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FBR: U.S. Gas Rig Count in 'Free Fall'

With the North American natural gas rig count in "free fall," FBR Capital Markets Friday lowered 4Q2008 earnings estimates for the oil services sector by 9% and slashed 2009 estimates by an average of 21%.

Schlumberger Ltd., the largest oil services operator, on Thursday said it was laying off 1,000 people, or around 5%, of its North American workforce, and it said if market conditions didn't improve, more layoffs could occur. Schlumberger employs more than 84,000 people in 80 countries, including around 19,000 full-time North American employees. The layoffs began last week.

To cope with the downturn in natural gas prices and the recession, many of the top North American gas producers in recent weeks have cut their planned capital expenditures for 2009 (see related story). Those cost cuts are bleeding into related energy businesses, FBR noted.

"Our channel checks indicate that one of the largest, financially secure operators is releasing almost all of its spot rigs in the Barnett [Shale], which is one of the lower-cost production regions," wrote FBR analysts Robert MacKenzie and Doug Garber. "Another financially secure Barnett operator could not find a bidder for a sublet, even at a 35% discount. Since the Barnett is one of the lower-cost production regions, we expect greater deterioration in other, higher-cost regions of the U.S. land drilling market."

The "next step" for domestic land drillers is to renegotiate term contracts "or contractors could risk cancellations, as some small operators may not have enough cash to meet their payments in a reduced natural gas price environment," said the duo. "We maintain our thesis that we would not try to catch a falling knife."

Based on FBR's assumption that "almost all spot rigs could be laid down," analysts adjusted their 2009 average U.S. land rig count forecast to 1,180 from 1,450, which is 34% lower year/year. "From peak to trough, we are forecasting a 45% decrease from the peak of 1,938 rigs to a trough of 1,066 12 months later in 3Q2009. This is comparable to the 2001-2002 decline of 44% over nine months and the 1997-1999 decline of 56% over 20 months."

Meanwhile, analyst John Gerdes and colleagues at SunTrust Robinson Humphrey/the Gerdes Group (STRH) are forecasting a one-third reduction in U.S. gas drilling activity, with the average rig count dropping to around 1,000 this year. That drop "appears necessary" to align exploration and production company capital spending with cash generation, "assuming a $6 average gas price, and lower production sufficiently to rebalance the market, given a 20% increase in well productivity."

Even cutting the gas rig count by one-third would result in only a "modest" decline in U.S. output, said Gerdes. STRH's forecast is similar to recent reports by other energy analysts including Barclays Capital and Raymond James & Associates Inc.

"This year, onshore well productivity is projected to increase a further 20%," with the Haynesville Shale accounting for almost 10% of onshore activity. "Haynesville Shale development alone is expected to improve overall of U.S. onshore well productivity this year almost 5%," said Gerdes.

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