XTO Energy, Inc. Q4 2007 Earnings Call Transcript

XTO Energy, Inc. (XTO)

Q4 FY07 Earnings Call

February 12, 2008, 04:00 PM ET

Executives

Louis G. Baldwin - EVP and CFO

Keith A. Hutton - President

Bob R. Simpson - Chairman and CEO

Analysts

Thomas Gardner - Simmons & Company

Ellen K. Hannan - Bear Stearns

Joe Allman - JP Morgan

Brian Singer - Goldman, Sachs & Company

David Tameron - Wachovia

David Heikkinen - Pickering Energy Partners

Ray Deacon - BMO Capital Markets

Presentation

Operator

Good day ladies and gentlemen, and welcome to the Q4 2007 XTO Energy Earnings Conference Call. My name is Lisa, and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. We will facilitate a question-and-answer session towards the end of this conference. [Operator Instructions].

XTO's management will be making forward-looking statements during this call. Risks associated with such forward-looking statements have been outlined in our latest 10-K, 10-Q and news release. Actual results may vary materially. The company undertakes no obligation to publicly update or revise any forward-looking statements.

I would now like to turn the conference over to your host, Louis Baldwin, Executive Vice President and Chief Financial Officer.

Louis G. Baldwin - Executive Vice President and Chief Financial Officer

Thank you for listening today to our conference call to discuss our fourth quarter and 2007 results. It's been a busy day today at XTO. In addition to our fourth quarter results and 2008 guidance press releases, we've also announced $1 billion in acquisitions for the first quarter of 2008. And we've announced our December 31, 2007 proved reserves.

Today's announcements demonstrate we believe that 2007 was an outstanding year for XTO and that will well position for the future. Participating in Fort Worth today are Bob Simpson, Chairman and CEO; Keith Hutton, President; Vaughn Vennerberg, Senior Executive Vice President and Chief of Staff; and Tim Petrus, Executive Vice President of Acquisitions. We've got a lot to discuss today. So I'll just start it off.

First, we announced that we've entered into definitive agreements to acquire producing property and acreage positions for about $1 billion. We'll go into more detail on those later in the call. I'll just mention these transactions have closed or are expected to close during the first quarter and funding is expected to come from the combination of cash flow, bank debt, and capital markets transaction including our commercial paper program. In anticipation of these acquisitions we've increased our availability including commercial paper and bank credit facilities by $800 million.

Also included in that release was the announcement that given XTO's advantages in purchasing bolt-on acquisitions and the evolution of the financial markets that we will not establish a master limited partnership at this time.

Secondly, we have announced our year end proved reserves. They increased 32% to 11.29 trillion cubic feet equivalent compared with 8.55 Tcfe at year end 2006. 2007 was a strong year for XTO, on the production reserves front as we replaced 13% of production at a cost of $2.03 per Mcfe. Looking at drill bit replacement, we exceeded 300% reserve replacement at a cost of $1.64 per Mcfe. Excluding unproved property acquisition from leasing activities development costs totaled $1.36 per Mcfe.

Finally looking at the fourth quarter results, we were proud to announce record production and record operating cash flow. Expenses for the quarter came in at or below expectations, and we've increased our production guidance while keeping unit expenses relatively flat for 2008. For all of 2007, production, adjusted earnings and operating cash flow all set new records. Importantly, production per share grew at 15% year-over-year in 2007, and we are projecting 20% production growth in 2008.

Comparing the fourth quarter results to First Call, earnings per share adjusted were $0.96 on a basic basis, $0.95 diluted that beat First Call of $0.92 that also equaled the GAAP number with net income of $464 million.

Looking at production, natural gas production averaged 1.671 Bcf per day that exceeds guidance, oil production almost 49,000 barrels a day exceeding guidance, natural gas liquids about 14,500 barrels per day are just under guidance. So, in aggregate we were above the top end of guidance at 2000... and 2.050 billion cubic feet of gas equivalent. If we look at this compared to the third quarter that's up 6% and compared to the same quarter of 2006 it's 30% production growth. Of that 30% about 14% came from development and 16% came from acquisition.

If we're looking at all of 2007 we had a 19% production growth, 12% of that came from development and 7% from acquisitions. Once again Barnett Shale in the eastern Region continues to pace the production growth.

Looking at natural gas prices for the quarter, we averaged 753 down about 4% from the same period of last year. Oil was up to $75.47 per barrel, up 25% from the same period of last year, and natural gas liquids were up shortly to $56.64 per barrel.

Looking at our hedging for the balance of 2008, we are about two-thirds hedged on both oil and gas. On the oil side the first quarter of 1.1 Bcf per day and NYMEX equivalent price of $8.33. And for the balance of the year April through December 1.2 Bcf per day at a NYMEX price of 8.32. We have no natural gas hedged beyond 2008.

Looking on the oil side, about two-thirds of oil production also 30,000 barrels per day hedged at a price of $74.20, and on the oil side no hedges beyond 2008. All of our hedges are in the form of swaps, with most having basis hedges in place are expected to be put in place later this year.

If we look at out revenue in hand, operating cash flow summary, revenues were almost $1.6 billion for the quarter, up 33%, operating cash flow $1.161 billion, up 28% and our cash flow margin was very strong at 73%. If we look at our cash flow margin for all of 2007 we are 68% compared to 67% for all of 2006.

Looking at operating cash flow per share, for the fourth quarter we were $2.37 on a diluted basis. That's up 21% from the same period of last year.

Going to our unit cost analysis guidance. We're very pleased with our production expense $0.93 per Mcfe, that's right smack in the middle of our guidance. And we are projecting an increase in guidance for 2008. Clearly control of operating expenses has narrated XTO's excelling in.

If we look at a breakout of that $0.93 per Mcfe, labor and overhead was $0.23, maintenance workover activities $0.54, power fuel and CO2 were $0.15 and compression and other charges were a penny, totaling a $0.93.

Going onto taxes, transportation and other, we're at the midpoint of our guidance of $0.70 per Mcfe. We are raising that guidance to $0.70 to $0.78 due to higher pricing assumptions for commodity prices in our forecast.

