U.S. natural gas production decreased a modest 0.2% sequentially in the first quarter from the final three months of 2006, suggesting that gas supplies are stabilizing, according to a survey by energy analysts. U.S.-based independents also appear to be are bulking up their capital budgets, with their eyes on more exploration and possible acquisitions.

John Gerdes and Michael Dane of SunTrust Robinson Humphrey/the Gerdes Group surveyed the 40 U.S. exploration and production (E&P) companies they cover, which account for about two-thirds of U.S. output after considering royalties/working interests. Compared with 1Q2006, the analysts said production grew 2.8% in 1Q2007, reflective of hurricane-related recovery from 2005’s storms.

Gerdes’ numbers confirm other U.S. gas production surveys, including one by the Energy Information Administration, which reported a 1.6% sequential gain in gas output between 4Q2006 and 1Q2007.

“This survey…appears to suggest that relatively stable U.S. gas drilling activity may at best generate stable onshore gas production,” Gerdes and Dane said. “Historically, our U.S. natural gas production survey has consistently understated U.S. gas production, yet lower emphasis on Gulf of Mexico (GOM) production and a reemphasis of the majors on North American gas development has helped align the survey with actual production trends in recent periods.”

This year, given an expected average rig count of 1,475 rigs and a 7% decline in well productivity, “we anticipate an increase in U.S. gas production of approximately 0.8 Bcf/d,” Gerdes and Dane wrote. They see onshore output increasing by nearly 1.3 Bcf/d while GOM production declines by about 0.5 Bcf/d.

Following a run-up in capital costs and volatile gas prices over the past year, energy analysts had been predicting that E&Ps likely would flatten their drillbit and acquisition spending in 2007, especially after posting healthy returns for the past three years. However, with solid 1Q2007 reports in, Raymond James & Associates said U.S.-based independents appear to be adding more to the capital budgets.

Raymond James analysts had predicted in early January that spending would be flat this year after their E&P universe coverage, which consists of 51 independents, increased their exploration and development (E&D) spending 39% in 2006 from the year before. Total cash flow last for their coverage universe was up 15%, and total spending increased almost 73%.

About 55% of last year’s spending was directed toward E&D; 41% went to property acquisitions. Another 4% was directed toward stock buybacks.

“For 2007, our universe had preliminarily budgeted $53.1 billion for E&D, up 7% over actual 2006 spending, in contrast to our earlier expectation that budgets would flatten this year,” said Raymond James’ Wayne Andrews and John Freeman. “And some, if not most, companies will outspend their budgets. For context, initial budgets in early 2006 totaled $44 billion and updated mid-year budgets totaled $47 billion, a 7% increase.”

Already, they noted, many E&Ps reported 1Q2007 earnings that were solid enough for them to increase capital spending for the full year. Currently, updated budgets are up 7% over preliminary budgets set earlier in the year.

For the full year, Raymond James analysts are predicting a “relative shift” toward more E&D spending. “In fact, given our assumption of fewer acquisitions, the percentage of total spending represented by E&D could easily rise above 70-80%, compared with 55% in 2006,” they wrote. “This makes perfect sense if one considers the fact that of the $37 billion spending 2006 by our universe on acquisitions, nearly 60% was spent by one company alone, Anadarko Petroleum, in the concurrent acquisitions of Kerr-McGee and Western Gas.”

In 2008 and beyond, the Raymond James analysts said they think the “growing trend” of E&P master limited partnership spin-offs will increase cash flow and drilling activity simultaneously.

Raymond James’ spending review represents about 35% of total U.S. production, “and these companies unquestionably pursue among the most aggressive drilling programs in the industry — not to mention the fact that they have some of the best drilling prospects.” Besides not covering all of the independents, they also noted that U.S. drilling activity by the majors has grown more slowly. “At the same time, we believe that 2007 E&D spending by independents outside our coverage universe (both public and private) should post smaller, but still solid growth of about 5%.”

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