W. Bush was on the board of Tom Brown, and he— after they, they bought, they bought us out, after they bought us out, he left and ran for governor of Texas. But they since had been sold to Encana, and now they have been sold to Aventive.

And how do they do on your investment?

They did great. I remember in 1997 when we sold, we priced all of our natural gas— it was a very natural gas-centric play— we priced all of our natural gas at $2 per MCF, gas price flat for the life of the property. So this is 50 years, long-lived reserves, and we sold the reserves for roughly about $0.50 $1 per MCF, proved MCF in the ground. And that was 1997. I thought we did very good on it. So in 2003, Tom Brown took our assets, sold to Encana for $3 per MCF in the ground. So they did, they did better. It— and that actually gave me a great lesson about capital formation and what your motivators are in terms of your divestment strategy and how capital can kind of push you maybe a little sooner rather than later in terms of selling something.

Right. And through the past several decades, you've done, I think, 5 funds, right?

And actually 5, 5 different LLCs or investment opportunities is what we really have done.

Yes.

And at different points of the market. I mean, the latest one you did was 2020, right? Which was Seemed like a hard time to be in the space, but it's obviously done very well.

Yeah, that we were again very blessed. We took advantage of a situation where 2020, everybody knows, April 11th, 2020, oil traded at negative $37 a barrel. Um, so what ended up happening was there were a lot of private equity companies or firms that really got killed. They were looking for ways to rationalize their portfolio companies. We happen to know one of the portfolio companies, and we put together a letter of intent to buy them out. And so we put the letter of intent in place in September with an August 1st, 2020 effective date. And ended up closing on December 29th, 2020. So yeah, it was, you know, a lot of people at that time thought, you know, energy's dead, you know, never go above $35 a barrel again. Gas will never go above $2 an MCF again. But obviously we thought that was a great time to be investing, right?

Well, I think before we dive into a lot of the more technical things, I'd love to just set the stage because inevitably whenever we, you know, talk about oil and gas, you know, I just got an email from someone that said, you know, I can't believe you guys are considering this. I mean, just in a couple years, EVs are going to take over and oil and gas is going to be irrelevant, right? And so there is this kind of, you know, sense and narrative that is being consistently propagated with you know, the mainstream news that oil and gas is yesterday's energy and why would I be investing in something that's no longer going to be relevant, right? So I think let's dive in kind of the big picture here of why does it even make sense to consider this space and are we going to be around, you know, in a couple years having this conversation?

Well, I think, you know, number one, it's— you said it, it's about energy and power, electricity. Obviously, I think we are moving towards an electric or a power-driven economy. But what most people don't think about is how do you generate power, right? I have a— I think I've told you the story maybe, and I have a great friend who lives down the street from me, bought one of these beautiful, you know, electric Mustang SUVs. And, um, he came and picked me up, and it's great. And he, you know, you know, he said, touting some of the green energy, and I told him, I said, You know, I'm a little upset with you. And he said, well, why? And I said, well, you've just increased our carbon footprint on our block. And he said, well, I bought an electric-powered car. And I said, well, you realize that the majority of power in Kansas City comes from— is generated by coal. So the more you're plugging in your garage, the more coal generation for power there is. And, uh, you know, I said, well, that's too complicated. I can't think about that. But no, no, I, that, that is it. Oil and natural gas, particularly natural gas on the power side, you know, the more electric cars are, the more batteries there are, it's going to take more natural gas to generate that power.

Yeah.

Well, we've got a few slides here. Do you want to kind of chime in on some of the kind of green, green energy thoughts?

Yeah. And so green energy, I mean, we're all, we're all rooting for green energy. Right.

Yeah.

But there's, there's really, you know, a reality check that's, that's needed. According to the EIA, by 2030, existing mines and projects under construction will only be able to produce about half what's needed to satisfy demand for electric, electric vehicle production. So 59 new lithium mines are needed, 38 new cobalt mines, 72 new nickel mines. And it's, it's worth noting that the lithium mines, for instance, that started between in the last— well, in the last decade took an average of 16 years to develop. So, so, you know, and, and by the way, those mines all operate on diesel, right? Diesel, very high excavators, diesel trucks transporting, diesel-operated, you know, refineries. And, you know, it takes, it takes a massive amount of fossil fuels to do that. Go ahead and flip the next slide. You know, they're saying it needs— we need about 40 times the lithium production, 40x in the next— in the next, let me see, between now and 2040, 40 times more lithium. Well, where are we going to get that? And this is just to meet kind of the stated goals for the electric demand and graphite. We need 25x cobalt, 20x nickel. 20x. And not just that, but, but a lot of time to develop it. Go ahead and do the next slide. So this, this kind of answers the question. And for anybody that's— that can see this. So if you look at all fuels today, of all energy, energy sources right now, 83% are carbon, 83%. It's about a third, a third, a third coal, natural gas and oil. But as you pointed out, if you want to move something, a mass of something from one place to another, only liquid petroleum can do that right now. That's ships, airplanes, you know. Correct. Trains. They're all running on, on liquid petroleum products.