Exploration expenses were $0.10 per Mcfe, and our guidance going forward is $0.05 to $0.10 per Mcfe. On DD&A we are in the middle of guidance at $1.89. Projection for 2008 is $1.90 to $1.95. We've slightly increased this guidance due higher acquisition, infrastructure and impairment costs anticipated for 2008.

Looking at cash G&A, $0.25 to $0.30 per Mcfe was a guidance we came in at $0.25. We are not increasing that guidance for 2008. And looking at non-cash stock-based G&A costs for the quarter were $0.40 and our guidance going forward it will be $0.10 to $0.15. Interest expense was $0.49 for the quarter within guidance, and we are leaving guidance the same at $0.45 to $0.50 for 2008. During the fourth quarter interest expense include $9 million... or excludes $9 million of capitalized interest.

Income taxes, we did have an effective tax rate of 35.6% compared to 37% for guidance... that guidance is the same going forward for 2008. And we had a tax credit of $15 million. This credit was due to higher proportion intangible drilling costs that were compared to equipment costs that was higher proportion than expected. If we look for next year, we expect up to 35% of taxes to be paid currently.

If we look at capital expenditures with our press release for reserves, we were also able to give you a cost incurred table. So, I won't go through and recite that, but we have total cost incurred for the year for acquisition development and exploration activities of about $6.9 billion.

Looking at the balance sheet, we have total assets of $18.9 billion, debt of $6.3 billion and stockholders' equity of $7.9 billion. This gives us a debt to total cap of 44.3%.

With that, I'll turn it over to Keith Hutton, to give you an operations update.

Keith A. Hutton - President

Thanks, Louis. 2007 was a great year if you are looking at our finding costs, the amount of reserves that we replaced with drill bit 300% and on the acquisitions over 500% reserve replacements, it's one of our better years, at a very low cost of a $2 all-in finding costs.

If you look at the fourth quarter in particular, we were up 6% as Louis said, up in every category, gas, oil and NGLs over the third quarter. NGLs would have been higher in this fourth quarter, except where we had a plant shut in, in San Juan Basin and bad weather. So San Juan Basin would have been a higher number as well for the quarter. Looking at the total year, up 19%. Again, Louis said about 12% through the drill bit, 7% from acquisitions.

If we talk just a minute about the current billion dollars of acquisitions that we closed, there are some questions about how you would split out that cost. There is about 212 Bs of reserves that were associated with that. If you use 250 in M for the reserves, that gives you about $530 million that are tied to the acquisition of proved reserves; the remaining being leasehold acquisitions that we made, and those averaged somewhere between $5,000 to $10,000 an acre. And what I would say is that seems like a high number, but it is in the core plays of the Woodford, the Fayetteville and the Barnett Shale.

So we are a little different company than a lot of others when it comes to leasing and that is we'll be dropping rigs right on top of those leases as soon as we buy them. So, we will turn that into cash flow and future net very quickly.

With that, let me talk about the Eastern Region. Freestone Trend signed 5% quarter-to-quarter. I won't belabor too much with this, because we are going to talk about it in two weeks in the analyst presentation. But a very good quarter for wells. We are currently running 27 rigs.

The big thing to talk about I think is we finally got a deep Cotton Valley Lime horizontal completed during the quarter, right at the end of the quarter. So it's not really in your volume numbers. It was a 13 million a day well that's right on kind of what we anticipated. I think last year we told you we told you we thought we'd drill some of these deeper ones for $7.5 million and they'd come in at 10 million to 12 million a day. We drilled this well for right at $7.5 million. So we think EUR wise, it's going to be 10 to 12 Bcf. We currently have two other wells drilling, so looking forward to some more data on those deep horizontals, and we'll get into that a little more in depth at the analyst meeting.

If we flip from the Freestone Trend side to the Sabine Uplift/Cotton Valley side of East Texas, Cotton Valley Field itself continues to grow in production and our wells continue to stay very well. They are around 2 million to 3 million a day with about 50 to 100 barrels of oil a day to go with that, end up being around 2 to 2.5 Bs per well for $2.5 million. So a very economic game to play.

I think the important side of the East Texas... the Eastern side of our East Texas properties is our deep Travis Peak expansion and the Angelina River trend. We've kept drilling wells in there, have two or three wells coming at 3 million during the quarter. We currently had a couple of other wells testing at 2.5 million to 3 million a day. Between the two areas, we have something in the range of 50,000 to 60,000 acres. If you can develop that on 80 acre spacing, then the wells average 1.5 to 2 Bs per well, then it's a very large number for upside. We really haven't talk about that much and we'll go through that a little bit more again at the analyst meeting.

Barnett Shale. Up 25% quarter-to-quarter on a net at 425 million a day. Our current gross production is around 590 million a day. Wells on the core ranging anywhere from 3.5 million to 6 million a day IPs [ph] during the quarter. And our significant Tier 1 well is running around 2 million to 2.5 million a day.

We have increased our acreage position here to 250,000 net acres, and about 50% of that is at the core. We are currently running 19 rigs. That's down a little bit. I think we were running 24 two quarters ago, 20 last quarter, 19 this quarter. And we talked about it a little bit, but we are going to keep around 19 to 20 rigs this year in the Barnett. Just trying to maintain our growth at what we believe is a reasonable pace, not outrun our infrastructure or our people or our experience.

From that, I will flip to the Permian Region. Everything on the oil side going very well. The two fields that are really showing great growth is University Block 9 and Russell, both of those... most of the gross is coming through Devonian laterals. University Block 9 set a record at 8300 barrels a day of production this last quarter and Russell is now at 43 barrels a day. All the other fields in West Texas are on pace as you would anticipate.

South Texas, the Dominion properties, we have drilled in a couple of nice wells in the fourth quarter. The McCamie 6 [ph] that came in about 2 million a day of 360 barrels of oil kind of a new real find and we'll be drilling more wells around it. And the Century number 9 well which came in at 6.6 million a day and 266 barrels of oil a day in LaSalle BAO, which is deep 3 [ph].

But things are doing pretty well in South Texas as we anticipated. We are maintaining our production there, if not growing it.

