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Canada's E&P Prospects Looking Better, Say Analysts

Stronger-than-expected earnings results in the first three months of this year has led several energy analysts to raise their 2008 forecasts for Canada's exploration and production (E&P) sector.

High commodity prices and lower fundamentals reported by some of Canada's integrated E&Ps led energy analysts Amir Arif and Hui (Parker) Wang of Friedman, Billings, Ramsey & Co. Inc. (FBR) to up their previous earnings forecasts for Canadian producers.

"Operating costs were generally in line with our expectations, well above previous quarters' levels, reflecting cost pressures," they wrote in a note to clients. "We are revising our estimates to reflect the reported 1Q2008 results. We continue to believe that crude oil fundamentals are tighter than other commodities, and meaningful upside for the space exists, simply for the discrepancy between consensus and futures alone."

Even if oil and natural gas prices were to recede from their current levels, Arif and Wang said they thought this year's earnings for Canadian producers likely would continue to improve.

Some producers, including Canadian Natural Resources Inc., already have increased their capital spending programs for 2008 based on the higher sustained prices. Some are adding to their upstream spending outside of Alberta, which is revising its royalty regime, with a lot of money pouring into neighboring British Columbia, where the Horn River Basin is attracting a big following.

Calgary-based FirstEnergy Capital said new reserves have to be found to ensure that Canada's gas output can be sustained at its current level of 17 Bcf/d, but to do that analysts said gas prices will have to remain higher. FirstEnergy is optimistic that will happen this year; it already has raised its price forecast for gas twice in the past two months.

According to FirstEnergy's Martin King, normal winter conditions improved demand growth have led to a strong gas storage pull in the United States, which in turn assisted Canadian producers in 1Q2008. The upswing in gas prices has been "phenomenal," he said, and rising U.S. consumption and a tight liquefied natural gas market helped offset gains in U.S. production.

FirstEnergy now is predicting that gas prices will average US$9.75/MMBtu in 2008 and US$9.50 in 2009. The AECO Hub in Alberta is expected to have average prices of around C$9.01/gigajoule this year and next, according to the analyst. And beyond 2008 the gas market should sustain higher prices as climate change regulations push demand for gas-fired power generation, said King.

"Low double-digit gas pricing will become a reality, given that North America has to migrate closer to global gas price levels."

Analysts with Peters & Co. point to the gas reserves finds in northeastern British Columbia as offering a good sign for Canadian gas producers. Most of the horizontal wells in the Montney development of the Horn River Basin are economic at gas prices of C$6.50/Mcf, with "already superior returns" improving as the operators gain more experience in the emerging basin, according to Peters.

Well costs in Montney are averaging around C$10 million apiece, but some operators already have begun to bring the prices to a range of C$6 million to C$8 million, according to Peters.

Cameron Hanover's Peter Beutel also offered an optimistic forecast for 2008 -- if oil prices were to remain steady or go higher and the U.S. dollar were to remain weak. As oil prices rise, "gas would go along for the ride," said the consultant. "It would be kind of hard for natural gas to not be at something between $16.50 and $20" per MMBtu if oil prices were to continue upward.

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