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The Process: Streamlining Field Operations
By Cheryl Hudak
Turning unconventional reserves into economically viable production requires a full toolbox of high-tech drilling and production techniques such as horizontal drilling and hydraulic fracture stimulation.
Such technologies are capital intensive to develop – and service intensive to execute.
To manage its rapid-fire growth and control the capital demands of new technologies, Chesapeake started moving toward a vertically integrated structure in 2001 by owning many of the businesses that provide services or equipment needed to produce natural gas and oil. Today, Chesapeake owns one of the nation’s largest oilfield service companies while most of Chesapeake’s peer companies have to purchase 100% of those services or equipment from outside vendors.
“Chesapeake is the most vertically integrated independent exploration and production company in the nation,” said Steve Dixon, Executive Vice President – Operations and Geosciences and Chief Operating Officer. “Ultimately, it is the key to our superior performance – we’ve seen that over and over again.”
A company-owned chain of 12 service and supply affiliates operates upstream from the natural gas and oil Chesapeake produces, providing significant benefits in cost and quality control, timeliness and flexibility.
“When Chesapeake needs to quickly ramp up an area, as we did recently in the Utica Shale, our vertically integrated structure allows us to make and execute decisions very quickly – without broadcasting our moves to the competition. That keeps our edge on the next big deal,” said Jerry Winchester, Chief Executive Officer of Chesapeake Oilfield Services (COS).
Operating flexibility is equally important as the company refocuses on liquids-rich production.
“We can shift rigs from one place to another,” Winchester noted. “We just moved four rigs from the Barnett Shale straight into western Oklahoma as part of our natural gas to liquids strategy. Most independent operators would have to break, renegotiate or replace contracts to do that, as well as pay rig-moving fees. But since Chesapeake is vertically integrated, we can move rigs wherever they are needed.”
Dixon agreed that company-owned service and equipment providers have become key factors in the company’s operational excellence.
“Our vertically integrated structure allows us to be a first mover, to mobilize and ramp up activities in the shortest time possible,” Dixon explained. “Also, we have been able to maintain leadership in horizontal drilling and new technology, buying fit-for-purpose equipment required to launch new operations quickly and get the very best from our operations.
“Another advantage of vertical integration is that it allows us to set our own very high safety and environmental standards,” he continued. “That actually reduces our liability, because we have more control over our own companies than we have over third-party vendors. We can control procedures and training more efficiently and consistently, so we can ensure we are meeting regulations.”
Although vertical integration can be expensive to implement, it offers financial advantages by reducing the uncertainty of using outside vendors and services, and by gaining higher public market valuation for assets. Chesapeake Midstream Partners L.P. (NYSE:CHKM), which IPO’d in August 2010, contains valuable natural gas gathering, compression, processing and treatment assets that had not been not fully reflected in Chesapeake’s stock price. By placing them into a master limited partnership with Chesapeake as a sponsoring partner owning 46%, Chesapeake was able to monetize those assets, gain higher market valuation for midstream cash flows, reduce infrastructure delays and capture midstream profits – all while providing an attractive investment opportunity for CHKM unit-holders and Chesapeake’s shareholders.
“The ramp-up speed afforded by our vertical integration has also been a key element in completing our numerous joint venture partnerships,” said Dixon. “Joint ventures require a rapid rate of return based on how fast we can convert our partner’s investment into production and cash flow. Because they know we can come through and execute these aggressive activity ramp-ups, companies are comfortable partnering with Chesapeake in these historic joint ventures.”
The success a company achieves through vertical integration is predicated by its scale, utilization and organization.
“It is hard to make vertical integration work in a small company running 10 to 15 rigs,” Winchester said. “But when you run more than 150 like Chesapeake, you have the critical mass necessary to make it work – and we’re committed to do two-thirds of our field services in-house.”
Dixon agreed, adding, “We’ve been so successful with vertical integration because of the size of our operations and our high activity level. Our vertically integrated units are nearly 100% utilized.”
Strong management teams and effective communications are also prerequisites for vertical integration success, according to Dixon.
“We have excellent management teams in all our service affiliates,” he said. “They are also good communicators, which leads to operational effectiveness and continual process improvements.” The groups hold weekly meetings between the drilling team, Chesapeake Oilfield Services and Chesapeake’s operating leadership teams.
Chesapeake plans to take the concept of vertical integration even further.
“Our integrated systems ensure better training and cross-training, but we can up the game,” Dixon asserted. “One of our goals is to professionalize the rigsite. That will make the future better for employees of the integrated units, because we can offer our service employees better opportunities and a career path they’ve never had before.”
Many of those employees will soon be part of a new entity: COS, which is currently building its management team while readying for an IPO in 2012. As its new CEO, Winchester has confidence in Chesapeake’s vertically integrated structure and the future of COS.
“You learn to succeed by a combination of experience and necessity – and our service units have both of those,” he said.
...an “independent” oil and gas company?
An exploration and production company that receives nearly all of its revenues from natural gas and/or oil production at the wellhead, with no significant refining or retail operations. (Examples: Chesapeake Energy Corporation, SandRidge Energy Inc., Anadarko Petroleum Corporation, Devon Energy Corporation)
...a Major Oil Company?
A company engaged in the exploration and production of oil and gas that also has significant activity in oil refining, retail marketing and transportation. (Examples: Exxon Mobil Corporation, ConocoPhillips, Royal Dutch Shell, BP)
Chesapeake affiliates work together from spud to first sales
Producing oil and natural gas requires many steps between drillsite construction and selling production down the pipeline. Chesapeake’s field service affiliates provide the company control over the entire process. We have listed them below and included the year in which we founded or acquired them:
Chesapeake Energy Marketing, Inc. (CEMI) (1995) handles oil, natural gas liquids and natural gas marketing, price structuring and nomination services
Chesapeake Midstream Development (2002) provides gathering and compression services to move the product into pipelines
*MidCon Compression (2008) provides gas compressor equipment and related services
*Compass Manufacturing (2008) supplies gas compressor packages and related equipment to MidCon Compression and Chesapeake
*Nomac Drilling (2001) provides drilling services to Chesapeake and third-party clients
*Nomac Services (2011) delivers integrated directional drilling, mud logging, geosteering and geotechnical services
*Performance Technologies Limited (PTL) (2011) provides pressure pumping for hydraulic fracturing completions
*Thunder Oilfield Services (2011) formed to hold Chesapeake’s trucking, tool rental and excavating service businesses
*Hodges Oilfield Trucking (founded in 1932, acquired in 2006) offers heavy hauling and rig transportation
Oilfield Trucking Solutions (2010) provides water transfer services in the Marcellus and Utica shales and hauls crude oil in the Eagle Ford Shale
*Great Plains Oilfield Rental (2006) supplies tools and services, including drill pipe, drill collars, tubing, BOPs and frac tanks
*Keystone Rock and Excavation (2010) supplies gravel and aggregate
*Included in Chesapeake Oilfield Services, L.L.C. (COS)