San Juan region, good quarter, keeping up with Fruitland Coal in our multiple stack pace plays. Our Raton Basin is up to 73 million a day and keeps growing, keeps surpassing anything we can write down. Probably going to peek at the 85 to 90 million a day range. Again, it's a field that we bought at 24 million a day when we originally bought it. So we have almost tripled production.

Natural Buttes, the Dominion property, currently it's production is about 71 million a day. If you look at last quarter, it was running around 80 million a day. It's had a very tough winter out there. And so, obviously, we are just trying to make it back from big snowstorms and so forth. And that's a normal occurrence in this particular area of the U.S. during this time of the year.

We did drill 85 wells during the year... during the quarter. They are completing about like you would have expected 1 million to 1.5 million a day. So everything is going good there. I would tell you Natural Buttes is, having bought it from Dominion, I don't think they did a great job of building out their infrastructure. So one of our challenges going forward is going to have to put in bigger pipe and more compression to get the full tilt out of the wells, and we will talk about that again at the end of the analyst meeting.

Piceance Basin, we finally got BLM approvals for our plants. I mean we have started trying to build it, but we are basically just clearing the plant site because we are now trying to build in the middle of winter. And so that probably means the plant won't be built till the end of second quarter or early third quarter. So that's... we'll be pushing Piceance out a little bit. We still have one rig drilling, though. So we should have five or six wells ready to come online when the plants gets kicked up in the second or third quarter.

Mid-Continent region. The things that have really happened, and obviously from our acquisition of acreage in both the Woodford and Fayetteville, you can see that we are pretty excited about those two plays. There are two wells come on in the Woodford at 3 million a day during the quarter. We drilled 12 wells during the year and currently have five rigs active and are looking to drill 40 to 50 wells in '08, along with participating in another 20 to 30 wells as a non-op partner. Still think our cost to drill these wells is in the $4.5 million to $5 million range and we believe the reserves are 3 Bcf plus per well.

So it's a nice finding cost, a nice rate of return. And I think what you will see with the Woodford with time is costs will come down and reserves will go up.

Same can be said for the Fayetteville. We got our first two wells on at right around 2 million a day average. They are in White County at about 2500 feet deep, cost about $2.4 million to drill those types of wells. There are about 3000 foot laterals and they are probably going to make 1.5 to 2 Bs by 1.75 Bs per well. So, again, a nice finding cost, a nice rate of return. And because of the 11 wells that we drilled there this year and the interest that we have in the 104 wells we participated in, we think Fayetteville is going to be in play and so we are consolidating and adding acreage to our position.

With that, let me wrap up the operation section [ph] right here. It's one of our better ones, a very nice finding cost. With that, let me turn it over to Mr. Simpson.

Bob R. Simpson - Chairman and Chief Executive Officer

Thanks Keith and congratulations to you and your group on an outstanding year for reserve replacement.

If you look at the XTO value machine and its growth and consistency, you will see that the most interesting thing that drives it is its finding cost and its long life. It takes about 30% of the company's cash flow to keep it whole hope. And so by definition, XTO is a growth company because we have 70% of the cash flows to reinvest because our reinvestment for maintenance capital is so low, we have an inherent growth rate of some sort.

So, our job is to make that is maximize that in terms of value creation for the owners. This year, a very good year, one thing you'll notice we're talking about reserve guidance. Our goal for pre-2009 of 15 Ts and so we will talk about that for a moment. And while we do that if you look at the history of the company those of who have followed us for years our philosophy has always been the same. And that is to creating value per share. And we measure that every quarter and every presentation we give to owners. We talk about your value creation, of ideas and where we stand relative to the past and what our future ideas might be.

And so what we are doing here by talking about a goal of 15 Ts is giving the owners an idea of what we think this machine is going to do by the end of 2009, sounds a little distant by the end of next year, sounds right on top of us. I see Hutton breathing hard, so I'm sure he feels like it's more right on top of us.

But so if you look at it in terms of perspective the last time we talked about reserves public for a year it was at the end of 2006 numbers of 8.5 Ts. By the end of next year, we're just still over 22 months away, we are talking about a goal of 15 Ts. And so that is a rapidly drilling and value creating machine. And its fruition... what is the testimony to... we talk about our upsides of being total cash at resource of 25 Ts at the end of '07. We'll update that at the analyst meeting shortly in the February. And that I am sure that will grow. But what that's demonstrating is we are pulling down the potential and moving it over to proved rapidly. And so the resource base is real, the best the company's ever had and the finding cost is phenomenal.

If you look at finding costs that have been reported so far the median according to a work I just read from JP Morgan, got it a couple days ago, the median finding cost is 322, ours is a $1.60. And what we always tell people is kind of always been true as long as I remember it ours is about half the industry. And so that's bearing out to be true again. So when you take the 30% maintenance capital and combine that with a half the industry finding costs. That's why the growth of the company has been so stellar.

And putting it in perspective, today we have 1.3 domestic reserves in terms of trillion cubic feet. That's right at the largest of any independent for domestic reserves. I was just going through numbers, I saw where Anadarko was a little over 12, then we were next. And so, not every number's in, but again right now... our goal has never be the largest anything other than in terms of size, but what we always want to do is be the best at creating value per share. And so wherever that ends it ends.

What we're pointing to are numbers that, that quantify where it's taking us. But if you look at... again, you look at the results and for the equity owner, we went back to 2002 and one of the things that we've noticed that we're proud of is that since 2002, the company's the number one performer in the S&P 500. If you go through the statistics by year, you'll see that there's been progress every year and that our strategy, what we tell people is that it delivers consistency. And so, again, in pointing out what we intend to do by the end of 2009, is just really fleshing out the consistency of our strategy and our confidence in it.

But looking at the numbers for appreciation, the stock was up 41% 2002, 53% 2003, 56% 2004, 66% 2005, 11% for 2006. That was down near for the industry. We were one of the few companies that had a positive performance at all that year, and 37% for 2007, and year-to-date it's about 8%. So the last, little over 13 months is 45. And so, what you're seeing there is that despite the size of the company you're seeing a rapid equity and value creation for the owners which is what we're driven by.

