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Questar: Midcontinent Returns Beat Rockies

Noting that investors tend to view his company's exploration and production (E&P) unit as a Rockies play, Questar Corp. CEO Keith Rattie said next year the unit will take its capital out of the Rockies and spend it where returns are more attractive, namely northwestern Louisiana and western Oklahoma.

"We're going to move capital in Questar E&P to where the margins remain attractive at current forward prices," Rattie told financial analysts during an earnings conference call last Thursday. "We're shutting down all gas-directed drilling in the Rockies except at Pinedale. At Pinedale we'll cut back from 12 to nine rigs, and we'll allocate capital for oil-directed drilling in the Uinta Basin and the Bakken. We're going to allocate more capital to our Haynesville [Shale] and Cotton Valley Hosston plays in northwest Louisiana and our Woodford Shale play in western Oklahoma."

Driving the decision is the expectation that Rockies basis will "remain wide for the next couple summers." Rattie said the Pinedale offers the lowest cost per Mcfe production in the Rockies. "In fact, it may be the only major play in the Rockies with acceptable returns at current forward prices and current costs," he said. "Even with the slower ramp-up at Pinedale, we still expect solid production growth from our Pinedale play next year."

Deciding to suspend all gas-directed drilling in Questar E&P's Uinta Basin and Legacy divisions was a tough call, Rattie allowed, given recent success in the Uinta where over the past few months several deep wells have begun producing gas for sale at initial rates above 5 MMcf/d. "But given margins and returns at current Rockies prices and given our focus on returns, we've got better places to put capital to work in our diversified portfolio as we cut back to live within our cash flow."

For 2009, Rattie said Questar Corp. capital spending will be $1.6 billion, down from $2.6 billion this year. Excluding property acquisitions, the reduction comes out to about $300 million, he said.

Additional pipeline capacity out of the Rockies will go a long way toward making the region attractive again. Rattie noted that the last five years have seen the construction of three major Rockies export pipelines, and Questar has played a role in each of them by expanding upstream facilities to increase deliveries.

"But by August this past summer, all of those new pipes and all of the existing Rockies export pipes were full," Rattie said. "Simply put, Rockies production can't continue to grow at anywhere near its historic rate until new export pipelines get built."

In the works, Rattie noted, are:

But that still won't be enough capacity.

"...Even if all of these pipelines get built, our models show that Pinedale volume growth alone could fill them all, even if all of the other plays in the Rockies stay flat," Rattie said. "In short, we need another major Rockies export pipeline by 2012."

Questar Overthrust Pipeline Co. and partner Alliance Pipeline Inc. have been working on just such a project, the Rockies Alliance Pipeline (RAP). An open season earlier this year garnered 500 MMcf/d of interest among producers and Midwest markets (see NGI, June 30), but Rattie wants more. Questar and Alliance plan to hold another open season, probably running from December to January, for a revamped RAP, which would run from Wamsutter, WY, to the Joliet Hub near Chicago. Rattie said another 800 MMcf/d of shipper commitments will be needed to move forward. The partners hope to bring in another major pipeline company as a partner before the open season, Rattie said.

"Based on our pipeline team's discussions with Rockies producers, we're convinced we need a 42-inch [diameter] bullet from Wyoming to Chicago," Rattie said, adding that Questar E&P would make a significant capacity commitment to RAP. "Our message to other Rockies producers today is this: Let's fix the basis problem. Help us get a new pipeline built to Chicago by 2012."

Questar Corp. net income grew 80% in the third quarter to $204.2 million, $1.16/share, compared to $113.3 million, 64 cents/share, for the third quarter of 2007. "All Questar business units posted record net income in the first nine months of 2008," said Rattie. "Questar E&P grew natural gas and oil-equivalent production 20% in the period, driven by a 32% increase in Midcontinent production."

The company said it expects full-year 2008 net income to range from $3.70-3.80/share compared to previous guidance of $3.50-3.60/share. The revised guidance assumes that the Nymex/Rockies basis differential will range $2.00-3.00/MMBtu for the remainder of 2008, compared to the $3.50-4.50/MMBtu factored in previously. The guidance assumes the Nymex gas price will range $6.00-7.00/MMBtu for currently unhedged 2008 production for the rest of the year, and the prompt-month Nymex crude oil price will range $70.00-80.00/bbl for unhedged volumes.

For 2009 net income could range $3.05-3.25/share, Questar said. This assumes that the average 2009 New York Mercantile Exchange (Nymex) gas price will range $6.50-7.50/MMBtu for currently unhedged production and that the average 2009 prompt-month Nymex crude oil price will range $70.00-80.00/bbl for unhedged volumes.

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