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Seneca Resources Feeling Pinch of Higher OFS Costs, Capacity Constraints

Increased service costs, coupled with ongoing price-related curtailments and pipeline capacity constraints in the Appalachian Basin, have National Fuel Gas Co. (NFG) increasing upstream spending and cutting production guidance in fiscal year (FY) 2018.

Better commodity prices and a ramp in industry activity have increased service costs for NFG’s upstream subsidiary Seneca Resources Corp. by 10-15%. Seneca President John McGinnis said oilfield service (OFS) costs are 20% higher than they were at this time last year. Echoing CNX Resources Corp. management -- the only other Appalachian-focused exploration and production that’s reported to date for this earnings season -- McGinnis said OFS costs are particularly high for pressure pumping services in the basin.

“We’ve seen increases basically across all of our costs,” he said. Pressure pumping is “the biggest piece of our drilling and completion costs, so it has the most impact. Most of our contracts, historically, have been fairly long -- a year plus. As activity has increased, those contract terms have been a little shorter, and so, we’ll see as we go forward what kind of increases there are, or whether we’ll be able to keep it flat.”

Appalachian spot prices improved in January, but Seneca was forced to make 1.2 Bcf of price-related curtailments for FY 1Q2018. Other “marketing and operational curtailments,” along with a slight adjustment to the drilling schedule in the company’s Eastern Development Area (EDA) of north-central Pennsylvania, led to a reduction in FY2018 production guidance. Two new compressors, for example, were almost two months late coming online in the EDA during the first quarter.

Seneca’s capital expenditures guidance has been increased to $300-330 million from a previous range of $275-325 million. Full-year production guidance has been cut by 5 Bcfe to 180-195 Bcfe. All of the volume reductions are from Appalachia, while oil production guidance from fields in California remain unchanged.

NFG also is facing continued delays for the 490,000 Dth/d Northern Access expansion project. It is awaiting one of two outcomes. The U.S. Court of Appeals for the Second Circuit could overturn New York state’s denial last year for a water quality certificate (WQC) for the project, or FERC could issue a favorable ruling regarding a rehearing request to determine whether New York waived its authority to issue a WQC.

CEO Ronald Tanski said there are no timelines for either possible outcome, but management expects the Second Circuit could make a decision by this summer. The Federal Energy Regulatory Commission also could respond to the rehearing request at anytime.

Tanski said the company continues to explore ways to acquire or build more transmission capacity to serve its Western Development Area (WDA) in northwest Pennsylvania, which Northern Access would serve. NFG would be open to pursuing additional projects on its own or with a partner, but “we’re not far enough along to provide any details,” he said.

The company plans to file a FERC application this month for its Empire North project, which would add 205,000 Dth/d to its Empire Pipeline system with more compression.

In the meantime, “Seneca continues to manage its drilling program to focus on drilling and completing its wells where we have adequate takeaway capacity, or the ability to lock in firm sales,” Tanski said.

Two rigs now are splitting time between the WDA and EDA. In the WDA, the company has 10 Utica wells scheduled to be completed this year as it transitions to a full development program in the deep formation. In the EDA, work is continuing to help fill the 190 MMcf/d Seneca has committed on the Atlantic Sunrise pipeline project, which is expected to come online in July.

Seneca produced 40.1 Bcfe in 1Q2018, down from 44.9 Bcfe in the year-ago period and 40.4 Bcfe in FY 4Q2017. The decreases were mainly related to natural well declines, voluntary curtailments, higher production from wells that had been shut-in a year ago, less oil well workover activity in California, and some shut-ins from California wildfires during the quarter.

The upstream segment realized an average natural gas price of $2.72/Mcf in 1Q2018, down 25 cents from the year-ago period as physical firm sales and hedge contracts expired. Oil price realizations increased.

As commodity prices were somewhat challenged and other segments, such as the gathering and utility units, underperformed or reported flat income, first quarter consolidated revenue dropped slightly from $422.5 million in the year-ago period to $419.7 million.

NFG reported consolidated net income of $198.7 million ($2.30/share) for the period, compared with net income of $88.9 million ($1.04) in FY 1Q2017.

CFO David Bauer said the quarter’s net earnings benefited by nearly $10 million (11 cents/share) from U.S. tax reform legislation enacted last year. As a FY taxpayer, Bauer said, the company is required to pay a higher blended statutory federal tax rate of 24.5% for FY2018, which is expected to decline in FY2019.

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