Now so, looking at 2009, what I'm going to share with you is just sort of the insights of the way we think and the way we set goals here and how we are driven to create values. So, we never... people have asked us what our five-year plan is and we don't... we can't see five years. You can write something down on the paper, you will end up either being a liar or a bureaucrat. And so we try to avoid that. But we can't say about 18 to 24 months is the way we run it. And so here... and that's what we are doing here with the owners is looking kind of where we've got pretty clear vision. And so we are willing to talk about it publicly.

So if you look at again the way I think. Say well okay, we want... we want to create value and rates returned to our owners that are attractive and acceptable and justify keeping the investment place. And we are also thinking for the long run guy. And one of the things I have always believe is if you create value, your stock price will follow. And that I think in this world of uncertainty particularly looking around now, I think fundamentals prevail. I think substance is once again coming to the top and lot of things are getting blown up that weren't based on substance in essence, so our strong fundamentals. So, we will never leave our belief in that you create sound hard value. And that's the way it creates wealth for the owners. So, the way... in our business what you look at for creating that hard value is reserves that are proved.

And remember one thing that actually all does is, we have our reserves done by an outside engineer. So they are audited... they're better than audited, they're done by an outside engineer off of our numbers for each well's performance. So, they are created and the whole report is done by an outside engineer. So, it's strong and so for us it's very meaningful. And again I have been doing this for 30 years.

So, I can look to the Board with confidence that I believe in these numbers. And so Miller Lance is the engineer. They've been around a long time and they're very good. They are actually when we reformed in 1986, our lead outside fund raiser was Goldman Sachs. They're the ones that picked Miller Lance for their referee if you would for their investors and we've always had them. So, they are chosen for their independence and their strong commitment to performance of outside engineering work.

So anyway so that's the way... so it's real stuff and so we like it that to guide the future. So, okay, if you look at trying to create value per share and you choose a number and we've done this before. We've chosen and shown you numbers per share whatever before over the years. It's been a little while since we said one couple years out, it's that one. So we look at that and if you go through the numbers you'd say well what that meant.

Let me add, if you valued reserves at $3 an Mcf proved reserves and that's kind of where the market is. And again all of these comments I am going to make are just though... I'm just sharing you my thinking they are not promises. They are not assurances. They are just the way I would choose to set goals for this enterprise in terms of value creation. But say, you've got to start somewhere, so if you use reserves, the company gets valued at $3, publicly traded $3 value, and use 15 Ts, that's $45 billion and then you subtract $6 billion to $8 billion in debt and you've got a number that's 50% higher than it is now in terms of enterprise value. And so okay, so if we could... if the shares are up 50% by the end of next year, I know my 9 million shares would be very happy, and hopefully yours would be.

So is it a promise we will do 50? No, it's just the way you start. You've got to sort is the way I think. And so I am really just sharing my thought process with you. And I hope a couple of years from now we're sitting back saying well, gee wiz, it worked or it was better because gas prices were even higher or whatever.

If you get... another rule of thumb of that, well, so what is $3? If you take the future strip, gas tends to be to be valued, long life gas, at about a third of what it's trading at. And what is that? You can get there with the present value model and fiddle around with it for a long time. It's a good rule of thumb. So what that says is $3 kind of implies a $9, roughly $8 to $9 gas price, which is kind of where we are and also you look at the strip. And for '09 it's actually a little higher, it's closer to...I think it's about 8.75 today, a little higher than we have been experiencing.

So it wouldn't be... given what we know today, it wouldn't be strange to use the sort of the $3 guideline and setting sort of your mental targets. So for me... okay, so we go back to basics. So our job now is to deliver reserves on thereabouts of 15 Ts in a prudent financial manner that's within sound financing and investment grade rating and the other stuff that we want, and then we'll see where the rest of it falls out. But that's the way we set things here. And when we get there, we'll look ahead again. But I think what we are telling you is we have confidence in our inventory, in our process and our finding cost. And as a guideline, we are willing to suggest that's a go. It's not set in stone. As soon as we buy about a third of those reserves, and that will be subject to market... of the growth, about a third of the growth. The growth is 3.7 Ts from 11.3 today. And we are saying about a third of that will be purchased, about two-thirds of it will be drilled. So it depends on facts and circumstances of buying and we'll be working on that.

And if you look in order of magnitude, that's 1.2 or 3 Ts with outside purchases of bolt-ons or however you want to do them, well, to put it in perspective, we did that for 2007; that was about the number for one year. And so we are saying we'll do that over the next two. That was a big year for XTO. We are not saying we'll do that every year. But what I would tell you is I do believe this is going to be a year of consolidation and we are going to be very active in it. There is a perceived tax change coming, and I think it's probably starting to increase in odds in my own viewpoint. I do know that affects people who hold things and assets and old line families that are saying, well, I've been leaning. If I can take a 15% capital gain, that may make more sense than producing this thing out, particularly if they are also just face ordinary income rates, which could also happen, something more than we've been paying.

So it might make a lot of sense to go ahead and monetize that at a capital gains rate. And so we're seeing transaction. I think if you look at the billion dollars worth that we announced today, I think a piece of that reflects... is reflected in that. I know that we're reviewing at the moment. It's probably going to be in the order of another billion dollars worth of material. We're almost always looking at a billion dollars worth of stuff, to be perfectly honest about it. But it's now coming at sort of a more frequent pace, and I do believe we're looking at some bills now that are... probably about half of them are tax driven. So I believe it. I think we'll see a year for an XTO consolidator.

What we do and what we've done, if you look at our accumulation of assets, we've generally bought them in asset deals, we generally have tax basis that we can write off. And we have almost no goodwill on the balance sheet from purchasing companies without tax basis. A lot of... if you don't get tax basis, you buy a company, a lot of that is driven toward the costing to book goodwill.

We also get assets that we particularly enjoy and we don't have... if you also notice, we hardly ever sell anything. We don't have to buy much we don't want.

