There has been increasing chatter about the likelihood of operators being drawn back into dry-gas drilling thanks to Nymex natural gas prices breaking $4 per million British thermal units (MMBtu) and, for a time, moving past $4.30. This movement in prices occurred just as cuts in rigs for natural gas drilling appeared to hit a floor.

Nevertheless, any move predicated on sustained increases in natural gas prices appears premature at this time. The sharp $0.30 drop in Henry Hub prices following the May 3 Energy Information Gas storage report—due in part to above-consensus storage additions, but also due to a gradual unwinding of long positions by both commercial and noncommercial traders since late February—appears to have put a lid on this chatter, at least for the time being.

Likely more significant is the fact that operators do not appear to be rushing headlong into gas drilling just yet. The behavior of operators in the Barnett shale, the largest natural gas field in the US, illustrates this reticence.Devon Energy Corp., the largest operator in the play, had indicated back in February of this year that it was cutting capital expenditures and drilling activity in the play. Whereas in 2012 it invested $950 million and drilled 322 wells in the Barnett, its 2013 plan consisted of a burn rate of $500 million and 150 wells.

Devon's large acreage position in the play (620,000 acres) and ownership of ample natural gas fractionation capacity generate positive economics, even under low-gas-price scenarios (we estimate the breakeven gas price for Devon's Johnson County wells at $2.05 per thousand cubic feet). A move past $4 per MMBtu would certainly provide Devon with additional cushion.

Even so, the company has more attractive opportunities within its portfolio—most notably, exposure to oilier plays such as the Cana Woodford (where Devon has doubled rig count over the past two quarters to 14); the Permian (where the company's rig count has climbed from 20 to 29 over the same time frame); and the Mississippi Lime (which Devon entered last quarter and where it has 10 rigs running). Perhaps not surprisingly, the company's Barnett production target still posits a 4% decline versus 2012 output.

This reticence is not exclusive to operators with a wide choice of oily plays in their portfolio. Quicksilver Resources Inc. is another operator with substantial Barnett exposure—and one in the midst of a deleveraging process.Quicksilver recently sold a 25% interest in its Barnett operations to Barnett Resources LP, a wholly owned subsidiary of Tokyo Gas Co. Ltd., for $485 million. This infusion of capital does not appear to have changed the company's strategy, however. In early May the company reiterated its plan to drill 10 or fewer wells in the play in 2013, versus 57 wells drilled in 2012 and 128 wells drilled in 2010. Quicksilver plans to use proceeds to shore up its balance sheet and diversify into liquids—perhaps with more joint ventures on the horizon.

These companies are not isolated cases. Even as more analysts ask about the likelihood of a revival of dry-gas drilling in this earning season's conference calls, companies continue to reiterate that sustained prices at or above $4.50 to $4.75 per MMBtu are not enough to bring them back into natural gas. Furthermore, with growing production of associated gas from both oily and lighter, “combo” plays (such as EOG Resources Inc.'s and Pioneer Natural Resources Co.'s positions in the Barnett), the curtailment of dry-gas drilling will not necessarily lead to a sharp reduction in aggregate natural gas supply and the bump-up in prices eyed by operators before they consider a return to dry-gas areas.

While natural gas prices will doubtless rebound eventually, the price signals so far have been too tenuous to spur activity. Operators are continuing to take a wait-and-see approach before diverting capital away from profitable liquids-oriented ventures.

Comments