OIL AND GAS:

Struggling 'mom and pops' smile for investors

NEW YORK -- Battling to survive the steepest petroleum-price decline in decades, independent oil and gas producers have adopted a "glass is half full" attitude as they look forward to rising demand and tight supplies.

Small and mid-sized U.S. petroleum companies are reporting sharply lower revenues as energy-price declines and tight credit markets cut into their bottom lines. But executives of independent oil and gas producers, the "mom and pops" of the petroleum industry, are projecting optimism at an annual meeting with investors here.

"We're well-prepared and have taken the necessary steps to protect the business," said Paul Vincent, manager of investor relations at Swift Energy.

Swift, the largest crude producer in Louisiana, has seen its revenues plummet from $821 million at the end of 2008 to a projection of $345 million to $365 million by the end of this year. Vincent told investors the company is holding its own thanks to careful hedges it has made to guard against uncertainties.

"Risk management is probably more important now than it's ever been," Vincent said.

Just a year ago, the industry was boldly riding a wave of $100-plus crude, but cutbacks of 35 percent or more now seem to be the norm. Linn Energy, another independent producer with operations in Texas, Oklahoma and California, has also seen its cash flow cut in half. The company has a capital budget of $150 million for 2009, down from $315 million last year.

The cuts are being felt most deeply in new exploration and production as producers are apparently focused on maintaining existing operations, confirming analysts' fears that the industry is underinvesting in future output.

In one of the biggest examples, Callon Petroleum says it has suspended operations at its Entrada Field in the deep waters of the Gulf of Mexico after its partner in the venture, a U.S. subsidiary of the Japanese trading house Itochu, pulled out. Geologists estimate that Entrada holds up to 17.6 million barrels of oil.

Fred Callon, CEO of the mid-cap producer, says that other projects have been "put on the back burner" as the industry waits out the downturn.

"Obviously, we are all going through a difficult time," Callon said.

Officials at Denver-based Petroleum Development Corp. say they are cutting capital expenditures by 50 to 60 percent this year. And Denbury Resources, a firm specializing in enhanced oil and gas extraction using carbon dioxide, estimates that its budget will fall from a record $1.2 billion last year to about $750 million for 2009.

Rig count plummets

The fast pullback is most evident in the collapse of the rig count -- a barometer of the strength of North American petroleum exploration activity.

Officials say the Rocky Mountain and midcontinent regions are among the most affected by the deceleration.

Frederick Lawrence, vice president of economics and international affairs at the Independent Petroleum Association of America, or IPAA, says that about 1,000 fewer rigs are operating now than were operating in October 2008, a drop of around 48 percent. Natural gas production has been affected the most, as weaker gas prices have made even many conventional wells uneconomical to develop or operate.

Company officials at IPAA's annual Oil and Gas Investment Symposium here are confirming the grim statistics. Executives at Linn Energy, for instance, say they are planning to drill 89 wells this year, down from 306 wells drilled in 2008. From 13 rigs last year, the company is now running three.

The collapsed demand for rig workers and equipment is also evident in the sharply lower revenues that oilfield service companies are reporting.

Yesterday, Halliburton announced that its net income for the first fiscal quarter of 2009 came to $378 million, down from $580 million over the same period in 2008. The company is blaming the collapsed rig counts in North America for a 53 percent year-over-year drop in operating income there.

"Production has generally been sustained, but the question is, are we developing future production capacity that can be sustainable in the years to come?" Lawrence said. "Once demand returns as the economy improves, will we be able to meet it?"

On the bright side, executives report that their costs are coming down as lower demand is finally pushing oilfield service companies and equipment providers to cut prices. Executives at Goodrich Petroleum, a small producer active in Texas and Louisiana, say that their overall operating costs have fallen by about 25 to 50 percent compared to last year.

"They are starting to come down pretty dramatically," said Walter Goodrich, CEO of Goodrich Petroleum.

But others caution that the cheaper operating environment nowhere near makes up for the lower commodity prices that are choking off the revenue they desperately need to grow production. A steep drop in the markets yesterday pushed crude oil prices to just above $45 a barrel at the close of trading. Natural gas fell to just above $3.50, though producers say a cost environment of $4 to $5 is needed to sustain production.

"Costs are coming down somewhat, but not to the point where we're ready to get more active," said Vincent at Swift Energy.

Gas producers' optimism

Amazingly, even though U.S. domestic natural gas producers have been hit hardest by the economic downturn, they are among the most optimistic of firms that are touting their future prospects to wary energy investors.

Proclaimed John Pinkerton, CEO of Range Resources: "2010 to 2030 is going to be the golden era of natural gas."

They are optimistic, they say, because of the huge potential yield in unconventional shale gas fields.

Many firms say they are continuing to invest in shale gas extraction even as they cut other operations. Though they have been forced to pull back, officials at Goodrich Petroleum say that 65 percent of their 2009 budget is dedicated to developing the Haynesville Shale play in east Texas and northern Louisiana.

But it is the Marcellus Shale in the Appalachian range, a gas field some 14 million acres in size lying mostly in western Pennsylvania, that is generating the most excitement.

"This is a whole new ocean of natural gas that was previously uneconomic and technically unrecoverable," Lawrence said. "For the Marcellus in particular, this natural gas is located close to a sound infrastructure of pipelines and markets in the major Northeast metropolitan areas."

Range Resources, one of the first firms to enter the Marcellus, estimates that the giant field holds upward of 15 trillion to 22 trillion cubic feet of recoverable gas.

"We have just scratched the surface," Pinkerton said.

Companies active in shale extraction say that exploiting the unconventional reserves is proving much more economical with existing technology than previously assumed, and the scale of the potential could see U.S. shale gas development becoming more cost effective than conventional natural gas production.

Shale gas developers keen on making a big move into the Northeast as gas prices recover still have to overcome regulatory hurdles. Regional municipalities are also worried that shale gas development could pollute their water supplies.

But those fights will mostly be left to the future as the petroleum industry concentrates solely on surviving their current challenges. IPAA officials say the best thing their members can do to prepare for the future is to focus on improving access to credit markets and lobby vigorously against any new aggressive taxation that could cut spending on new production even more.

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