Low natural gas prices are likely to persist in the US, which could prompt a new wave of oil and gas asset deals, and potentially industry consolidation.

Robust drilling activity, ongoing productivity gains, a backlog of wells awaiting completion, continued joint venture capital infusions, and hedging activities are all helping to sustain an oversupply of natural gas in the US, said R. Dean Foreman, chief economist, planning and commercial for independent Talisman Energy at the IHS Herold Pacesetters Energy Conference. Read more on the conference: Drilling Advances Trigger Tight Oil Renaissance.

For natural gas prices, “all of this adds up to something that says ‘lower for longer’” said Foreman.

Lease agreements in unconventional oil and gas prospects often include drilling requirements, and drillers may opt to produce and sell at low prices in lieu of losing acreage. Even firms that target prospects with high oil and natural gas liquids content produce some natural gas from each well, adding to oversupply.

“That’s gas supply that’s not likely to dissipate even in a low price environment,” said Foreman.

A backlog of 3,000-5,000 wells that are drilled, but not completed, can be quickly brought on stream in the event of a price rebound, said Foreman. Hedging offers producers a means to guarantee stable returns on output, which can also act as an incentive to keep drilling despite depressed prices.

And an influx of capital into joint ventures in shale plays will likely continue to support drilling. Foreman estimated that between now and 2013, $18 billion of capital will be funneled into shale joint ventures.

Depressed prices may not be a permanent fixture. “You know at some point natural gas is going to come back,” said Director of Global Energy Investment Banking at Citigroup Christopher Miller. Longer-term options for enhancing natural gas demand in the US include expanding the natural gas-fueled vehicle fleet, or development of gas-to-liquids facilities, such as South African Sasol’s proposed plant in Louisiana.

But “there’s plenty of supply, so I’m not saying that gas is going to go through the roof,” Miller said.

Lowering the Bar

As a well-supplied US natural gas market has become the norm, price expectations have shifted, according to Foreman. Firms that previously sought to lock in natural gas prices at $5.00-$6.00/million British thermal units (Btu) “are now happy to lock in $4.70-$5.00/million Btu two years out,” he said.

Abundant and accessible supply has also created a sort of price band for natural gas. A fall towards $3.00-$3.50/million Btu would prompt a pull-back in activity, said Foreman. But if prices rise to levels above $5/million Btu, producers can ramp up quickly to capture improved returns.

“Production growth is only limited by how much capital you throw at it,” said Foreman.

For those firms that fail to attract joint venture partners, finding the capital to support production growth may present challenges for producers and opportunities for larger companies.

Developing well completion techniques, drilling hundreds of wells, and leasing acreage require substantial investment, and well costs and acreage in promising areas continue to rise, said IHS director of research Robert Gillon.

“More wells, [and] more expensive wells means the companies that are participating must be better capitalized,” he said.

And drillers seeking to tap financial markets may find capital in short supply. “In recent months, financial markets have not cooperated,” Gillon said.

Industry Consolidation

A dearth of available capital may trigger industry consolidation. Some firms may decide “to be part of a much larger, dividend-paying organization that can increase the capital outlays on the projects,” Gillon said. “I think a number will come to that conclusion.”

And Gillon views commodity prices as a strong determinant of the pace of merger and acquisition (M&A) activity.

“A lower price environment would probably stimulate the wave of consolidation that we see coming, make it more hectic, make it larger,” he said, “and elevated high prices may defer it.”

But conference speakers were divided on whether future oil and gas deal activity would be more skewed towards corporate or asset acquisitions.

While Petrie said he expects corporate consolidation “coming up very shortly,” other speakers pointed to asset deals as preferable to corporate deals. There is “so much baggage usually incorporated with a corporate deal,” said Miller.

Corporate acquisitions often involve a long period of integrating desirable assets and divesting less desirable ones. And Statoil VP of US onshore development Stephen Bull noted the difficulty of maintaining knowledgeable, experienced staff in a corporate takeover.

“You really need to get a hold of those people and keep them there,” Bull said.

But a corporate acquisition may be attractive to a large company seeking entry into an unfamiliar market.

“There are some companies out there that give one of the majors something that they can’t build from scratch easily,” said Bob Gray, managing director of exploration and production at energy investment bank Simmons & Company International.

And market conditions may offer bargains too good to refuse.

“If we see continued weakness in the financial markets, it may be just the old story of compelling valuations,” Gray said.

Photo Caption: A picture taken on April 15, 2010 shows a Statoil gas processing plant in Kaarstoe.