XTO Energy, Inc. Q1 2008 Earnings Call

XTO Energy, Inc. (XTO)

Q1 FY08 Earnings Call

April 23, 2008, 04:00 PM ET

Executives

Louis G. Baldwin - EVP and CFO

Keith A. Hutton - President

Bob R. Simpson - Chairman of the Board & CEO

Analysts

Brian Singer - Goldman Sachs

Joe Allman - JP Morgan

Jeff Hayden - Pritchard Capital Partners

David Kistler - Simmons & Co.

Harry Mateer - Lehman Brothers

Eric Hagen - Merrill Lynch

Ray Deacon - BMO Capital Markets

David Heikkinen - Pickering Energy Partners

Michael Hall - Stifel Nicolaus

Gil Yang - Citigroup

David Tameron - Wachovia

Stephen Beck - Jefferies & Co.

Marshall Carver - Capital One Southcoast

Presentation

Operator

Good day ladies and gentlemen, and welcome to the First Quarter 2008 XTO Energy Earnings Conference Call. At this time, all participants are in listen-only mode. We will be facilitating a question-and-answer session towards the end of today's conference. [Operator Instructions]. As a reminder, this conference is being recorded for replay purposes.

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 presentation over to the host for today's conference, Mr. Louis Baldwin, Executive Vice President and Chief Financial Officer. Please proceed.

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

Thank you for joining us today to discuss our results for the first quarter 2008 and our outlook for the remainder of the year. As always participating here in Fort Worth today are Bob Simpson, Chairman and Chief Executive Officer; Keith Hutton, President; Vaughn Vennerberg, Senior Executive Vice President and Chief of Staff; and Tim Petrus, Executive Vice President of Acquisitions.

XTO posted solid results for the first quarter with production up 32% compared to the same period of 2007 and up 3% sequentially. Net income was up 21% and operating cash flow was up one-third. We are proud of our record for the quarter. More important however, were some of the accomplishments that we had during the quarter, including $2.1 billion of acquisitions announced, ramping up our commitment to shale plays including the Fayetteville and our entrance into Marcellus Shale. We successfully placed capital including $1.3 billion in common stock and more recently $2 billion in bonds and announced a target of 15 Tcfe of proved reserves by year-end 2009.

We are well positioned for higher commodity price environment. We backed up the truck and loaded up with great properties including the Dominion acquisition and the recently announced shale deals. Importantly, since our last conference call on February 12th, our natural gas strip is up 27%, the oil strip is up 25% and about a third of our production is unhedged for the remainder of this and we're essentially unhedged for 2009. Keep in mind that while our production expense is up $0.05 to $0.10 per Mcfe, mostly due to the higher prices, the natural gas strip is up $2.40 since that guidance was released.

If we compare our first quarter financial results to First Call estimates, our earnings per share of $0.92 per First Call, and our actual adjusted was $0.91. GAAP earnings were $0.92 per diluted share and the adjusting items included $9 million after-tax for non-cash change in derivative fair value.

Looking at production for the quarter; natural gas production was 1.708 million bcf per day, oil is 51,500 barrels per day, natural gas liquids 15,974 barrels per day and Mcfe equivalent 2.1 Bcf per day. This is a 32% year-over-year growth as I mentioned, 17% of that came from acquisitions, 15% from development. Of this sequential growth, 1% came from acquisitions and 2% came from development.

Average prices for the quarter, $7.70 realized for natural gas, $80.74 for oil, $52.98 for natural gas. We were slightly positive on natural gas hedging for the first quarter that will probably be the hit for the remainder of the year as the hedges that we have up to the balance will be lower than the prices that we're seeing. We're starting to put hedges in place for 2009. If we look at our '08 hedges, we have hedges from last year of 1.2 Bs a day at $8.32 and we layered on another 100,000 Mcf per day at a price of $10.10 per Mcf, so the average for the first quarter will be 1.3 Bs a day, at an average price of $8.46. For the reminder of the year, we have 1.2 Bs a day at $8.32. We've just started as I mentioned, our hedging into 2009, we have about 10% of our production, 200 Mcf a day hedged at $9.70.

On the oil front, 30,000 barrels a day for the first... for the balance of the year at $74.20 and another 5,000 barrels a day we put on just for the second quarter at $106.85. And for next year, we put on 5,000 barrels a day, about 10% of our expected production at $101.10. As always, all our hedges are in the form of swaps with most having basis hedges in place or expected to be put in place.

Revenues totaled $1.673 billion for the quarter, 43% increase from the same period of last year. Operating cash flow$1.57 billion, that's a 33% increase and our cash flow margin was 63%. Cash flow to total revenues, we expect cash flow margin to rebound for to more typical range for the company, of about 65% for the balance of the year.