Yeah. I always think about this. I always think about, you know, it's, it's a little bit like physics, right? You know, if you're— we live in a global economy. Our whole economy, Amazon, is all based on moving products freely around the globe. And the only way to efficiently move mass is through liquefied petroleum.

Yeah. So back to the slide. So 83% of fuels are carbon. So 17% is non-carbon. And that's, that's, you know, nuclear, hydro, wind, you know, wind is 17% of the 17%. So it's just really not much. And And we've been trying to decarbonize really since the 1970s, you know, so 50 years and we've gotten 17%, you know. So, so, you know, while we're all rooting for it, the truth is, you know, green energy just is not ready to carry the load of what we have.

And I think going back to the kind of mineral exploration needed for lithium and all these other ones in the US, you know, there hasn't been a new lithium mine permitted for how long, right? And it's just— yeah, we're not— we're not making the steps needed to actually increase the production, right? It's magically going to appear somehow, right?

So it's, it's a lot of wishful thinking. The truth is we are a carbon-based economy, and, and we are— we will be for the foreseeable future. And, uh, there's a lot of hope out there, and, uh, you know, you know, fission or fusion, but it's not close. You know, the world has walked away from nuclear, which I, I'm, you know, I think is a great alternative. But, and even new nuclear is very safe and very cost-effective and very clean. There's new generation of nuclear technologies, you know, fission, you know, fusion is a long ways away. There's nothing even close. So yeah.

Do you want to comment on kind of some of the ESG narratives that's driven supply down?

Yes. So, so it was kind of, there was a, you know, and we can talk more about ESG a little bit. But there was, you know, during the Obama, the end of the Obama recession, I mean, you remember the Obama recession, it's like the economy never quite got going and energy demand globally just started to plateau. And if you look at the curves, it started to kind of plateau out. Well, the narrative came forth, we've done it, we're post-fossil fuels now, correct? And that was great until until demand starts creeping up, which we saw, you know, in the post-COVID era. But what happened is this narrative, well, why would you want to invest in a dead business, right? And a dead— it has no future. And so what happened is global energy investment decreased by 55% in new production, generating new fossil fuel production. And it's one of these things that's so unpopular. If you say you're drilling for oil, you almost have to put a paper bag over your head, right? Especially, you know, if you're on the coast or something or in the right, the wrong crowds, you know, and you're destroying the planet. And so, so that just, people exited the market and meaning, meaning meanwhile, a lot of our politicians, John Kerry has been going around and trying to make sure that there was no access to capital for any of the fossil fuel producers. So literally you couldn't get bank loans, you couldn't get credit. And really undermining this. And, and the problem with that, okay, so it's dropped by 55% investment. The problem is that global energy production is decreasing about 5 to 7% per year because of depletion, meaning you're pulling the oil out, your production is dropping. We need 5 million barrels a day of new production coming online every year just to maintain production.

Correct.

Production levels. So, so the problem— and the problem is if you don't invest, you don't get that. So what we're seeing is you simply can't fix it. 7 years of underinvestment is going to take 7 years of overinvestment. After 7 years, we will see production begin to increase. But the problem is there's not a lot of marginal, marginal production. So as soon as we see demand, our view is we're going to see— we're going to see energy prices rise. And right now because of China's slowness and a few other things, we're not seeing demand hitting yet. Yeah.

And I think kind of playing to that thought of the demand side of it, you know, most estimates are predicting even by 2030 that demand for oil and gas is going to be at least the same, if not increase, just because we can't hit these goals as fast as they want us to, to kind of convert to the renewable energies. And it's, you know, beyond 2030, it's, it's probably, you know, still pretty aggressive on how quickly we can adopt some of these technologies. So you got a, a decreasing supply curve, you got at least consistent, if not growing demand. And you know, that usually only does one thing to the market.

Right.

