U.S. producers will continue to struggle to grow domestic production this year, and international expansion will be a dominant theme and a key driver behind any mergers and acquisitions (M&A) in the oil and gas sector, according to a report by CreditSights analysts.

With costs continuing to “creep higher as they tap unconventional plays and new geologies” such as coalbed methane, tight gas and deep wells, CreditSights noted in a report issued Wednesday that M&A activity among the largest independents is unlikely “given the maturity of the North American supply basin and judging by companies’ focus on increasing international activity.” The “long-term winners” in the exploration and production sector will be companies focused on international gas expansion, with Apache Corp. and Unocal Corp. as the “standouts,” analysts said.

“The large caps have already signaled that further debt reduction is unlikely and that excess cash flow is likely to go toward share buybacks, dividend increases and higher capital spending.”

Among the players in the oilfield services group, CreditSights does not foresee a “wave of consolidation” by the larger companies, “but we do expect the large players to continue to take out smaller, niche, private, domestic companies, as usual, and partake in limited international M&A, focused on Russia.”

The refiners group may have some M&A activity, according to the report, with most by companies “picking off integrated assets for divestiture and niche refineries from small players” unable to meet new Clean Air Act Tier II specifications. “There were a lot of assets on the market in 2003, but few deals given high asking prices, and 2004 could offer the same scenario.” The most likely acquirers, said analysts, are Valero, Premcor and Sunoco.

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