Cash flow per share on an operating basis $2.10 diluted, and if we look at our... go to our unit cost analysis and guidance, as I mentioned, our production expense was up slightly to $1 per Mcfe, compared to our guidance of $0.90 to $0.95 and we are guiding for the remainder of 2008 at a $1 to $1.05.

Let's look at this in a little detail and give you some basis for the comparison. If we compare the first quarter, compared to the fourth quarter, we had $1 per Mcfe of production expense compared to $0.93. Of this, labor and overhead was $0.25; that compares to $0.23 for the last quarter, so up about 10% there $0.02. Maintenance and workovers relatively flat, $0.55 compared to $0.54 in the fourth quarter and the largest change was power, fuel and CO2, $0.18 per Mcfe, that's up $0.03 from $0.15 in the fourth quarter of last year and compression another $0.02 up from $0.01. So if you look at the $0.07 increase from $0.93 to $1, the largest portion was from power, fuel and CO2 due to higher prices and that will continue as we go through the year.

Keep in mind that our guidance of... as we talked about in February was based on $8 gas. Now we've used assumptions of $10 gas. Previously was based on $90, oil, now we are basing it on $100 oil. So that's also increased our guidance for taxes, transportation and other. We previously guided $0.70 to $0.78, now we are talking about $0.80 to $0.90 and that is as a result of higher prices.

Exploration costs $0.10 per Mcfe, within guidance and DD&A $1.99, that's slightly higher than guidance and we're guiding for the remainder of the year of $2 and $2.10. The first quarter and higher guidance is primarily due to increased undeveloped acreage and the guidance for the balance of the year makes provisions for the recently announcement acreage acquisitions in Fayetteville and Marcellus Shale.

Asset retirement obligation was in line, cash G&A expenses were in line at $0.25 on the low side of guidance, no changes in guidance in either of those categories. Non-cash G&A based on stock incentives was higher than expected. That's primarily due to the improved performance of the stock. A good portion of this relates to price vesting at higher share prices and that is difficult to predict, but will have an impact whenever our shares perform well as they have during the first quarter.

Interest expense in line, $0.47 per Mcfe. This includes $7 million of capitalized interest and our income taxes 36.6%, effective rate with 43% of that current. We expect that current portion to go down and are guiding for the remainder of the year up to 35% current.

Giving a breakout of our capital and investment activities for the quarter and development costs including dry hole costs $767 million, unproved property acquisitions $739 million, proved property acquisitions $521 billion, and gas gathering process... and processing and some other asset additions $150 million, so the total of investing activities for the quarter $2.177 billion.

Going to the balance sheet; total assets increased to $20.3 billion. We did have $142 million of cash equivalents on the balance sheet and long-term debt net of these cash equivalents of $6.3 billion, equal to what we had at year end 2007.

If we look at net debt to total cap, that's 41%, down nicely from 43% from the year end. And if we take other components of income out, we drop below 40%. So the company is well positioned with capital transactions that we announced and concluded recently to go forward with... in the acquisitions market and I think Bob will update you on that when he gets to that point. With that, I will turn it over to Keith to talk on the operational update.

Keith A. Hutton - President

Thanks, Lou. As you guys can see from the production side, we had a good quarter. Gas is right in the middle of our guidance, oil and NGLs were both on the high side. If you look at each of our division, they all were up except for Barnett Shale on a net basis, where it was flat from fourth to first quarter. We kind of alluded to little bit of a lumpy growth in the Barnett, when we were at our analyst meeting in February. And there were some third party takeaway issues in January and February, but if you look at our current volume, we are making 620 million a day, which would equate to a higher net than what you saw in the first quarter, so I think you will see the Barnett Shale growing rapidly in the second, third and fourth quarter.

So if we flip from that and look at our Eastern region into the Freestone Trend in particular, we were up about 3.5% on a net basis quarter-to-quarter. Volumes were up to 677 million a day on a gross basis. We are currently running 27 rigs and if we look at where we had our success in the quarter, 20 acre wells are still exceeding what we had expected from expectations with many of those wells coming in equal to the 40 acre, 80 acre wells we are drilling. That's a good upside and probably coincidence having more 20s to drill as time goes along. We also completed one of our shallow Cotton Valley Lime horizontals at 4 million a day.

