Lehman Bros. U.S. Gas Production Has "Turned the Corner"

Lehman Brothers confirmed Friday that beneath the hefty first quarter earnings for oil and gas companies a more compelling tale is unfolding as both majors and independents operating in North America benefit from the move to the drill bit. Production numbers are mixed, but many report that production is up significantly --- and some predict the best is yet to come.

Reviewing natural gas production from 29 of the largest U.S. producers that produce about 45-50% of U.S. gas, Lehman analyst Thomas Driscoll found that production has increased 2.2% over the fourth quarter.

"Our updated production survey...shows that U.S. production has turned the corner," Driscoll said. "The production figures show a quarter-to-quarter and year-over-year production increase of just over 2%."

The Lehman Bros. analyst predicts that about 0.5% to 0.6% of the quarterly increase related to companies rejecting natural gas liquids in the short-term, and in January, natural gas production volume gains came from companies "rejecting" ethane, propane and other NGLs, which added about 1.3% to natural gas volumes.

However, by February and into March Lehman Bros. found that the economics of "stripping" NGLs from the natural gas stream were "much more favorable" than in January, and that enhancement to volumes was "sharply reduced...and that the first quarter average increase was perhaps 0.5%-0.6% of volumetric natural gas production."

Lehman Bros. also is forecasting natural gas prices in the range of $5.00/MM Btu in 2001, $4.00/MM Btu in 2002 and $3.50/MM Btu in 2003.

In its forecast last week, Salomon Smith Barney also predicted that first quarter domestic gas production levels for the top 40 producers would be up 0.8% from the first quarter of 2000 and 1.8% from the fourth quarter to 27.3 Bcf/d. In total, Salomon estimates the top 40 U.S. and Canadian companies represent roughly two-thirds of total domestic production.

"Interestingly, though the integrated producers tended to be the major culprits in overstating domestic natural gas production in recent quarters, the aggregate first quarter domestic natural gas production for the six integrateds that have reported to date have slightly exceeded estimates," SSB analysts said in a research note. "Meanwhile, the independent producers, on average, have thus far met or slightly undershot domestic natural gas production estimates."

Of course, earnings are up across the board, mostly because of the higher price of natural gas in recent months. Many of the larger independent exploration and production companies, like Apache Corp. and Anadarko, brought production up with producing acquisitions. Others, such as Mitchell Energy & Development Corp. and Cross Timbers Oil Co., concentrated on the plays already within their grasp. In either case, the plan seemed to guarantee a successful quarter.

Majors Exxon Mobil, Texaco, Chevron and Conoco all reported record earnings, mostly because of higher commodity prices. Exxon's production levels actually were down in the first quarter 7%, and Texaco's was down 8%, but through acquisitions, Chevron saw its production jump 6%. Conoco also had a modest 2% increase.

For the U.S. independents, it also is a mixed bag, but some of the more maverick of the group managed to find success in the Gulf of Mexico, Rocky Mountains, and for Mitchell Energy, the Barnett shale property in Texas.

Some of the higher producers in the first quarter of 2001 included the following companies:

Spinnaker --- This Houston-based independent saw its production levels rise 156% from a year ago, and its first quarter earnings set a record with net income of $28.1 million, or $1 per share, compared with $3.1 million or 15 cents a share in 2000. Its production was up to 12.4 Bcfe in the first quarter, compared with 4.9 Bcfe a year ago, an increase of 7.5 Bcfe. Spinnaker's fourth quarter production alone was up 10%, and its current daily production rate increased 124% to nearly 150 MMcfe from 67 MMcfe at the end of first quarter 2000.

Apache --- At this large Houston independent, production was up 31% in the quarter, attributed partly to acquisitions made since a year earlier. Net income rose to $277.3 million, or $2.15 per diluted share, up from $104.2 million or 90 cents per diluted share in 2000. Thomson Financial/First Call had predicted earnings of $2.13 per share. Its revenues were up to $795 million from $448 million, and its basic earnings per share were up to $2.235 from 92 cents a year earlier. Natural gas production jumped 33% to 988 MMcf/d, reflecting contributions in part from global acquisitions in Egypt, Argentina and Canada that closed in the first quarter.

Newfield Exploration --- Based on production growth of 37%, this Houston-based independent reported even better news last week: it expects to meet or exceed its 2001 production target of 170 Bcfe, an increase of more than 20% over 2000 production levels. Earnings-wise it was also a keeper quarter, with net income for the first quarter standing at $58.4 million, or $1.22 per share, on revenues of $209.3 million. This compares to net income of $15.2 million, or $0.36 per share, on revenues of $97.8 million in the same period of 2000.

Mitchell Energy --- The Woodlands-TX-based independent didn't rely on acquisitions to achieve its fifth consecutive quarter of record earnings, it relied mostly on its Barnett shale play in Texas, and found sweet success at the drill bit. It reported earnings of $2.41 per share, or $122.9 million. The report is a 177% increase over the first quarter of 2000, which brought the company 87 cents per share, or $43.3 million. While natural gas revenues played a major part in tripling the earnings --- an increase of $156 million --- 80% of the increase in gas volumes came from its Barnett shale in North Texas, where 150 wells have been drilled over the past 12 months and 276 wells are planned through this year. Mitchell also got a boost from exploratory success and follow-up drilling along the Texas Gulf Coast, which added 23 MMcf/d. Total company gas production is on a pace to meet or exceed Mitchell's estimate of 25% annual growth in 2001.

Cross Timbers --- This Fort Worth-based independent remained on its high-flying course, with production climbing 14%, and reporting its first quarter daily gas production averaged 383 MMcf compared with first quarter 2000's 336 MMcf. CEO Bob R. Simpson said the record quarter "amplifies the company's momentum as we rapidly grow our production and reserves." He said Cross Timbers, with core assets in Texas, Oklahoma, Kansas, New Mexico, Arkansas, Wyoming, Alaska and Louisiana, was moving toward a goal of 20% annual gas production growth and 3 Tcfe of reserves by the end of 2002.

Anadarko --- The largest U.S. independent, also based in Houston, saw its production up 12%, also partly because of attractive acquisitions. For instance, it didn't report Canadian natural gas volumes in the first quarter of 2000, but more than made up for it in 2001. For the first three months of the year, Anadarko's Canadian operations produced 24 Bcf, with an average of 269 MMcf/d at a price of $6.50/Mcf. First quarter earnings, meanwhile, soared on high commodity prices, with net income standing at $656 million or $2.50 a share, up from $31 million or 24 cents a share a year earlier. First Call had estimated earnings would be $2.03 per share. Revenue jumped to $3.05 billion, up from $661 million in the first quarter of 2000.

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