After building itself a growing customer base, it looks like the U.S. natural gas industry may not be able to service it all if the economy picks up this year. If the gas-directed rig count ramps up to 1000 by the end of the year — averaging about 900 rigs through 2003 — then supply available in the U.S. will only be down about 2 Bcf/d from 2002 levels, EOG Chairman Mark Papa estimates. He believes drilling will pick up, but if active rigs don’t hit that level “then production is going to fall harder.”

Papa said the rig totals are built into EOG’s model, which forecasts domestic supplies will be down another 1-3% in 2003, after falling about 5% in 2002. Domestic production went from about 52 Bcf/d in mid-2001 to about 47.5 Bcf/d at the end of 2002. “That’s taking off about 4.5 Bcf/d, and removing it from the system of a market that’s a 60 Bcf/d market, so that’s a big chunk of supply disappearing.

The EOG executive pointed out that for the first time in more than a decade Canadian imports are expected to drop in 2003, falling by about 0.8 Bcf/d. Along with decreased domestic and Canadian production, “the third part of the perfect storm on the supply side is Mexico, which for the last 20 or 30 years has been neither a significant importer nor exporter of gas to the U.S. Last year it started ramping up imports from the U.S. and the last data we have from the third quarter shows they were taking upwards of about seven tenths of a Bcf a day.” An increase in LNG imports to existing U.S. terminals of about 0.8 Bcf/d over 2002 levels will balance some of the production loss. Still it adds up to the loss of another 2 Bcf/d.

“We have got a situation here, I think the main reason drilling activity has not gone up yet is really a lack of drilling prospects. It’s not unavailability of cash flow; it’s not that managements have become more prudent; it’s just a lack of organic drilling prospects.” While there are still reserves available, “they are more marginal and it will take a higher price to extract them,” he said.

The prices are getting there. Papa noted that as of Friday morning the 12-month futures strip is very close to $5.00, in comparison to the full year average of 2001, which was $4.36. “This year it’s already 60 cents higher than ’01 and everybody thought ’01 would never be repeated.” EOG is prepared for the run-up, however. “We were one of the few independents that purposely overspent our cash flow in ’02 for the sole reason that we thought we’d see a big uptick in gas prices in ’03.” He believes his company was in the minority in getting positioned for the price increase, however, and he sees others now prepared to increase their drilling activity this year.

Every year there are fewer independents, and the ones that are left have grown larger with the consolidation of the industry. Some are moving toward the outer limits in Canada or overseas in search of larger targets. Devon Energy recently told analysts it was putting an increased amount of its E&P budget into long-lead, high potential projects overseas, because it needs “high impact” projects to replace the large amount of reserves it now is producing.

“We’ve traditionally been a North American company….aggressively developing our North American assets,” Mike Lacey, Devon’s senior vice president of exploration and production said. Devon, which has accelerated growth through acquisitions — including Mitchell Energy, Anderson Exploration, Santa Fe Snyder, Pennzenergy, Northstar Energy and the North American onshore assets of Kerr-McGee — now must match consolidated production of 180 million barrels of oil equivalent annually.

“North America doesn’t offer much opportunity for large reserve replacement on an annual basis,” Lacey said. While the company is continuing low risk development and production on this continent, it is looking to the international arena, deep water and portions of Canada for its long-term, high impact projects.

Devon offered a chart that shows first year production decline rates for new wells steadily increasing from a 19% average first year decline rate for U.S. gas wells in 1994 to a 29% decline in 2002.

©Copyright 2003 Intelligence Press Inc. All rights reserved. The preceding news report may not be republished or redistributed, in whole or in part, in any form, without prior written consent of Intelligence Press, Inc.