The recent earnings season for the third quarter of 2011 has provided some insight into upcoming 2012 capital budgets for the exploration and production industry. This information can help investors determine the general level and trend of drilling activity next year. (To know about measures for capital budgeting, read Which Is A Better Measure For Capital Budgeting, IRR or NPV?)
Investopedia Markets: Explore the best one-stop source for financial news, quotes and insights.

Lower Spending
Some operators are proposing 2012 capital budgets that are lower than 2011 spending levels. Comstock Resources (NYSE:CRK) expects to spend $575 million in 2011 on exploration and development activity across the company's properties in the Haynesville and Eagle Ford Shale.

In 2012, Comstock Resources is concerned about weak natural gas prices and has announced a preliminary exploration and development budget of $396 million. The company hopes that this level of spending will be covered by the company's cash flow without financing.

While this may be a prudent move by Comstock Resources, it will lead to lower production growth for the company in 2012. The company is expecting production to grow in a range from 8 to 12% next year, down from the 28 to 32% growth in 2011.

Comstock Resources is also putting more capital towards oil development and plans to reduce its operated rig count in the Haynesville Shale by two, leaving the company with only one rig working this play.

Infrastructure Issues
Another issue impacting 2012 capital budgets is infrastructure constraints, as the industry can't seem to build processing and transport capacity quickly enough to accommodate the rapid growth in production emanating from many high-growth plays.

Continental Resources (NYSE:CLR) is one of the more active operators in the Bakken and reported average production of 34,505 barrels of oil equivalent (BOE) per day from this formation in the third quarter of 2011.

Continental Resources announced a $1.75 billion capital budget for 2012, slightly lower than what the company expects to spend in 2011. The company expects this level of spending in 2012 to lead to production growth ranging from 26 to 28% for the year. Continental Resources cited infrastructure issues in North Dakota as one reason for the reduction in 2012 capital spending relative to 2011.

Although Ultra Petroleum (NYSE:UPL) won't finalize the company's 2012 capital budget until early next year, the company issued a range of Marcellus Shale production growth estimates for next year based on various levels of capital expenditure.

Ultra Petroleum said that if the company allocates $300 million in drilling and completion capital to the Marcellus Shale in 2012, production here would be flat relative to 2011. The company estimates that a $550 million budget would provide 8% growth and $1 billion in capital would lead to growth from 18 to 30% over 2011.

Ultra Petroleum is also trimming capital spending for the current quarter and plans to release two rigs in Wyoming and reduce drilling in Pennsylvania.

No Capital Needed
Another theme that has emerged from third quarter of 2011 earnings season is that many exploration and production companies are making efforts to convince investors that 2012 capital budgets can be financed out of expected cash flow and alternative methods without having to access the capital markets for debt or equity.

SandRidge Energy (NYSE:SD) plans to spend $1.8 billion in 2012 and will fund this budget with operating cash flow generated during that year. The company will also use financing options that do not add debt to the balance sheet or dilute existing shareholders by issuing equity. This would include creation of royalty trusts or joint venture funding. (To know more about operating cash flow, read Operating Cash Flow: Better Than Net Income?)

The Bottom Line
Although 2012 spending plans won't be approved until early next year and are subject to change based on commodity prices, they can help investors determine the evolution of the North American drilling cycle.

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

At the time of writing, Eric Fox did not own shares in any of the companies mentioned in this article.

Related Articles
  1. Investing

    Time to Bring Active Back into a Portfolio?

    While stocks have rallied since the economic recovery in 2009, many active portfolio managers have struggled to deliver investor returns in excess.
  2. Economics

    Investing Opportunities as Central Banks Diverge

    After the Paris attacks investors are focusing on central bank policy and its potential for divergence: tightened by the Fed while the ECB pursues easing.
  3. Stock Analysis

    The Biggest Risks of Investing in Pfizer Stock

    Learn the biggest potential risks that may affect the price of Pfizer's stock, complete with a fundamental analysis and review of other external factors.
  4. Stock Analysis

    Allstate: How Being Boring Earns it Billions (ALL)

    A summary of what Allstate Insurance sells and whom it sells it to including recent mergers and acquisitions that have helped boost its bottom line.
  5. Chart Advisor

    Copper Continues Its Descent

    Copper prices have been under pressure lately and based on these charts it doesn't seem that it will reverse any time soon.
  6. Options & Futures

    Cyclical Versus Non-Cyclical Stocks

    Investing during an economic downturn simply means changing your focus. Discover the benefits of defensive stocks.
  7. Markets

    PEG Ratio Nails Down Value Stocks

    Learn how this simple calculation can help you determine a stock's earnings potential.
  8. Stock Analysis

    What Exactly Does Warren Buffett Own?

    Learn about large changes to Berkshire Hathaway's portfolio. See why Warren Buffett has invested in a commodity company even though he does not usually do so.
  9. Investing Basics

    How to Deduct Your Stock Losses

    Held onto a stock for too long? Selling at a loss is never ideal, but it is possible to minimize the damage. Here's how.
  10. Investing

    What’s the Difference Between Duration & Maturity?

    We look at the meaning of two terms that often get confused, duration and maturity, to set the record straight.
  1. Which mutual funds made money in 2008?

    Out of the 2,800 mutual funds that Morningstar, Inc., the leading provider of independent investment research in North America, ... Read Full Answer >>
  2. Do hedge funds invest in commodities?

    There are several hedge funds that invest in commodities. Many hedge funds have broad macroeconomic strategies and invest ... Read Full Answer >>
  3. What does low working capital say about a company's financial prospects?

    When a company has low working capital, it can mean one of two things. In most cases, low working capital means the business ... Read Full Answer >>
  4. Do nonprofit organizations have working capital?

    Nonprofit organizations continuously face debate over how much money they bring in that is kept in reserve. These financial ... Read Full Answer >>
  5. Can a company's working capital turnover ratio be negative?

    A company's working capital turnover ratio can be negative when a company's current liabilities exceed its current assets. ... Read Full Answer >>
  6. Does working capital measure liquidity?

    Working capital is a commonly used metric, not only for a company’s liquidity but also for its operational efficiency and ... Read Full Answer >>

You May Also Like

Trading Center