And that's kind of what's interesting here. So, well, I'd love to kind of, you know, parlay that conversation into just from your experience being in this space for a long time, What are you seeing right now as, you know, where, what, what's kind of happening in the landscape, right? Because you, you mentioned earlier in 2020 when oil prices went negative for a day and a lot of these, you know, companies that were investing were maybe a little bit overleveraged and got wiped out. It's kind of changed the appetite a little bit. It's kind of changed the game to where it's, it's, you know, the, the thought process and how you invest is different than a few years ago.

For sure. The investment strategy has completely changed. In my career, the investment strategy for oil and gas, particularly for oil and gas entrepreneurs, had been a value play. It always been sort of a value play. We have a very capital-intensive business. As Bob Fraser mentioned, you know, you have somewhere between a 7 to 10%, just a natural reservoir decline. You know, for most reservoirs, you've got a depleting asset that needs to be replaced with new drilling, which is capital intensive. And so it was always a value play. You know, you buy something, you sprinkle just the right amount of capital into it, and then you sell it to a much larger investment company or oil and gas company for a disproportionate interest. Rate of return.

So you're saying value creation, is that through drilling or is that by existing production?

Value added through drilling, through— and you're, and you basically are selling the undeveloped locations, the proved undeveloped. So the upside, you're selling the upside, right?

Because you've proven out the reserves and then you're selling that to the next guy to go drill it.

Very similar to something that you would experience in the dot-com era. You know, you're, you're, you're basically selling upside. Well, with, with COVID and because we had so many capital institutions get hit hard and were not able to return capital back to limited partners, we have— in oil and gas space, in oil and gas space, we have had our industry go from more of a value play to much more of an income play. And it's, it's brought in a, a discipline where, you know, there was so much capital and because of interest rates, it was relatively cheap capital that was getting deployed that, you know, when prices went down, the private equity, the institutional capital kind of dried up. And then you have on top of that the ESG, which you have a lot of the limited partners that might be in a private equity fund be it an endowment or a, uh, some kind of other institutional, you know, capital source, just doesn't want to invest in hydrocarbons.

Uh, so, so people are exiting the market. So capital fled.

Capital has fled. It's brought some more of a discipline to where, you know, not only do you have that, but then you also have sort of geologically you've got, uh, where we have all of these plays have sort of been figured out. You don't have a land rush, so to speak. So, you know, all of the plays in Texas—

yeah, meaning the producing basins, correct? They're kind of known quantities, correct? Yeah, correct.

Yeah, correct.

So it's not this wildcat, right?

Everybody's chasing, trying to get into new a new play and, you know, trying to, you know, figure out how we can get, you know, high returns on our capital being employed.

And so as capital has fled, you know, a lot of this, a lot of the big boys have stopped leveraging heavily, right? Capitalists, they've gotten much more conservative. They're not putting debt on these things. They're not— there's, you know, there's not a lot of, you know, capital is far less available today, both in terms of debt and equity. To big boys and little, little guys, correct, in the space. And it's also caused the pricing of oil fields to drop dramatically. When you say it's gone from— it's not priced on income, it's not— it's— or it's not priced like a dot-com where, hey, we got this great idea, it's worth a billion dollars, correct, to now, how much money can you produce cash for me next month? That's what I'm going to pay you on. So prices of these producing assets have dropped precipitously.

Correct. And investors are—

Don't want to sell, right?

Yeah. Investors are much more concerned with dividends or distributions. Right.

Instead of blue sky.

Correct.

Hey, it's gonna be amazing.

There's also been kind of a, a broader just approach to not oversupplying the market too, 'cause part of what happened in kind of COVID era and obviously demand, but then there was a lot of just pump, pump, pump, pump, pump. And you've kind of said not more, not just discipline on the capital structure side of, you know, having lower leverage, but also a sense of, hey, let's not flood the market because we kind of like these prices a little bit where they're at, right? We don't want to get back to $20, $30 oil.

Correct. And, you know, there's this old adage, right? The, the, the best cure for high prices are high prices. The best cure for low prices are low prices. And so you have this, this idea that capital kind of is efficient and it comes into a market when it's needed. At the same time, we have oil and gas companies who, you know, got really kicked, you know, during COVID Prices have come back up in 2021, 2022. And so a lot of them figured out their, you know, their bank loans and they have their balance sheets are in good shape.

Right.

And so now they're saying to themselves, look, for us it's better to maintain. Instead of having 12 rigs running and trying to bring a bunch of supply on, it might be better for us to only have 4 or 5 rigs running, right?