The nice part about that, that's good start rate probably going to be reserves of 4 to 5 Bs but our costs are now approaching $4 million instead of $5 million from those wells as we've gotten better drilling them and much faster and so obviously economics are getting better on those types of wells. We have two deep Cotton Valley Lime horizontals that are drilled and we're currently completing. We would have liked to have had them completed in the first quarter. But we drilled those two back-to-back and so we are just now in the completion phase and hopefully next quarter we will be talking about those.

In addition, as we've gotten more rigs running in the North area, we have been picking up better and better wells, actually hit a 5 million a day well up there from the Bossier which sets us up for some more drilling locations on the north end of the trend as well.

If we go from Freestone Trend to the Sabine Uplift and Cotton Valley, we continued our successful development in Tri-Cities field with two wells around 3 to 3.5 million a day. Our Doyle Creek field which is in the Angelina River Trend, where we are drilling a deep Travis Peak wells, we continue to hit wells around the 2 to 3 million a day range and probably in the 2 to 2.5 Bcf range. And our costs are coming down as our last several wells were close to $2 million and making the economics very good in that particular area. In addition that 45,000 acres or so that we have in that area is beginning to have James Lime Horizontals be drilled really close to a southwestern driller well not too far off our lease line that came in very well. So you will probably see us start looking to develop James Lime across these fields as well.

If we flip from the Eastern region to the Barnett Shale, we have a lot of good wells coming in, averaging 4 to 4.5 million a day in the core area. And again, you really didn't see this in our volume growth. You will see it in the second quarter. The other thing that's a nice add is our... we had significant tier one wells come in, a lot of wells in the 3 to 4 million a day in tier one, so we had some surprises in our tier one that are a little better than we expected. We currently have 18 rigs drilling, 15 in the core, 3 in the non-core. And again, you will see the volume start to grow on a net basis in the second, third, and fourth quarter. We should have a major trunkline out of the north end of the core, that comes on line probably in June from ATC [ph] along with our CO2 treating and processing facilities in the northern end and so again you will see our Barnett Shale build in the second half of the year.

If you flip from that to the Permian region, albeit our oil was up quite a bit from the fourth quarter, a lot of that was driven by the Permian region both in West Texas and South Texas. As we've begun to do some of our infrastructure build out in University Block 9, Russell, and Goldsmith fields, it's allowed us to bring on more wells and get more production. University Block 9 is actually at its peak from any time that we've had it at 8200 barrels a day. We have seen Russell at close to 4500 barrels a day now. And Goldsmith actually cleared 4000 barrels a day as well. And lot of that's driven just by the build-out of infrastructure in those fields. Facilities we have had a couple of horizontals in Block 9 that were in the 300 to 500 barrel a day range.

If you look at South Texas, we had a couple of wells that came on late in the first... fourth quarter that we talked about. They have held up and so, South Texas is actually up about 1000 barrels a day over what we had originally forecast. And so those wells are very nice. In addition to that, we've had a couple of wells coming in the Haynes field from the Lobo Trend that were 3 million to 4 million a day to add to our gas production of our South Texas as well.

If you flip from the Permian region to the San Juan region, our production continues to grow there. We brought on our acquisitions that we made in the first quarter. That was a little bit of our volume ramp. In addition to that, we still see Raton building, along with our base multi-zone completions in San Juan. You'll see us pick up a couple more rigs here, that's part of our capital increase to drill on some of the properties that we just acquired during the first quarter that have, very nice upside.

If we talk about Raton Basin for a minute, we are still surprised as we step out from our CBM development and Pioneer brought up the Pierre shale in their last conference call. It does actually exist underneath our acreage. We do have a couple of deep wells, we actually had a Niobrara producer, producer that produced for a while. Our CBM wells have been so good, we have not really tried to do anything, we've just kind of watched to what Pioneer is doing. And so you'll probably see us testing some of that, I wouldn't give any reserve estimates or anything. But we do have... our acreage position as an upside.

If you look at Natural Buttes, we've continued to drill there, with three rigs, drilled about 15 wells a quarter. The wells are averaging just like we expected around 1 to 1.5 million, they start rating around 1.5 Bcf per well. We're still building out our infrastructure there and again, we won't have a big volume build this year until we get some of our compression pipelines redone from what we bought from Dominion. So, this is an area where you should see our volumes build towards the end of the year as well.

Piceance Basin, we have one rig running, we're about to shift out and go to a fit-for-purpose rig, which we should see coming in late in the second quarter. Our start-up of our plan is expected in the third quarter, so again we're operating as usual, but you won't see any volume build out of Piceance until the third quarter.

If we flip into the Mid-Continent region, we currently have 11 rigs running in that region, four of them are in our normal Overthrust and Fairway Trend, the other 7 are split between Woodford Shale and Fayetteville. 6 of them are in Fayetteville... in the Woodford, one is in the Fayetteville.

