Several exploration and production companies used third quarter operational updates to lower oil and gas production guidance for 2011. These reductions were caused by escalating service costs, delays in securing midstream and pipeline capacity and the normal uncertainty inherent in the oil and gas business.
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Cimarex Energy (NYSE:XEC) cut guidance for 2011, and now expects the company's production to range between 589 and 595 million cubic feet (Mcf) of natural gas equivalents per day. This is only a marginal decline from the previous range of 595 to 610 Mcf of natural gas equivalents per day.
Cimarex Energy also reduced expected production back in August 2011, when it reported second quarter earnings. The company cited problems with wells in the Gulf Coast area, which tend to have volatile and unpredictable production streams. (For a reading into the fundamentals of offshore exploitation, read A Primer On Offshore Drilling.)
Newfield Exploration Company (NYSE:NFX) reduced 2011 production expectations to a range from 300 to 304 billion cubic feet equivalent (Bcfe), down from the previous range of 312 to 316 Bcfe. This production cut was partially self-inflicted, as Newfield Exploration experienced rising costs in the Williston Basin, and decided to defer the completion of 13 wells until 2012. This disciplined approach to drilling, was responsible for about half of the production cut.
Newfield Exploration did have some positive news for investors to offset the guidance reduction. The company did not raise capital expenditure guidance for 2011, and reported several productive wells, recently completed, in the Williston Basin. These wells had 24-hour production rates ranging from 3,217 to 5,198 barrels of oil equivalent per day (BOE/D).
Kodiak Oil and Gas (NYSE:KOG) reported average production of 3,956 BOE/D in the third quarter of 2011, at the lower end of the company's guidance. The company attributed the action to problems with pipelines and gathering systems in the Williston Basin, and the timing of well completions. Kodiak also performed maintenance on two wells, forcing production to be shut in for two weeks. Despite this slight disappointment, Kodiak maintains that the company will achieve its goal of exiting 2011 with production at 9,000 BOE/D.
Penn Virginia (NYSE:PVA) dealt a double blow to investors when the company reported earnings for the third quarter of 2011. Management reduced expected full year 2011 production to a range of 48.0 to 48.5 Bcfe, down from previous guidance of 48.5 to 50.5 Bcfe.
While such a small reduction might not seem too serious to most investors, this production cut was followed by a significant increase in capital expenditures for 2011, with the company attributing the extra expenses to increased drilling and completion cost,s for wells in the Eagle Ford Shale. Penn Virginia said it would increase the company's budget from $63 million to $73 million over the original guidance of $360 to $380 million.
Although the company's increased investment in the Eagle Ford Shale may produce benefits in the long term, the market does not appreciate when an energy company spends more capital to get less production. This is an abomination, particularly to the institutional investment community, and conjures up images of the "Kiss of Death" that Michael Corleone delivered to his brother Fredo in the infamous scene from "The Godfather: Part II."
The Bottom Line
The oil and gas industry is, by nature, unpredictable, and the rapid growth of domestic onshore exploration and development is making it even tougher for companies to set accurate future production targets. One solution might be to use even wider guidance ranges, so investors don't overreact to what might be only a short-term issue. (For additional reading, check out How Does Crude Oil Affect Gas Prices?)
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At the time of writing, Eric Fox did not own shares in any of the companies mentioned in this article.