If you look at this, I'm really excited about this Shell acreage that our guys have been buying. And I watch what we do and I participate. But what we're doing is we are buying high grade within the plays, and so we're not buying fringe acreage to try to puff Wall Street with some gee whiz, look at us. No, we are buying stuff that we believe is going to be highly economic and help keep these numbers going like we've done in the Barnett Shale. There is the core versus non-core mentality in all of these plays and we are trying to get as much core in all of them as we possibly can. And so we'll pay a little more than for a fringe acre because it's... in the long run, it makes more sense and you make quite a bit more contribution to your growth and value creation.

So if you watch what we are doing, we are expanding our expertise and we are squaring up on three shales now pretty solidly and we are reviewing others. So it probably won't be our last one that we attack. That's exciting. And the growth is going to come from those types of ideas. I think the biggest change I've seen at XTO is not our philosophy, it's just the excellence of implementation.

We're an acquire and exploit company and our guys have taken the word exploitation a step further, which means think about buying and leasing your next door neighbor, and we've done that. It can be "undeveloped". Now in these shale pays, a lot of times the value is closer to approved value than not. And that's different. You've got to be able to have the confidence in your staff to pay that and to go ahead and believe that, and that's our advantage. We have the confidence and the staff and the history to step up. And the expertise I think will deliver. So if you're looking at kind of what we're doing and what we're thinking about and the value creation machine, it goes on.

And for now, we're telling you our goals, the next step of 15 Ts. Now I'd also tell you unless the rest of the world changes real rapidly, that's probably going to be the largest domestic holder of reserves. But that isn't our goal. It's just an outgrowth of the machine that marches.

Talking about gas prices, let's switch the subject a little bit. The storage, what I would tell you people is the storage is something you feel, and I continue to believe that. A lot of... the industry is... a lot of people within it, surrounding it, trying to tell you that storage is what prices natural gas. I don't believe that. But sure, it's a factor, but it's transitory. It's a factor maybe for a week. If you look back between the actual prices realized the last five years in storage, there is no correlation that I can discern other than momentary. It might cause you to have a bad October or whatever, but it won't take the whole year.

But for the storage buff, we can look at for a second and say, well, there is actually some bullishness there because storage is working toward being about a five year average. If you look at where it is today, is a little over 2 Ts last announced, so slightly above the five-year average as opposed to 10% or 15% above it, which was where we were last year.

LNG imports have gone back to less than a B a day. We've got some weather in the UK which has influenced the strip higher. It's more like $10 instead of $7 or $8 a year ago, and it's higher than our strip. So that's influencing some gas, not some LNG, not to come our way. And then of course there is the Middle East... I mean not the Middle East, but Asia, the Far East, which none of us totally understand. But certainly their demand seems to be increasing for LNG.

If you look to LNG, from the studies I've seen, the supplies about half of the ability to land it. In other words, the capacity for landing LNGs in the world is double the supply. And so it's going to bounce around. I mean it's going to go to where it's the most valuable. And so it's not going to be a steady stream, towards the United States. It's going to go up and down and fluctuate depending on the rest of the world. It is a global economy. I think actually that's the good news, because natural gas is not necessarily going to be competing with it everyday of the year, for domestic natural gas.

But if you look at... that will it be a factor this next summer? Yes for a while there... all of the storage we had above the five year average was, if you isolate it, it was purely LNG. And I don't really see a big flood of natural gas production otherwise. I think Canadian imports coming down, I think U.S. supply may be up a little. But it's not... if it was up lot it would show up in storage because that is where it goes where there's too much. And so what that says is that based on what you see is that it's more in line with demand and supply, more in line than believed, probably perceived. And that we are depended on weather which is more of a variable than it used to be.

But if you look over at that we are having a little bit of a cold winter. And then the storage number which we'll isolate for a second and conclude. But again it's about in line with the five-year average. If you take last year from here to the end of storage and subtracted it from where storage is now last year, last year withdrawals from here to the end were 801 Bs. So if that were to happen again that's 1.261 Bs or 1.261 trillion which is if you wanted to know the number we went into 2005, this is 1.239 which is right on top of that number and within 12 months we saw $15 gas. Why? Katrina hit. Okay. So a weather event.

But what it says that we are and if you take the five-year average we'll withdraw 758 versus 801 not a whole lot of difference. So what it says is last year wasn't as crazy cold the rest of the way. So it's not... and I guarantee the people that hang their hats on storage we're going to be a little frightened if we go down to one two or so on gas because that's like where's the glut? But... and again glut was never enough to be a glut. You got to remember the basic demand is 21, 22 Ts. And so trends like 20 Bs [ph] as the glut is up. It's rather quality.

And that's why I have always said storage is not what determines the price for the next year and I believe that. But if you can look over there and see trends and over time of supply and demand balance and it looks to me to be rather imbalanced despite the industry's attempt to drill ourselves into a glut. We haven't been able to, we tried like hell. We're like the wheat farmer that plants an acre too much. And by the way wheat prices are over $10, so I congratulate wheat farmers. Bless their heart. They have been getting $3 a bushel since 1942. But one of these years we're going to have a worldwide shortage of food and we'll remember the day that food was so bountiful. But that's another discussion.

Well, with that it's great year, phenomenal year, good goals. Company's stronger than ever. We're all still pumped. So with that I'm going to throw it open for questions.

Question And Answer

Operator

Thank you. [Operator Instructions]. Our first question comes from Tom Gardner from Simmons & Company. Please proceed.

Thomas Gardner - Simmons & Company

Hi, guys.

Bob R. Simpson - Chairman and Chief Executive Officer

Hi Tom.

Thomas Gardner - Simmons & Company

You released highlights the success you've had in the Barnett, Fayetteville and Woodford shales. Would you rank those plays by rate of return? Additionally, would you discuss where you're most concerned about infrastructure bottlenecks? Keith I think you mentioned not wanting to outrun your infrastructure in the Barnett. And that question applies not just to your shale place but all across your portfolio?