No one's chasing the upside as much anymore. And you're seeing this as price— when prices hit $120 a barrel, you know, not too long back, you didn't see a lot of new production coming online.

People are like, eh, not only did you not see a lot of new production, you didn't see a lot of new capital because these investment allocators, whether it be at a pension or at a, you know, endowment or a private equity, they don't want to be the one to have to write down their investment 30% again like they did in 2020.

And, and this was kind of— you're talking about the COVID crash. There was a crash before this, was around the 2016 time frame, right? With the— I mean, so much of the industry, there's bankruptcies left and right. And it was people chasing the, you know, kind of the fracking revolution, which really, really— and the whole horizontal and fracking technology, people don't realize how new that is.

New, relatively new. Yeah.

And so all these plays, these basins got massively developed and, and it was a lot of blue sky, a lot of dot-com type, type of emotion or exuberance. Right. And then when the crash came around 2016, I mean, just bankruptcies galore in the industry. So it's the it's kind of the second major hand slap on the industry. And now the industry is just like, we're not taking any risk here.

Right, right. I think it has brought in a discipline. And so, right, you've seen that from— it was an overdevelopment in some of these plays to now just the right amount of development. And a lot of companies are underdevelopment. A lot of companies at the time in 2016 were trying to drill their way out of right, a bad situation.

So prices are collapsing, you're drilling faster and faster to earn less and less.

Correct.

And, you know, and then it— then it's the bottom, sort of the perfect storm at that. Yeah, it was. And so, so, but so a lot of discipline is coming in. But what's happened because of this, because capital has, has fled and because of ESG— I mean, ESG people don't realize there's a lot of activist investors that have taken over boards of the majors and they're focusing on renewables instead of oil and gas development, which is, which is great for renewables, but it's not very good for oil and gas and creating again a big, you know, undersupply.

And a lot of the other thing that's important is you're right about the majors, but really when you think about oil and gas development and production in our country, it's what we call the independent oil and gas companies that really are the ones that go out and take risk in new areas or do a lot of the drilling, do a lot of the geology. And those companies, you know, they're not Exxon, they're not Chevron. They have to get access to capital, whether it be through institutions, private equity, or banks. And that is very hard for them. So they're not driving development.

Right.

Okay.

So let's, let's just shift to the technical here. So we've, you know, a lot of the people on this webinar are probably thinking, you know, I've seen some things come around. I've heard of, you know, you know, vertical versus horizontal. I've heard of fracking. I've heard, you know, all these different terms. But let's just kind of break down, you know, if you kind of mentioned earlier on the oil and gas geology and just kind of how that—

with geology, how does oil and gas work? So, and, you know, think about a real estate investor. You know, we don't know much about this kind of thing. So give us, you know, give us your entire degree in 5 minutes or less.

Well, I think when I think about geology and it always does sort of start with the rock, you know, because you're producing oil or natural gas out of rock sediments and rock is obviously subsurface. So that's one of the things to always kind of think about. You know, we think about real estate investing, we think about something on the surface. One of the hard pieces of oil and gases as opposed to like coal. You mine coal or you mine minerals and you can put the minerals up on the surface in the warehouse next door. Well, with oil and natural gas, it's typically— you're not storing it. I mean, you're—

you're—

you're— the storage is in the ground, and now you're trying to figure out just how much is down there. Will it— will it produce economically given commodity prices? At given expenses. And so it can be anywhere from, you know, 3,000, 4,000 feet. Actually, one of— I mean, surprisingly enough, the natural gas industry, particularly for natural gas interstate pipelines, started not too far away from this spot out in Luesburg, Kansas, where they were producing natural gas out of coal mines, you know, pretty shallow, 1,000 feet, 1,500 feet. And they were collecting this natural gas and then selling it to end users. And that's really kind of how the Midcontinent Interstate Pipeline business started. So it goes down, you know, some— somewhere anywhere between, you know, 1,000 feet all the way down to, you know, 30,000 feet. And then obviously the offshore—

6 miles.

Yeah. And, and it can get pretty it can get— it's, you know, the way that the— our industry drills is engineering feat on how they can bring oil and natural gas to the surface. And then we've had this major, you know, new technology come, come through for horizontal drilling.

But before we get to that, so, so I think a lot of people think about an oil and gas or an oil well you drill a hole and there's this giant lake of oil down there and you hit it and then it gushes up and you sell it. It's not really like that, right?

