A growing number of producers are shying away from dry gas drilling and instead pointing their drillbits at liquids-rich and oil targets, but drillers are “soldiering on” despite stubbornly low natural gas prices and “are set to do what they do best: drill,” according to energy analysts with Barclays Capital Markets.

“Gas producers now fall into three buckets: those that are showing true growth through liquids/oil production (and therefore do not need to grow gas output but may be doing so anyway), those that are in the midst of the shift to liquids, and those that remain dry gas-focused,” analysts Shiyang Wang and Michael Zenker said in a note to clients.

Producers that are growing liquids production “are obviously the most secure with their strategy,” they said. “Our conversations with institutional investors suggest that producers are expected to both grow production and live within cash flow. Whether that will be possible in a $3/MMBtu market remains to be seen…

“The dry gas-only companies are now in uncharted waters. We have seen dry gas producers test new messages in this earnings season’s calls, with mixed success, according to their peers. This year may demonstrate whether ‘profitable,’ ‘growth’ and ‘dry gas producer’ can live comfortably in the same sentence.”

The Baker Hughes rig count fell to 691 as of March 2 from a 2011 high of 936 in mid-October, but the drop in rig count “is not cause for celebration,” according to the analysts.

“For one, some relabeling of rigs from gas-directed to oil-directed might underlie the reported drilling cut,” they said. “But aside from accounting conventions, the rig pullback is viewed as too little too late, and with rigs popping up in the liquids-rich but still gas-prone plays, gas production growth seems a likely outcome for 2012.” Production this year is likely to outpace 2011 by 2.68 Bcf/d, they said.

Canaccord Genuity analysts on Thursday said they expect the gas rig count to fall even further this year before rising to an average of 700 in 2013. “The rig count should decline to 625 within the next couple of months, which should contribute to a flat-lining of supply by mid-year,” they said.

Companies “are grudgingly expecting very weak prices in 2012,” the Barclays analysts said. “We encountered little pushback to our $3.05/MMBtu price outlook for 2012.”

Henry Hub spot prices averaged $2.50/MMBtu in February, the lowest average monthly price since February 2002, and the Energy Information Administration expects spot prices to average $3.17/MMBtu this year and $3.96/MMBtu in 2013 (see related story).

The focus of domestic exploration and production (E&P) companies over the past two years has shifted “quite dramatically” from gas to oil and liquids-rich opportunities, according to Credit Suisse analysts Stefan Revielle and Jan Stuart. “Ultimately, while we feel declines in conventional resources and shut-ins show promise toward a recovery, given the massive amounts of gas in storage we remain confident that it won’t impact the supply demand balance until 2013, leaving 2012 gas markets awash in supplies,” they said.

In December Wang and Zenker said North American E&Ps weren’t going to let weak natural gas prices get in the way of record spending plans in 2012 (see NGI, Jan. 2). A Barclays survey of 339 E&P companies worldwide, including 173 producers in the United States and 96 in Canada, indicated that producers are “less sensitive to gas prices and more driven by oil prices,” the analysts said.

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