Raymond James & Associates Inc. affirmed recent private and government forecasts that U.S. natural gas production is indeed on the rise, but the ever-bullish energy analyst said last week that the growth's long-term sustainability is "unlikely."
A survey of publicly traded U.S. oil and gas producers by Raymond James, including majors and independents, concluded that U.S. natural gas production rose 2% year-over-year in 3Q2007, marking the first quarter of year-over-year growth since 2Q2006. The survey also indicated a 0.6% sequential increase from 2Q2007.
Earlier this month analysts with SunTrust Robinson Humphrey/the Gerdes Group reported that 3Q2007 production jumped 3.5% from a year ago and rose sequentially 1.1% (see NGI, Nov. 19). Energy Information Administration gas surveys this month also indicated that gas production was trending upward (see NGI, Nov. 12).
"While the 2% year/year growth in 3Q2007 is fairly modest given the 20% increase in the gas rig count over the past 24 months, it provides further evidence for our cautious gas outlook for 2008, which is also bolstered by our view that U.S. liquefied natural gas (LNG) imports will rise materially in 2008," wrote a trio of Raymond James analysts led by Wayne Andrews.
Notably, said the analysts, most of the incremental drilling activity is happening in unconventional gas resource plays with high initial decline rates. For instance, in the Barnett Shale of Texas, "year-one production declines are typically well in excess of 50%." Raymond James revised its natural gas outlook in July to incorporate some of the core supply increases reported in the first six months of 2007 (see NGI, Aug. 6).
"We believe that this stronger initial productivity from the gas resource plays is the biggest driver of the uptick in overall U.S. productivity per well," wrote Andrews. "In addition, growth is also coming from the recent start-up of the Independence Hub in the Gulf of Mexico. We believe that production growth will carry over into 2008, to the tune of over 1.9 Bcf/d (2%) year/year."
However, as the decline rate "treadmill" for U.S. gas output gets steeper and the downward trend in initial production volumes from new wells resumes, "it should become exceedingly difficult to grow supply without even greater increases in the rig count; and could make it nearly impossible with slower growth in drilling activity," the Raymond James analyst wrote.
Given the ramp-up in drilling activity, overall production growth "seems low by comparison. Despite the doubling in gas drilling activity over the past five years, U.S. gas production only recently began to show any signs of growth." The majors and the gas utilities have shown the "biggest declines" in gas production, and in 3Q2007, this trend was further emphasized, "with volumes down 8.4% year-over-year. Moreover, the sequential change...was once again negative (down 1.9%), providing further evidence of this group's downward trend."
Why is this important? Andrews and company said the majors and utilities represent about 20% of U.S. gas supply, and drilling activity in this group has been "relatively flat" since 2003. "This indicates that further declines lie ahead for this group."
The independents have historically driven drilling activity increases, but Raymond James analysts also wondered what will happen when their activity slows. "Specifically, the public independents have been responsible for putting an additional 64 gas rigs to work (a 12% increase) over the past year (Sept. 2007 versus Sept. 2006), while their gas production in 3Q2007 rose 9% year-over-year. This compares to a 22% year/year increase in drilling activity in June.
"With the rig count beginning to flatten, how will the public independents be able to shoulder the load and offset the declines from the majors?" asked Andrews. "For now, higher well productivity is driving onshore growth, though its long-term sustainability is unlikely."
Andrews noted that only a "few" of the independents surveyed drove a sizable piece of the group's growth -- from onshore operations. "Without the impressive organic growth from Chesapeake Energy, EOG Resources, Ultra Petroleum, Williams Companies and XTO Energy, the E&P [exploration and production] group's year-over-year growth would not have been 9%, but rather 4.5%."
The Raymond James survey covers about 50% of total U.S. gas production; the other 50% "largely consists of smaller, mostly privately held, E&P [exploration and production] companies," it said. "Given the vast number of these small players, it is difficult to get an accurate assessment of what their production is doing. However, we do know that over the past 12 months the number of gas rigs among private companies not included in our survey rose only 10%, in line with the increase among public producers (total for majors and independents)."
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