Keith A. Hutton - President

Yes, let's take rate of return as kind of a look. I go back and I think about when we started Freestone Trend and even Barnett, we used to run around say Freestone Trend wells of a 30% to 40% rate of return. Really Barnett was 50 to start off with, 40 to 50. Today you talk about them being 70% to 100% rate of returns. I think what you are going to see with Fayetteville and Woodford is the same kind of answer today. People are saying they are 25 to 40, depends upon who you're talking to. Rate of return and I would rate Fayetteville and Woodford just about the same.

Obviously Fayetteville is little cheaper to drill, little lower reserves. Woodford's a little more expensive but bigger wells I think in the long run. I think they're going to end up with rate of returns in the 40%, rate of return or better. It's hard to find a play that you can drill that many wells with that kind of rate of return. I think you'll see them get better with time as we need to shoot seismic over it. Everybody is going to get used to drilling on pads. You're going to get more efficient at drilling it. Anyway I think those rate of returns in both Fayetteville and Woodford will go up with time.

Infrastructure problems, basically all of these plays are going to have infrastructure problems. Luckily enough the industry is laying more pipe than you've seen. I mean all the pipeline guys are laying big pipe into all of these plays. It turns out for us, probably the... at the pace we'll be drilling in each one of them will stay just ahead of our drilling, much like we've done in Barnett and Freestone. Again, it will take some big pipes to come into Fayetteville and Woodford, but you're hearing people starting to lay those right now. We're working on trying to secure home [ph] transport for ourselves, very hard right, we are talking to all the pipes. So, I don't think you'll see big infrastructure problem because we kind of planned it out, but I think the industry in general may have some in different areas if they're not ahead of the game.

Thomas Gardner - Simmons & Company

Thanks Keith. I do have a gas market question, perhaps directed to Bob. XTO's doing a great job of growing production as there are a number of the resource players. Consequently the 9.14 data is indicating a 5% natural gas supply growth. In your view do you see this continuing and what sort of pressure does that put on the overall gas markets?

Bob R. Simpson - Chairman and Chief Executive Officer

I think the thing that keeps the... keeps us from building supply and not to get into a glut is the decline of underlying gas. Put that in perspective, 20 years ago we used to talk about offshore, having a 30% decline and onshore having 10 to 12. Now what we are seeing it's 30% onshore too. And so and this resource plays don't cure that. The typical decline on a new shale well is 70% or 80% the first year.

And so adding those wells is not helping the average. And so, feels like... if you talk to a company like XTO that's having such a great success you're sort of talking to the atypical part of the decline curve, the other ones that are fighting it the best. A lot of the majors aren't particularly fighting at all. They control 40 some percent of the reserves, that's I remember and they're in decline without a fight. And so overall, I'm not sure I believe it's 5% really, really onshore but again that I am not going to debate that, it might be but I don't think its going... I don't think we are going to be able to push that. Intuitively the things that never made sense intuitively and again a company like us really doesn't help with this intuition because in reality 30%, if you put that in perspective and put it in numbers, if 30% of U.S. supply went away in a year that's almost 15 Bs a day, out of... again I am rounding. And so, to replace 15 Bs a day of supply I mean the Barnett Shale and coals [ph] like it's roughly 3 Bs a day. Okay, so that's five of those, and it's the best drilling in the United States right now.

So it's just hard to get that through one's head. I know... I'm sure really... I'm not sure most people believe that, really, because if you did, then you wouldn't be worried about getting into a glut situation. But for those who have a hard time believing it, I don't argue with that. I mean I don't dispute that feeling because it's just strange. I mean, we come to work every day and a piece of our factory is gone. And so we've got to replace that everyday to just get even. And that is just the tough thing. It's just not intuitive. Many companies have to face technology change, but not necessarily depletion. And so it's a different concept. But to think that U.S. supply wants to go down 30 some percent a year, is just the hard thing to get one's mind around. But that's what protects us from a glut. Now if we were to get... and then finding costs. Now if the average finding cost is $3 now, you think if gas went to $4, people would keep all these rigs going. No. And then we may quit just a few months later, the thing self corrects. And my analogy to it, which is that it's like the system that we think of in our elevator system. We might fall. It will scare us, but it's not going to kill us, because it's so self correcting so quickly.

Thomas Gardner - Simmons & Company

I appreciate your comments, Bob. Gentlemen, thank you very much. Very helpful.

Bob R. Simpson - Chairman and Chief Executive Officer

Thanks.

Operator

Our next question comes from Helen Hannan from Bear Stearns. Please proceed.

Ellen K. Hannan - Bear Stearns

Good afternoon. I'll just be brief because I know you've got a really in-depth review coming up in a couple of weeks here and I appreciate your comments today. Just quickly on the acquisitions that you announced today, were any of those closed in the fourth quarter or are they all being closed in the first quarter?

Louis G. Baldwin - Executive Vice President and Chief Financial Officer

They are all in the first quarter.

Ellen K. Hannan - Bear Stearns

Okay. Do you happen to know what your CapEx for the fourth quarter was? Just iron out your balance sheet here. But if you don't have it, I'll give you a call back later.

Louis G. Baldwin - Executive Vice President and Chief Financial Officer

Yes, give us a call back. Really, with the reserve release coming out at the same time as the earnings, we just felt like it was more productive to go with the cost incurred and table off that and go through. But if you'll give me a call, Helen, this is Louis, I'll take you through what we can on the balance sheet.

Ellen K. Hannan - Bear Stearns

Will do. Thanks very much.

Operator

Our next question comes from Joe Allman from JP Morgan.

Joe Allman - JP Morgan

Hi everybody.

Bob R. Simpson - Chairman and Chief Executive Officer

Hey Joe.

Joe Allman - JP Morgan

Could you just tell us what you are seeing these days in terms of drilling and completion costs?

Keith A. Hutton - President

As far as whether they are going up or down?

Joe Allman - JP Morgan

Yes sir.

Keith A. Hutton - President

Rigs are probably flat, but they've fallen off 10% to 15% from last year. But they are trying to hold their own. They are worried about it being soft this year, so they are trying not to let us break their will. But as long as everybody is picking up rigs and anybody drops, they'll probably stay flat. Any weakness, they'll drop again. Service costs themselves, fraccing, cementing, so forth have come off probably 10% or 15% from last year as well. Pipes are going to go up a little bit. I wouldn't say you are going to be flat to down 10% is probably the answer for all-in cost for growth.

