Leslie’s Notebook

Crude oil prices have surpassed $50 a barrel for the first time in months! OPEC held its production quotas firm at its March 15 meeting and compliance with those cuts is fairly decent this time around.  And just yesterday, I saw the first Wall Street report where the analyst actually increased his average oil-price estimate for 2009, to $52 a barrel from $50.

Meanwhile, natural gas prices continue to soften, well below $4 most days. But we see the elements of recovery on the horizon–lower drilling rig counts for gas, falling production in most basins. Now we have to hope that while LNG shipments to the U.S. are increasing over 2008 levels, they won’t increase too much and spoil market dynamics.

Drilling in shales continues to prove your best bet. Even smaller companies that are challenged in many ways, intend to keep drilling in them if they can. GMX Resources Inc., under fire from Centennial Partners, said on March 9 that it has reduced its 2009 capex by $70 million to $150 million–yet it still expects to drill 14 net Haynesville/Bossier horizontal wells. And why not? Even though gas prices are below $5 per Mcf, these wells create a rate of return of 25%, president and CEO Ken Kenworthy says.

What do the bigger companies say? Top executives from EOG Resources, Range Resources, Southwestern Energy and XTO Energy shared their views a week ago at the annual Simmons & Co. International energy conference in Las Vegas.

A Simmons report says the panelists hesitated to forecast gas prices for the near term, but all agreed they will range between $6 and $10 per Mcfe in 2010, as production trails off in response to lower rig counts. In this case, the decline curve is your friend.

The commodity will fluctuate around the marginal cost of production.

XTO chairman Bob Simpson looks for $7 to $10 long term. He said the company now estimates U.S. gas production will fall 10% to 12% year-over-year by December 2009–and this will outstrip demand destruction. XTO thinks the Haynesville and the Woodford shales will yield 25% IRRs at $4 per Mcf, assuming tax deferments.

Range Resources CEO John Pinkerton said the longer term looks like $7 to $8. The company estimates that if the U.S. runs 900 gas-directed rigs throughout 2009, production will be down 8% to 9% by December. He also warned that without IDC tax deductions (intangible drilling costs), less capital will go into the ground, delaying any production ramp-up. In the southeast area of the Marcellus, where Range is the major player, it can achieve a 20% IRR at $3.25 gas, due to the rich BTU content and favorable royalties.

EOG’s Loren Leiker, SVP of exploration, agrees with the range of $7 to $8. But he said EOG needs $5 in its core Barnett shale acreage and $6 in the non-core.

Finally, Harold Korell, CEO of Southwestern, says he will ramp back up in the Fayetteville “when they have the people in place and the returns justify it.” Current returns don’t justify increasing activity–but even so SWN will grow its production 70% this year. It needs $5 gas to meet its own internal hurdle rate of spending $1 to get back $1.30–but wells still show a positive present value at $4 per Mcf. 

–Leslie Haines, Editor in chief, lhaines@hartenergy.com

OPEC meets on 15 March. What can we expect? The analysts at Barclays Capital, led by Paul Horsnell, say, “Global fundamental balances argue for no further change in output policy, but the lack of sustained upwards momentum in prices presents the case for ratcheting up the already considerable supply-side pressure.”

Meanwhile, I think it appears that oil has finally found its floor, trading between $40 and $45 for a few weeks now. Wish natural gas would do the same. The next question is, how long before oil rallies in a sustainable way? That depends on world economies–but I just heard this week that in February, China’s exports fell 26% year-on-year, so don’t look for much of a global oil demand recovery any time soon.

The latest EIA projections have reduced non-OPEC supply growth expectations to almost zero and also cut OPEC NGLs growth expectations. “Our view remains that the key dynamic over the next few years will be a sharp fall in non-OPEC supply, so severe as to shock the more complacent current consensus of a fairly flat profile,” Barclays says.

That last sentence really caught my eye, since oil exploration success is not over yet. There have been some wondrous discoveries unveiled lately–Petrobras’ Tupi find and others offshore Brazil take the prize. Then there is the big Jubilee find offshore Ghana as announced recently by partners Tullow Oil, Anadarko Petroleum and Kosmos Energy.  Also worth mentioning is Anadarko’s Shenandoah find in the Gulf of Mexico. 

On the other hand, the oil rig count in the U.S. should fall by nearly 50% in 2009, according to models from the analysts at Friedman, Billings, Ramsey & Co. The oil rig count would then increase 13% in 2010 and another 5% in 2011 and 2012 when oil prices recover, they say.

–Leslie Haines, Editor-in-chief, Oil and Gas Investor, lhaines@hartenergy.com

You’ve seen it here first! I received a research note in my inbox today saying that for oil and gas prices, and thus for energy equities, the worst may be over. So says Ben Dell, analyst with Bernstein.

This is the first major analyst report I have come across that may be calling the bottom.

“We believe the worst may now be behind us in energy,” says Dell. “Oil and gas prices are now trading at the cash cost and while near term fundamentals may deteriorate further, it appears there is limited additional downside risk to the equities.

