EOG Resources Inc. was hit with declining sales and losses in its hedging program during the third quarter, but the natural gas heavyweight still managed to surpass Wall Street earnings estimates for the period. The Houston-based independent expects the company’s results to jump 6-7% next year, driven by higher natural gas prices and strong production from its growing Trinidad operations.

With gas prices now on the rise, EOG expects the fourth quarter prices to range between 20-40 cents/Mcfe higher in the United States; 55-75 cents/Mcfe higher in Canada; and between $1.10-$1.20/Mcfe from operations in Trinidad. Proved reserve replacement by the end of the year is expected to average 130-150% in North America, with Trinidad reserves still to be estimated following a large discovery this year. In the fourth quarter alone, EOG’s U.S.-only production is expected to be between 625-650 MMcf/d, while its total production from U.S., Canadian and Trinidad reserves will range between 895-965 MMcf/d.

“It will be a very interesting fourth quarter, ” said CEO Mark Papa during a conference call on Tuesday. He said EOG continues to be “very excited” about the prospects for the company, which is 74% concentrated in North American gas. “It’s the sweet spot and right where we want to be,” he said.

Noting the fall-off in income this year, Papa said, “In 2002, we made a conscious decision to outspend our cash flow. Next year, we may underspend, partly to pay down our debt and to buy back shares.” He also maintained earlier predictions that the U.S. gas markets will have to “make do with about 2 Bcf/d less” of production in 2003, adding that the “price consequences are already being reflected in the futures market.”

Asked about the natural gas demand picture in the United States next year, Papa acknowledged that EOG’s management team was not an expert on demand, but he said with “U.S. supply heading toward a rate of 47 Bcf/d next year,” demand would “vaporize supply out of the system. The demand consequences of that are such that in my opinion, it will have to terminally price out at about 2 Bcf/d. Our best guess gas price (next year) is around $3.50-$4.50/Mcf. Now it’s at $4.10…the futures market is fairly representing what likely will happen next year. As to how much demand gets priced out, we’re not the ones to give a specific answer. We don’t have enough demand expertise.”

In the Rocky Mountains, where EOG holds considerable reserves, Papa said the company had not been “hit as hard by the basis blowout” because it pipes a lot of production to the Mid-Continent. Only about 10-15 MMcf/d is “subject to the vagaries of Rocky Mountain prices.” In EOG’s view, he said, “there is probably 100-to-200 MMcf/d backed-up in the Rockies relative to pipeline takeaway. It will certainly be eliminated when Kern River (pipeline expansion) is done. In the next few months, there is localized demand in the winter, heating demand. For gas, we’re starting to see that basin tighten up. By next May, it should pretty much go back to normal Rocky Mountain levels.”

For the third quarter, EOG reported net income of $26.1 million, or 22 cents a share, down from $69.2 million or 52 cents a share for the same period a year ago. The losses included $7.8 million ($5.1 million after tax, or 4 cents a share) on EOG’s mark-to-market accounting within its hedging program. EOG’s net cash outflow from the settlement of mark-to-market transactions was $2.9 million ($1.9 million after tax, or 1 cent).

Matching realizations to settlement months, EOG’s adjusted net income for the third quarter was $29.3 million, or 25 cents a share, and revenue of $279.9 million. Thomson/First Call analysts estimated average earnings of 20 cents a share, and revenue of $268.5 million. A year ago, EOG reported a $58.8 million gain ($37.8 million after tax, or 32 cents a share) on its mark-to-market transactions, with net cash of $27.3 million ($17.6 million after tax, or 15 cents). Including these transactions, adjusted net income for the third quarter of ’01 was $49 million, or 42 cents a share.

In Canada, third-quarter gas production was 152 MMcf/d, a 23% increase over the same quarter last year. Momentum, said EOG, followed success in shallow gas drilling in southwestern Saskatchewan and southeastern Alberta. Meanwhile, EOG also was propelled by drill-bit success in the South Texas Dinn Ranch Field, reporting an increase in the quarter to 35 MMcf/d, up from 17 MMcf/d a year ago. With expanded treating facilities at Dinn Ranch, EOG expects production to reach 42 MMcf/d by year’s end.

Tropical Storm Isidore and Hurricane Lily had little effect on EOG’s production in the quarter, said Papa. With “only about 60 MMcf/d” of production in the Gulf of Mexico, he said the storms’ effect was “pretty small…around 2 MMcf/d on a quarterly basis.”

In its expanding Trinidad operations, EOG has signed a production sharing contract for the 97,000 acre Modified U(b) Block offshore. The block is contiguous with EOG’s U(a), Southeast Coast Consortium Co. (SECC) and Lower Reverse L Blocks, giving the company additional exploratory acreage in its core operating area. EOG will serve as operator of the new block with a 55% working interest. Also in Trinidad, EOG received a 25-year extension of its license for the offshore SECC Block through 2029. Since EOG began operating the block in 1993, it has produced approximately 114 MMcf/d net, at the take or pay contract level.

“Our success to date in Trinidad, coupled with this significant news, positions EOG to achieve double-digit compound annual growth in Trinidad at least through 2006,” said Papa. “In addition, the renewal of the SECC license significantly reinforces EOG’s long-term production and marketing strategy.”

Maintaining earlier assumptions about the outlook for U.S. natural gas production for the industry, Papa said EOG still expects a 5-6% decline overall this year, falling another 2-4% through 2003. “Because of this decrease, and a likely decline in Canadian import availability, we foresee a supply constrained environment resulting in higher prices in 2003,” said Papa.

Also on Tuesday, junior independent Corridor Resources Inc., based in Halifax, said that EOG Resources Canada Inc. had elected not to continue its farmin agreement in the McCully field area in southern New Brunswick. Earlier this year the EOG subsidiary had drilled, completed and tested three exploratory wells in the area as part of its agreement with Corridor. Corridor now has twice the interest it would have had if EOG had continued its participation. Consequently, Corridor plans to release additional information regarding the results of the three EOG McCully wells as soon as it is practical, once a review of the well data has been completed.

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