Joe Allman - JP Morgan

Okay. So you see continued softness on the service side.

Keith A. Hutton - President

Unless gas prices explode, yes. That'll be the answer.

Joe Allman - JP Morgan

Okay. And then Bob, in terms of acquisitions, if you factor in production to get to 15 Ts, you would probably have to buy about 2 Tcfe over the next two years. Would that require you to step up activity in a meaningful way?

Bob R. Simpson - Chairman and Chief Executive Officer

Actually, if you like at this year, our net drill bit addition was 1.2. And so we are looking at something less than 2 Ts of acquisition. We're thinking more like 1.3 to 1.5. And again, that's... last year's activity was 1.3. So actually it's a step, it's half the pace of last year.

Joe Allman - JP Morgan

Okay. I'm sorry, but in terms of like your rig activity and what not, would you expect the bigger base would cause you to step up?

Bob R. Simpson - Chairman and Chief Executive Officer

Okay, on the rig activity, you think that we have to step that up maybe 10% throughout the period would roughly about right grid because of what you said.

Joe Allman - JP Morgan

I got you. And then in terms of like where you might be focusing your acquisitions, or is it just really bolt-on stuff as you did today or might you look to get in some new areas?

Bob R. Simpson - Chairman and Chief Executive Officer

It would... we are in every that we really have wanted in over the years. I mean... and so it would be hard work to not be a bolt-on, really, really. You might see a new basin such as maybe even an Appalachian or something, but you are kind of looking at a different reason to be there. Maybe if you start believing the shale over there. But by and large, I would say our target in terms of what we think of in the activity for the reserves that we are thinking we are going to buy during the 24 months would be bolt-ons.

Joe Allman - JP Morgan

Okay, very helpful. Thank you.

Bob R. Simpson - Chairman and Chief Executive Officer

Yes.

Operator

Our next question comes from Brian Singer from Goldman Sachs. Please proceed.

Brian Singer - Goldman, Sachs & Company

Thanks, good afternoon.

Bob R. Simpson - Chairman and Chief Executive Officer

Hey Brian.

Keith A. Hutton - President

Hey Brian.

Brian Singer - Goldman, Sachs & Company

When you look at your Freestone operations, you've consistently growth that production by about 20 million a day per quarter for the last few quarters. How necessary is success for the deeper horizontals to stay at this rate of growth? Or if you start seeing success from the deeper horizontal, should we expect that quarter-on-quarter growth rate to rise?

Keith A. Hutton - President

It really doesn't any of that built in. It could rise. The question would be whether we try to drive it harder or not, Joe, or whether we decide we are going to hold that growth at that rate. And maybe we spend capital over some of these other plays. So it'd be a question of... we use Freestone as a throttle on and off the entire time. Obviously we get a big run of wells that are 10 million to 15 million a day, then your growth picks up a little bit. So still early to talk about that.

Brian Singer - Goldman, Sachs & Company

Can you add any more color on the deeper horizontals and what that could mean across your program or the level of confidence you have and how wide this could spread?

Keith A. Hutton - President

Brian let's hold that out till the conference because we'll go through the whole thing and kind of talk to you about what's going on in the eastern side and Freestone Trend. Rather than give that today, let's wait for the conference in a couple of weeks.

Brian Singer - Goldman, Sachs & Company

Okay. In the Woodford and Fayetteville, are you guys using longer lateral wells and do you feel like that adds to your rate of return?

Keith A. Hutton - President

That's still early. We are in a lot of new field wells, so we're kind of watching what they're doing. I can tell you in the Barnett, there is a lot of chatter about that. If you're in a good area, you can have a thousand foot and it's a great well. If you're in a bad area, 5000 foot well, doesn't make it a good well. So I think the jury's still out in all these plays as to whether longer laterals are really the answer or not or whether you are just drilling the best area or not. And the real answer is somewhere in between. They probably don't need to be super long and they don't need to be short. It's somewhere in between for cost and reserve maximizing. So we'll watch it and see. I mean ours are about 3350 feet and I know Newfield's drilling 5000 footers. We'll see how they do.

Brian Singer - Goldman, Sachs & Company

Okay, thank you.

Keith A. Hutton - President

You bet.

Operator

Our next question comes from David Tameron from Wachovia. Please proceed.

David Tameron - Wachovia

Hi congrats on a great quarter, a great year.

Bob R. Simpson - Chairman and Chief Executive Officer

Thanks Dave.

David Tameron - Wachovia

And I don't know, Keith... I don't know if you just passed on this question with Brian. I got cut off there. But can you talk a little about East Texas and Cotton Valley while you were you talking about... I think you threw out a 10 to 12 Bcf target for EUR. What gives you confidence I guess in that level and what are you seeing elsewhere in the play?

Keith A. Hutton - President

Well, we told Brian is we'll wait and talk about that in depth at the conference call.

David Tameron - Wachovia

Okay.

Keith A. Hutton - President

I will tell you this, the easy way to look at the reserves is horizontals are usually 2 to 3 times the verticals. In that particular area, the verticals are 4 Bcf. So that means you are 8 to 12 Bs.

David Tameron - Wachovia

Alright, alright, I'll wait a few weeks. And the Piceance, can you talk about what your well costs have been running?

Keith A. Hutton - President

They are in the $11 million type range, $10.5 million to $11 million. We are still not being able to get the pad drilling. In fact, I think I think what you'll end up seeing us do is get an actual rig like a Flex 4 or something that makes it a lot easier to drill, because we have 7 or 8 pads already built. So we can actually go to full pad drilling if we can just get past getting our gas plant on. And there is no reason to throw a bunch of capital at it around now while we can't produce it.

David Tameron - Wachovia

Okay. But if you saw two rigs running in '08, you're obviously liking what you are seeing geologically?

Keith A. Hutton - President

Yes, geological is good. The column's thick, you get a lot of gas shows [ph]. It's just a matter of trying to get the wells hooked up.

David Tameron - Wachovia

Alright, that's it from me. Thanks.