• We are upgrading the group and now recommend adding beta as the year progresses to take advantage of any rebound in pricing. Specifically we are upgrading TLM, CHK, RIG, ESV, NE and RDC. At the same time, we are downgrading XOM and OXY due to valuation.
• Our top picks in the E&P/Driller & Service space are now XTO, APC, NFX, EOG, ECA, HAL, NBR, RIG, CHK, TLM, PTEN, DVN and APA (all rated outperform). In the Majors, we continue to recommend an outperform stance on MRO, TOT and ENI.” 

–Leslie Haines, Editor in Chief, Oil and Gas Investor, lhaines@hartenergy.com

During CERAWeek 2009 in Houston last week, Saudi oil minister Ali Al-Naimi was the keynote at a dinner for nearly 1,000 attendees, who of course were  eager to hear from him.  It’s a rare opportunity for all of us who cannot go to Vienna every time OPEC meets.

The man seems charming, a gentleman, articulate. He spoke with self-deprecating humor. But I can see that he, and by extension all of OPEC, is caught in the cross-currents of the day. After the global economy rights itself–whenever that is, in 2010 or beyond–global oil demand will surge once again, and with it, oil prices. But until then, OPEC has, since last September, struggled to get control of the oil markets. It has vowed to cut production by more than 4 million barrels a day.

Yet at the same time, Saudi Aramco has been increasing its capital spending and drilling activity over the past two years. Now in mid-year, its megaproject called Khurais Field will come on stream at the rate of 1.2 million barrels a day. That will bring the Saudi’s spare capacity to 4.5 million a day, well above their stated policy of maintaining 1.5- to 2 million a day in spare capacity at all times. And this is happening during a time of reduced global oil demand, when some 80 million barrels are floating offshore in tankers, as marketers wait for demand or prices to turn back up.

At the same time that Al-Naimi called for oil market stability at CERA, and hopes for a price high enough to create a return, yet low enough to sustain world demand, he also acknowledged the need for nuclear power and renewables. He even vowed that one day, the Kingdom will export the same BTU equivalent in electricty from solar, as it now exports in crude!

“All BTUs are welcome and needed–whether they come from renewable energy, nuclear power or fossil fuels,” he said. “While the push for alternatives is important, a prudent approach demands that we recognize the massive scale of the global energy industry, which makes rapid change costly and impractical.

“We must be mindful that efforts to rapidly promote alternatives could have a ‘chilling effect’ on investment in the oil sector. A nightmare scenario would be created if alternative supplies fail to meet overly optimistic expectations, while traditional energy suppliers scale back investment due to expectations of declining demand for their products.”

He also said global cooperation, more research, and government policies to promote increased energy efficiency and conservation are needed. 

“Over time, the world will likely transition away from the current fossil-fuel-based energy economy,” he said.

For more detail on the world oil situation, see the upcoming March cover story in Oil and Gas Investor magazine, or go to OilandGasInvestor.com.

–Leslie Haines, Editor-in-chief, Oil and Gas Investor

The mood at NAPE on February 5 and 6  was marked by as much comraderie as always, with registrations up ftrom last year, and more exhibitors as well. People said they had to attend because their absence would be noted, and no matter what is happening in the industry, they come to catch up with friends and hear the buzz. Many were not seeking nor selling prospects, but instead, looking for JV partners.

But everyone was asking the same burning questions: Is this the bottom? What do you think? When do you see it turning up again?

There are no major speeches, panelists or workshops at NAPE, so no grand pronouncements from on high were forthcoming to ease anyone’s mind or provide insight. Instead, a collective sigh of resignation and maybe, hopeful optimism, was present: “We’ve been through these downturns before, we know what to do, and we’ll be fine. Just got to wait it out.”

Indeed, we heard all of these phrases at one time or another: The industry is dogpaddling. Treading water. Sitting on its hands. Waiting on the sidelines. Drilling to hold acreage and nothing more.

Said one E&P executive, “Drilling costs have come down some, but not enough compared to commodity prices. I think they will come down even more, so I am waiting until April or May to drill my wells.”

Many are waiting–or need to cut back on their drilling plans for other reasons. The U.S. land rig count has come down to about 1,400, vs. a bit more than 2,000 seen at the peak last fall. (Experts predict more rigs will come down, but that the count may in fact bottom out in April, according to The Land Rig Newsletter.)

–Leslie Haines, editor-in-chief, Oil and Gas Investor… lhaines@hartenergy.com

Here is a big tip of the hat to CEO Harold Korell and his whole team at Southwestern Energy Corp. in Houston.

The E&P company is the only energy-related company to make the list of the 10 best performers in the S&P 500 for 2008. That’s quite an honor in this year of all years.

You can thank a glorious set of shale wells and acreage, and good, steady execution. The company’s third-quarter results showed that its Fayetteville shale production in Arkansas was up 75% over the prior year.