No, it's a pond. It's not really. I mean, the way— the best analogy I can, I can give you is that, you know, you've got a cup here and you put a straw in it and you just— each reservoir, each straw, has a different size cup and the way that you suck the oil or natural gas out, you know, the pressure that you're using, that's kind of what we're trying to figure out is just how much is there.

It's, it's really, it's not a reservoir in the true sense of the most, most people would think about it. It's really just oily rock.

It's oil. Well, yeah, it's not, it's not the Clampetts where you go out shooting and oil comes popping out of the ground. That's typically not how it works.

And so I think a lot of the traditional wells that were drilled early on in the '50s and '60s and stuff, they were certain geological formations. There were salt caps and other things that really very unique things are very rare, very difficult to find that had a lot of oil. A lot of that stuff's played out and what's happening now, and correct me if I'm wrong, but my understanding is, is it's, it's in shale play. So these are very tight plays. So the rock is very tight. It's not very porous. So the way you get oil out is the rock has to be porous, right? It has to— like, think of a sandstone or a sand where the oil can move through the rock.

That's permeability. Yes, that's permeability.

Permeability. And if the rock's tight, it can't move. And it's also laid out, you know, in these— for example, the shale plays, it's laid out in sedimentary layers. So, so it's this giant layer. Like, you go out to the Grand Canyon, you see layers of red and then layers of white and It's layers of oil-bearing rock that are horizontal and for hundreds of square miles. And then there's another layer below that that's a different kind of oil-bearing rock that's hundreds of square miles. And maybe it's 10 feet deep and 20 feet deep in other places, but it's very predictable, right, where it, where it is.

Correct. And that is, that's, that's where the new technology came into play for horizontal drilling. So What happened was, you know, vertical drilling, obviously a lot of wells have been drilled.

So vertical drilling, you put a— you just drill straight down and whatever happens, happens.

You're— you've got a target, you go down, you're drilling vertically into it. You're trying— you have a target reservoir. And what happened was a lot of— and when you're drilling, they have geologists on site and they get these what they call shows as they're drilling. They'd be oil or natural gas. And a lot of them, as these guys were drilling through shales, they would get these great shows, but they could never get them to produce. Right. And so people would scratch their head. Gosh, I'm drilling through here and I get these great shows. I can't get this thing to produce. I'm always producing below it or I'm producing above it until— and I don't know his name, but from what I understand, it was a young completion engineer at the— in the Barnett Shale that worked for Mitchell Oil and Gas that broke the code on how to drill horizontally into a shale. And you can imagine, I mean, you're drilling and then you're, you're turning the pipe 90 degrees into this zone and then you, then you're trying to figure out a way and you have to keep it straight because if you go— I mean, If you undulate, you're going to create P-traps to where you can't really produce past it, right? It's like, it's like your kitchen sink.

Sure.

You know, you can't get, you can't get the gas or the oil past it. So, so then you, and then you have to find a way to complete it to where you can, you can actually coax the oil or the natural gas out of that reservoir.

Okay. So these, this horizontal, so literally vertical, we've, we've drilled some vertical wells and it costs, you know, for you know, a mile down or so, $250,000 to drill and then another $500,000-ish to complete it. Meaning completing it means putting the pumping stuff on top and the piping and all that stuff.

Yeah.

Casing.

Yeah.

So now horizontal is a completely different animal. So it's, it's maybe, you know, $5 to $10 million per, per, per drill. Right. And so the— but then these things can go miles and miles and miles.

So they maybe go a mile down and then they go sometimes 3 miles out horizontally.

And you can drill this way horizontally, then you can go drill this way horizontally, then this way. So you can, you can kind of hit all the points of the compass from one single location, right? Yeah.

Which is great. What's great about that is, you know, we think about— we had, you know, we had vertical wells. We might have, you know, on one section, 640 acres. We might have something like 10 or 15 vertical wells on that section. Now, with horizontal well drilling, we have one well. One well can drain the same amount. And you can imagine it's— there's less— there's less issues with operations and, you know, there's probably less capital.

And, and, you know, talk about the drilling risk because I mean, I'm a geologist enough to know that this stuff is in layers. And if the layers are predictable in their oil-bearing nature and their nature, that really there's not a lot of ways to miss in a horizontal.