Keith A. Hutton - President

Thanks.

Bob R. Simpson - Chairman and Chief Executive Officer

Thanks.

Operator

Our next question comes from David Heikkinen from Tudor, Pickering, Holt. Please proceed.

David Heikkinen - Pickering Energy Partners

Hey guys.

Bob R. Simpson - Chairman and Chief Executive Officer

Hey Dave.

David Heikkinen - Pickering Energy Partners

A quick question trying to figure out where you acquired the acreage in the Woodford and the Fayetteville, described it as core, can you give us counties or any better description of what you are considering core?

Keith A. Hutton - President

No. We are still buying. So I don't know if we want to really talk about it honestly.

David Heikkinen - Pickering Energy Partners

Okay.

Keith A. Hutton - President

You kind of have some proprietary knowledge. You have some wells drilled in some areas that other people don't, and so you are trying to throw all that out there and let people see exactly what you are doing.

David Heikkinen - Pickering Energy Partners

Okay. And then looking at the Barnett and kind of the looking at how you guys have managed your rig count historically in East Texas and now in the Barnett, balancing decline curves, what is the total capacity constraint? Are you seeing other operators ramping up in your areas that's causing capacity issues as well or is it just purely managing your own decline curves?

Keith A. Hutton - President

You got a little bit all of it. You have got some other operators trying to run 40 rigs. I think that's nuts. Anyway, that's... I don't know how they get the gas out and so we are obviously laying our own pipeline, building our own plants, and tying to main trunks takeaway that we have already signed up for firm transport. So, we are just trying to make sure we don't get into trap where we drill a bunch of wells and can't bring them online.

David Heikkinen - Pickering Energy Partners

Okay. And then thinking about what you guys do strategically with the access of... into the Perryville Hub, now you have got gas coming from the Woodford down there. I mean, do you guys see another strategic move or you try to get gas even further to the east as you have East Texas, Barnett and Woodford growth kind of all charging in that direction?

Keith A. Hutton - President

Yes.

David Heikkinen - Pickering Energy Partners

And how does that get done? And then where do you go and what do you think you will realize from a gas price perspective?

Keith A. Hutton - President

We are working on that right now. There are several new pipes being laid. I think what ends up happening is end up... if you can get into early, you get a little bit better price, but it's all going to kind of equalize to whatever cost you for fuel and transportations to get to Henry Hub or to the northeast is about what your average is going to be. So --

David Heikkinen - Pickering Energy Partners

Okay. And then on the acquisition front, you talked about some of the private companies that want to avoid capital gains, when do you think you'll see the strategic corporate deal? I mean, what's going on there, where you have undercapitalized smaller cap companies that are kind of floundering, what do you guys think about that market?

Bob R. Simpson - Chairman and Chief Executive Officer

Our experience is great assets doesn't make the owners flounder and I don't mean that to be smart, but that's kind of true. And so, occasionally you might find a deal, but it isn't going to a blockbuster, I don't think. You may see some strategic moves for people that are under pressure to go another way whatever. To me one of the larger questions, will the majors come back in and try to buy major domestics which is something we continue to debate. Whether or not they will do that as they are finding international arena a little more difficult. But I don't think... we always...it's probably we don't look, it's just we don't really see any particular bargains in that arena. Typically the small guys, in my view, often overcapitalize even though they are small because the public markets get sometimes a little frenzied, over an idea with... it's never been our expertise.

David Heikkinen - Pickering Energy Partners

And then just one question on the Rockies, the Piceance seems like it's taking longer, you mentioned Appalachia, another area that things can take longer. I mean, when you think about going to the Rockies and to move there, now the Dominion deal you have scope and size; I mean, will it take a while for Appalachia to really get to the point where you believe in Shales? I mean, when you say that everybody is going to get into a frenzy over XTO wants to get into Appalachia. It sounds like timing-wise it'd be longer down the road would be my interpretation. Is that.... am I right or wrong or reading too much into things?

Keith A. Hutton - President

Reading too much into things. I mean, we are just watching and see what's going on. There is a lot of deals out there. Heck, I think we are the only person that's not in Appalachia right now. I mean, everybody announced that every --

David Heikkinen - Pickering Energy Partners

You don't have 10,000 acres some place?

Keith A. Hutton - President

No, we have got core data on it and we are looking at it.

David Heikkinen - Pickering Energy Partners

All right, thanks guys.

Keith A. Hutton - President

Yes.

Operator

[Operator Instructions]. Our next question comes from the Ray Deacon from BMO Capital Markets. Please proceed.

Ray Deacon - BMO Capital Markets

Yes, hi. I had a question about the old Dominion Properties and the South Texas Wilcox program, what kind of results you've seen so far. And just maybe just a quick comment on... I know last quarter you talked about Woodford wells costing about $4.5 million. Is that still the right number?

Keith A. Hutton - President

Yes, it's closest. It's $4.5 million to $5 million on the Woodford wells. South Texas is going fine. I mean, we're spreading out and drilling in different areas. I think I talked about we have a deep Frio well at 6.6 million a day. We're getting ready to go into Sheridan and Lopeno, which are the two big fields tat we bought from Dominion. We'll be drilling those this year, pretty excited about that. I think there's a lot big upside. So, you could see some good things coming forward in '08.

Ray Deacon - BMO Capital Markets

Thanks very much.

Keith A. Hutton - President

You bet.

Operator

At this time there are no further questions. I would like to turn the call back over to.. for closing remarks to Louis Baldwin.

Louis G. Baldwin - Executive Vice President and Chief Financial Officer

Thank you everyone for listening. There is a lot to cover with our four press releases. Obviously we feel like we've had a great year in 2007, both financially, operationally and reserve replacement, very excited about the prospect over the next two years of converting upsides into proved reserves and taking the company, as Bob said, from 8.5 Ts last year to 11 Ts this year to 15 Ts by the end of 2009.

So standby to watch that exciting progress for the company. And just to remind everyone, February 26th, our Analyst Meeting in New York that will be webcast also, thanks very much.

Operator

Thank you for participating in today's conference. This concludes the presentation. You may now disconnect, have a great day. Thank you.

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