On average, U.S. gas production appears to have been up slightly(2%, according to financial reports from 25 producers) at of theend of the third quarter compared to 3Q99. However, there was awide variation among producers, with some reporting huge increases,such as Mitchell Energy, Devon and Coastal, while others reportedlarge declines, including Amerada Hess, Texaco, Kerr McGee andOcean Energy (see preliminary tally below).

Nearly all of the producers showed huge realized gas priceincreases, with an average hike of $1.40/Mcf. Occidental showed thelargest price increase, a jump of $2.06/Mcf in its realized gasprices. Cabot Oil & Gas managed to capture an increase of only58 cents, however, with a realized price of $2.90/Mcf for 3Q2000.

But the production contrast may have been even more strikingthan the prices as producers at varying speeds and with varyingtechniques began to make a turnaround from last year’s slump tothis year’s recovery. Acquisitions are up significantly this yearand are expected to continue to increase, which has causeddifficulty for those attempting to make apples-to-apples productioncomparisons year to year, several analysts noted. That is the casewith Devon Energy, for example, which in the past year and a halfhas had three acquisitions, including the latestpooling-of-interests merger with Santa Fe Snyder. Devon reported a37% increase in U.S. natural gas production to 972 MMcf/d. Anadarkoreported a massive 229% increase in U.S. gas production to 1,498MMcf/d. But when 1999 production figures from its merger partnerUnion Pacific Resources are combined with its own 3Q99 figures, thecompany shows a U.S. gas production decline of 12%.

Others, such as Apache, had medium sized purchases but also madelarge gains through the drill bit. Apache reported a 15% increasein U.S. gas production to 572 MMcf/d.

Then there were those who had been hugely successful in findinggas in the ground during the quarter. Mitchell Energy, which raisedits gas production by 38%, topped the list in the plus column on apercentage basis. It did it the old fashioned way, i.e., throughthe drill bit, as did Coastal, up 33% to 877 MMcf/d, and CrossTimbers, which reported an 18% hike in U.S. gas production to 342MMcf/d. Still others showed large declines, such as Ocean — down10% to 386 MMcf/d — because of asset sales.

“Most of the growth that your seeing among the E&P companiesis coming from acquisitions,” said J.P. Morgan producer analystWaqar Syed. “There is some organic growth, but it’s just a fewcompanies.” Syed laughed when asked if he expected the strongacquisition trend to continue. “Yeah, I expected it to continuebecause companies aren’t growing production through the drill bitso they have to acquire others.

“You have to explore your way out this time, but companies stillare not willing to take that much risk. These companies will go anddrill in areas that they know. They’ll do some infill drilling,workovers and easy stuff like that. But that won’t materiallychange your production outlook if you’re just fighting high declinerates,” said Syed. “They’re just finding enough gas to offsetdeclines.”

Irene Haas of Sanders Morris Harris agreed that many of theproduction increases being reported are a result of consolidationamong producers. “There has been and will be more consolidationgoing on because for a lot of the small firms it just doesn’t makeany sense any more,” she said. “They really have few compellingreasons to be public anymore because the equity market is notlooking to the small caps very favorably. For those who have gottenthemselves in a bind [over the past year or two], be it throughwrite downs or things of that nature, and still have not been ableto repair it, I think they’re going to have a tough time gettingmoney out of the public market. For that reason, I don’t think youwill see very many IPO’s coming out. Secondarily, the existingsmaller companies will just be consolidated by the Devons andApaches of the world.”

Haas believes when all is said and done for the third quartershe will see a production decline. Going forward, she expects tosee little change in that picture. “I expect third quarter, thisyear compared to last year, to be down because it’s been hard. Ijust don’t expect the big players, such as BP Amoco and ExxonMobilto grow a whole lot.” ExxonMobil reported a 0.2% decline in U.S.gas production for the quarter.

“The geology is getting real mature,” Haas noted. “It’s hard tofind new fields or deposits large enough to make those numbers growsubstantially unless you go ultradeep or do a lot of coal-bedmethane. I think we are hitting a bit of a brick wall here. I’mskeptical about whether all the additional drilling is reallygenerating an incremental increase in supply.”

Goldman Sachs released a report this week projecting U.S. gasproduction growth next year of 4-5%. “I just couldn’t believe it,”said Haas. “I’m having cognitive difficulty expecting that muchgrowth. The geology just doesn’t support it. It’s physicallyimpossible.”

Syed concurred. “A lot of these companies will make claims thatthey will grow production by X and X amounts but very few of themwill actually live up to that. A lot of companies will miss theirnumbers. That’s what we’ve seen historically. I think we’ll seesomewhere between zero and 2% gas production growth. That would bea good number for next year. But if you have good demand growth, Idon’t think there will be enough to meet that. You will have atight market. If demand suffers to like 1-1.5% growth, they shouldbe able to meet that.”

Haas noted that the tendency among producers when gas prices arehigh is to drill more but to drill for smaller finds with highdecline rates. “That’s the kind of game we’re playing right now.Simply because the rig count doubles doesn’t mean they are being asefficient as they have been in the past. They’re drilling for stuffthat can go poof!”

Salomon Smith Barney uses a model based on the Baker Hughes rigcount that projects production additions per rig using a historicalcalculation. Although some observers, such as Irene Haas, mightexpect that model to be declining in accuracy, Michael Schmitz,Salomon’s small cap producer analyst, insists it’s been on targetthis year.

“It’s saying production for the third quarter versus the secondquarter (2000) should be up around 1%. It says third quarter ofthis year versus third quarter of last year is still down about0.5%.

“We also take a survey of some of the larger producers thatrepresents about 50-65% of production,” said Schmitz. “Looking atthird quarter compared to second quarter based on 20 companies thathave actually reported results and another 20 that have estimatedresults, we show U.S. gas production up about 1.2%. And for 3Q2000versus 3Q1999, our survey shows it down about 0.3%.” But the juryis still out because half the producers still have not releasedtheir third quarter numbers.

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