The stock has outperformed just about everybody–actually going up and staying up relative to other E&Ps, many of which have gone on a wild ride this year to new highs and new lows. The 52-week high was $52 and change in July–the low was $19.05 on October 10.

In the interest of full disclosure, I don’t own any of this stock (other than if it is buried in some of my mutual funds)–but I wish I did.

The stock closed at $27.78 on Dec. 15.

–Leslie Haines, Editor in chief,  Oil and Gas Investor.  Contact me at lhaines@hartenergy.com.

Perspective is a crazy thing. It allows you to look back in wonder at how much conditions have changed. Earlier this year, Ernst & Young surveyed energy industry executives and analysts around the globe for their energy outlook for the year. The poll results were these, as released in Feb. 2008:

The top 10 risks for 2008:

1.   Human capital deficit

2.   Worsening fiscal terms

3.   Cost controls

4.   Competition for reserves from NOCs

5.   Political constraints on access to reserves

6.   Uncertain energy policy

7.   Demand shocks

8.   Climate concerns

9.   Supply shocks

10. Energy conservation

Now, we unveil the top 10 risks for 2009:

1) The economy

2) Falling energy demand

3) Low oil and gas prices

4) Adverse government interference in energy markets

5) The money crunch

6-10) Double all of the above

–Leslie Haines, Editor-in-chief, Oil and Gas Investor 

Thanks to analyst Richard Nehring in Colorado Springs, Co., we have a great new term to use, “disruptive shales,” that I think perfectly sums up what is happening now and will only be more pronounced in the next few years.

Nehring, founder of Nehring Associates, says there now is, and will be, so much more natural gas production possible in the U.S. that gas prices could be in a for a long and trying siege of volatilty and lower numbers.  See Oil and Gas Investor’s January 2009 issue for his article on this topic.

Just look at the Barnett shale–as of last August (per latest data), production had risen to 4.6 Bcf a day, compared to 3.5 Bcf as of December 2007. At least a further 500 MMcf a day is shut-in, either waiting on more takeaway capacity, or being blocked by local regulatory bottlenecks. This is according to my most recent chat with Gene Powell, editor and publisher of the Powell Barnett Shale Newsletter in Fort Worth.

As E&Ps rightly tighten their capital spending, their disciplined focus is being directed only to their best plays, and that often means the shales. Range Resources is a good example. It plans about 50 horizontals and 25-plus vertical wells in the Marcellus shale in 2009. It will also test 40-acre spacing there. Its current Marcellus production of about 30 MMcf a day is estimated to be, at year-end 2009, nearly 100 MMcf a day, or triple the current output.

Match that kind of progress with that of operators in the Haynesville, the Fayetteville and so on, and you get the picture: Disruptive.

–Leslie Haines, Editor-in-chief, Oil and Gas Investor

Analysts are starting to estimate and calculate when the E&P and service sectors of this industry will look better–whether for stock prices or rig counts or commodity prices. All eyes point to second-quarter 2009. Those of us old enough to know better remember “Stay Alive ’til ‘85.” I’ve been trying to come up with a similar catchy phrase for Stay Alive til 2010, but I can’t seem to invent something clever enough that rhymes, just yet. 

Maybe “In the bull pen ’til 2010″?

Meanwhile, the Baker Hughes Weekly Rig Count fell 3% or 64 last week to 1,725 rigs. This equates to a 12% (236 rig) decline thus far from August highs of 1,961 rigs, says a note from Pritchard Capital Partners. The decline included 49 fewer rigs drilling for natural gas. The Texas count fell by 24 rigs, Louisiana by 16 rigs, Colorado by 10 rigs.

These lower rig counts will take care of the over-supply of natural gas. Now, the economy and thus, energy demand, has to right itself. This will be the more difficult thing to do. It’s ironic that the better we get at finding, drilling and producing, the less people need our product.

Kind of like lower interest rates–if businesses and individuals do not want to borrow money at this time, even a zero-percent interest rate will not be any incentive to activity.

–Leslie Haines, Editor-in-chief, Oil and Gas Investor

Congress is set to take a recess from November 21 to December 8–a two-week escape from grim reality. Meanwhile, the stock market goes down another 200-400 points each day, more layoffs are announced, and businesses seem to be crumbling everywhere.

While Americans may well wonder if their Thanksgiving turkey will be the last good, big meal they eat until June 2009, our elected representatives will flee to their home districts. U.S. workers, on the other hand, are not getting two weeks off, and indeed, most are scrambling to finish up all their year-end projects to meet 2008 budgets and deadlines for their employers.

If I were president, I would order Congress to stay in session until it passes some kind of temporary relief, bridge loan–albeit with many strings attached–for the auto industry.

Talk about fiddling while Rome burns!

Here’s an idea for financing the “bailout”: why not use the nearly $18 billion that the MMS just returned to the U.S. Treasury from oil and gas royalties and lease bonuses in fiscal 2008? After all, if there is no robust U.S. auto industry in two years, how much oil will we need by then?

–Leslie Haines, Editor-in-chief, Oil and Gas Investor