IPAA: Lack of good prospects undermines drilling activity

The relatively low US rig count this year is due in part to the lack of good prospects, said speakers at the 73rd annual meeting of the Independent Petroleum Association of America.

Oct 30th, 2002

Sam Fletcher
OGJ Senior Writer

HOUSTON, Oct. 30 -- The relatively low US rig count this year is due in part to the lack of good prospects, said speakers at the 73rd annual meeting of the Independent Petroleum Association of America on Monday and Tuesday in Dallas.

Low-risk drilling projects in developed plays are "harder and harder to come by," said M. Scott Cone, president of Tri-C Resources Inc., a privately held Houston-based independent whose operations are strategically divided into 25% high-risk wildcats, 50% moderate-risk exploration close to existing production—"next fault block up, next fault block down"—and 25% low-risk extensions and additions in developed areas along the Texas-Louisiana Gulf Coast.

Lack of low-risk and even moderate-risk projects "skewed our (operations) model" during 2000-01, he said. "We shifted to sheer exploration, and we got our heads handed to us. We learned a lesson, and got our portfolio in order."

Tri-C Resources' strategy is to explore for new resources, get them into production, and then sell the properties "while production is flush" to fund more exploration. "We're a supplier of producing properties," said Cone, during a CEO roundtable session Tuesday at the IPAA meeting. "We started doing that because at first we had no choice, with no access to capital."

Being under the gun "to constantly produce results is a brutal way to make a living," he acknowledged. However, the small company—20 employees —has a 66% success rate on the 563 wells it has drilled. Successful completions this year exceed 70%, Cone said.

At that same session, Cloyce Talbott, CEO of Patterson-UTI Energy Inc., Snyder, Tex., the second biggest US land drilling contractor behind Houston-based Nabors Industries Inc., said, "More companies are asking us to take a piece of their prospects (as payment for drilling) than I've ever seen in my long career in this industry. The small independents are having a hard time selling their prospects."

Market outlook
At a later session Tuesday, Robert Morris, a market analyst with Salomon Smith Barney Inc., New York, said US producers "don't have the prospects to put another 50-100 rigs to work" without some indication of a significant increase in natural gas prices. "Companies have not been investing money to tee up new projects," he said. US producers this year have keyed about 21% of total exploration and production budgets toward exploration, down from 27% last year, he said.

A projected average price of $3.50/Mcf next year will support a US fleet of only 800-850 active rigs, said Morris. Baker Hughes Inc. reported 856 rotary rigs were working in the US last week, down from the year's peak to date of 883 during the first week in January.

However, if oil prices hold at their current levels instead of dropping back to $20/bbl as projected, Morris said, "We're probably looking at $4-5(/Mcf) gas next year."

Among investors and financial analysts, "commodity prices, particularly oil, are perceived as more likely to fall than rise," said Thomas A. Petrie, CEO of Petrie Parkman & Co., at a Monday session. "I'm not at all convinced that's right, but most see compelling evidence."

An oil price of $25/bbl is "supportable," said Petrie. Anything above that level constitutes "an insecurity premium."

Industry's crisis
He claims a "crisis of confidence" in the US energy industry apparently is "morphing into disfunctionality" in the wake of the Enron Inc. scandal and the resulting impact on the energy trading industry. Petrie cited as evidence:

-- Congress's failure to enact "effective energy legislation" prior to recessing for election campaigning.

-- Congress's failure to fund a new budget for the Securities and Exchange Commission "at a time of obvious priority."

-- Usurpation of the SEC's authority and functionality by New York Atty. Gen. Eliot Spitzer and his counterparts in other states who filed—or contemplate—lawsuits and charges against investment banks.

-- The SEC's "overreaction" in broadening the "definition of insider trading in the Martha Stewart case, without considering the adverse impact that will have on the market."

Meanwhile, Petrie claimed, the "window" for access to outside capital for oil and gas producers "is not closed, but there's a higher bar that companies must hurdle (to qualify), and the cost of that capital is high." Moreover, he said, "The industry must demonstrate it can generate, sustainable, credible returns."

Sophisticated investors still "look at this sector as a value play," said Petrie. "But the Enron fallout has made lots of people skeptical."

"Commercial banks continue to play an important role in financing small-to-midsize independents," said D. Martin Phillips, managing director of EnCap Investments LLC. However, he said, there is a limited number of banks available because of consolidation. "Some $500-600 million of annual available capital has been pulled out of the market," he said.

IPAA members at the meeting were cautiously optimistic about the future. As IPAA Chairman Diemer True said in the opening session, "IPAA has the wind at its back, although there are a lot of challenges before us."

Contact Sam Fletcher at samf@ogjonline.com

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