Well, there's not a lot of ways. And, you know, I think there's always, you know, we talk about drilling, we talk about dry holes, and, you know, a geologist will come up, they'll draw some lines on a map and say, we, This is, you know, where I think the reservoir is, 5,000 feet below the surface. And you drill down there and you say, wow, we're getting some shows there. Looks like there's oil or natural gas down there. And now I've got to complete it. And this is where the engineering comes into play. And quite frankly, you know, in any oil and gas investment, I know we might talk about risk in a little bit, but this is mechanical risk in being able to complete the well in the right fashion to be able to get the oil and gas come out. So while you might have geologically a well that hit, if you don't complete it right, you might have a— well, it might be a geologic well, it might not be an economic well.

Back to the risk. So if you come— if you do complete it well, there's the horizontal wells have a very high success rate, right, of hitting economic.

Now they do.

Yes.

Because in so many of these plays, they're going from 2008, the geology is so good, 2016, the— so much of the risk has been taken out. For an example, uh, in one of the areas in Oklahoma, we— you, you might have a, uh, when you put together a drilling unit You might consider putting a, what we call a parent well will be drilled and then they'll drill it, drill it horizontally, complete it. And oh man, that looks good. A geologist or an engineer might come in and say, I can put 11 more of those out here. And he drills 11 more. And you can imagine it, $10 or $15 million a well. That's a lot of capital. Well, he starts to find out on the 6th or 7th well, it's starting to interfere, taking— I'm stealing production from my parents. So these children wells are taking production from the parent well. And so what we found out over time is that, okay, while you might drill a parent well, you've confirmed what you thought geologically and engineering-wise, Instead of having 12 children, you might only need 5 or 6 children. And that is just a good way of preserving capital.

So, so bottom line is a lot of the risk has just been, been taken out of this now.

Correct.

Now talk about fracking. So fracking is this another of these things that is just— this energizes so many people, but I think very few people understand it. So do talk about fracking.

Yes. Um, fracking's been around since probably the '30s or '40s, quite frankly. And I didn't know that. Yeah, uh, we've, we've been fracking wells in this country and around the world for a long time. And again, it's basically after you drill, you talk about permeability, and sometimes you have natural permeability in a reservoir to where the oil, the natural gas will just come freely. As you're drilling, you put steel casing down the hole, right? And then you have to perforate with, you know, little bullet holes. You basically send a little gun down there, it perforates the steel casing. You're shooting bullet holes in the steel casing, and that's going to allow the reservoir, the oil and gas in the reservoir, to come to seep into the steel casing. Then you're producing it up to the surface. Sometimes depending on the reservoir pressure, the reservoir will do it on its own. Other times, you, as I mentioned before, you have to coax it out. And one of the ways we coax it out is by fracking. And the way that you frack is after you've perforated, you'll go in at high pressure, sometimes temperature, and you will take water and some sand and you will push it out in those perforations to kind of create, quote, fractures.

So you pressure— you pressurize the rock, correct, to get it to crack.

And that will— and you have sand and you have water and it's not— so the sand goes into the cracks to kind of keep them open, to keep the prop, the fractures or the fissures open so that the oil and gas can—

and so it creates— it increases permeability and allows— and this is really what unlocked a lot of the shales that were very, very tight. They didn't have high porosity and you couldn't produce much.

Correct.

So with, with new fracking techniques, we're able to produce it. Okay. So what's the bad rap against fracking? Is it really destroying our—

well, the bad rap is that— yeah, the bad rap is that the, the, the, what they're mixing in with the sand and the water is some kind of chemical that, you know, is detrimental. And, you know, you get a lot of these oil and gas groups that will go out and say, oh, well, you know, that it's created, it gets into the aquifer. And typically, you know, most oil and gas companies spend a lot of time trying to protect aquifers. They put a lot of casing in place. They make sure that, you know, when they frack there, there's typically a rock that will, that will help from having the fracture go up into the aquifer. And, you know, a lot of times it's, you know, as you mentioned, a mile or 2 miles below the aquifer. Right.

So people don't realize the aquifers are not deep.

No, they're like 300 feet or 500 feet.

They're really on the surface.

Correct.

And where most of the drilling is going is far, far below, maybe even a mile below.

Right. So we spend a lot of time trying to treat this.

There are— the oil and gas and the water are already in the same vertical space there anyhow, right?

That's right.

So, and they're always natural. There's always natural fractures.

So there's some bad actors doing fracking, but it can be done responsibly.

All right.

Well, that's the first part of this masterclass of oil and gas investing. We have part 2 coming for you here really soon. And so stay tuned. We're going to jump right back into the technical considerations to be aware of when you're evaluating oil and gas. Thanks so much and stay tuned for part 2.