There's not much more digital ink to be spilled on the state of the natural gas environment. Massive supply increases from basins like the Marcellus have pushed prices down to uneconomical levels, and those producers who can are switching over from natural gas to oil and liquids. Unfortunately, while Ultra Petroleum (NYSE:UPL) is one of the best-run natural gas companies, the company's reserve base is almost completely natural gas and potential declines in production and profits could pressure liquidity in the coming year.

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Production a No-Win Proposition
While Ultra Petroleum reported a 4% sequential increase in production; it is looking as though production is going to start sliding as the year goes on. Making matters worse, hedges will roll off progressively throughout the year and leave the company with the unenviable position of choosing to curtail production further or produce uneconomically.

It's actually even a little worse than that, though. While Ultra has long posted superior profitability to other notable gas-heavy names like Chesapeake (NYSE:CHK) and Range Resources (NYSE:RRC), even Ultra cannot make much money below $3 natural gas.

Unfortunately, about three-quarters of the company's acreage in the Marcellus is operated by Royal Dutch Shell (NYSE:RDS-A, RDS-B) or Anadarko (NYSE:APC) and out of Ultra's direct control. While Ultra can elect not to participate in wells ("non-consent"), doing so with wells being drilled on pads (most of what Shell does) can cut Ultra out of an entire 640-acre unit. Given management's recent commentary, it sounds like the relationship with Shell may be fraying, as Ultra is not pleased with Shell's drilling costs, nor its apparent desire to push ahead on uneconomical wells (or at least insufficiently economical from Ultra's perspective).

SEE: Oil And Gas Industry Primer

Not Much Oil to the Rescue
With low gas prices, companies ranging from Chesapeake to Penn Virginia (NYSE:PVA) to Apache (NYSE:APA) have been trying to switch as much production as possible from gas to oil. Unfortunately, while Ultra does have some higher-liquid assets in the Niobrara, those can't be brought on overnight and they're likely not large enough to really rescue the company from a terrible gas environment. What's more, it's not as though Ultra Petroleum really has the liquidity or balance sheet flexibility to quickly change its reserve profile.

SEE: Earning Forecasts: A Primer

The Bottom Line
Although Ultra Petroleum can make money below $4.50 natural gas, I'm not sure the stock is terribly exciting below that level, apart from a turnaround story. There have certainly been some positive developments towards greater long-term use of gas in the U.S. Companies like Navistar (NYSE:NAV) are pushing ahead with natural gas-powered Class 8 trucks, utilities have begun using more natural gas and turbine manufacturers like Siemens (NYSE:SI) and General Electric (NYSE:GE) see a bright future for natural gas-fired electricity generation in the U.S.

The bigger question revolves around investors' threshold for further pain. While I do believe Ultra Petroleum's liquidity position limits its options, I think we're a long way away from more existential concerns. But that's not to say that this stock couldn't push much lower if and when natural gas prices weaken further (ask a coal stock investor). Consequently, while Ultra Petroleum looks cheap on long-range models and will again be a go-to name when natural gas prices recover, the short-term environment will require a great deal more patience.

SEE: A Natural Gas Primer

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At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.

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