We've continued to see very good successful in Woodford with our last two or three wells coming at 3 million to 3.5 million a day and our costs down around $4.5 million per well. So we are still excited about our Woodford position and you will see us keep up, probably pick up another couple of rigs as we go along this year in the Woodford as well.

Fayetteville, we have one drilling rig running. By the end year we probably have 8, and a lot of that is associated with our acquisition from Southwestern, we will run probably six rigs just on that acreage base to begin with. The last three or four wells that we've built in here have exceed the 2 million to 2.5 million a day start rate and I would say the Fayetteville to us looks to be very good. We seem to have very good drilling times on our wells. We would actually drill a couple of wells in 10 days and are seeing costs come down. The wells look to be over performing what we originally thought. So let's talk, we talked about in Woodford in February and I think Fayetteville economics will get better and better as you go along and you are probably hearing that from rest the industry as well.

We are excited about our Southwestern acquisition. We believe that one of the reasons that they sold it when they did is their first several over wells in there were not all that good. And I think they had a lot of lease expirations coming along. If we look at logs and some of the offset wells drilled by other operators along with ourselves they are very good. There is an area where there are some wells that are 3 million and 4 million a day direct offsets and so we're excited about having that acreage position. I think you'll see us grow it very rapidly here.

With that let me do a little bit of wrap-up on just a shale talk. As you have seen us jump into the Marcellus as well. If you go back to 2004, we jumped into the Barnett, then really stepped into 2005 with the acquisition of Antero. We were surprised that how good that acquisition really was than we thought it'd be good, but the wells were a lot better than we expected. You've seen us didn't move from Barnett to the Woodford and Fayetteville and I believe the same thing is happening in both of those plays that is as the industry figures it out and we do ourselves and we're able to drill wells faster cut our costs and the performance of the wells through different fracturing techniques and the lengths of the horizontals and so forth has gotten better and better.

With that, we've been looking around at lot of other shales in the U.S and Marcellus is one that we talked about in February, that we thought had a lot of the right characteristics. But it's still early in the play. But we looked at several different ways to get into Marcellus. You could be drilling deals with another company, you could lease or you could buy your way in. What I would tell you is with the Linn acquisition what we looked at was, first you need people in the basin to understand it. The Linn acreage is close proximity to the wells that have been announced that are publicly good and we have some information ourselves, so those wells really are pretty good.

We need to... you need to have drilling locations. You need to have pipeline right away. There is a lot things that you need to have that you don't get just through a leasing process and the way we looked at Linn was... the base wells really are pretty small. We used to say we wouldn't get into Appalachia for those smaller EUR wells. They are 200 million cubic foot for about $300,000 a well. So actually kind of like a workover to us. You've got to drill 60 or 70 and to keep your production flat, takes about a fair bit of cash flow.

And so what that looks like is Linn's actually a pretty easy acquisition for us from an operational standpoint and it gives us the people in place and the knowledge for that particular basin. And if you look at resource base in Marcellus it's probably 40 to 80 Bs per square mile and it looks a lot like Fayetteville to us. The difference being that it gets $1.52 or so more per Mcfe. So the economics are really pretty phenomenal if you can pan it out.

If you look at kind of how we looked at Linn it was 145 Bs of reserves that we quoted. Linn had about 200 Bs on their own reserve report. And if you just look at that, that means in general, if you believed Linn then we paid $3 in them with almost nothing for the Marcellus, and if you look at what we did, it's something like a thousand or so dollars an acre for the Marcellus. All of those were very low cost for entry points into one of these kind of plays. I mean so we don't need the Marcellus to pan out to be a fantastic thing, we think it probably will and that's why we are in this early.

With that let me turn it over to Mr. Simpson.

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Thanks Keith and welcome everybody to our conference call. It's an interesting time and it's a good time to visit about XTO and what's going on, and what's going on in the industry. It's exciting as there's lots of moving parts and there is a little bit of as ongoing controversy within the industry, and within the street as to the future on what to do about commodity prices. There has been the general feeling since about 2002 or 2003 of feared nervousness that we are on verge of something we can't sustain as we go higher.

We've run the company with a bullish view. We thought it would be stronger for longer for those of who you follow us know what we are saying. No we're not betting on ever increasing prices for prosperity, we're enjoying those. We're reinvesting that capital wisely with discipline. But given what we are seeing, we remain very optimistic that prosperity continues. If you want a measure of some statistics to think, about it's a margin business as all businesses are margin business. We have a very high margin at XTO and so we're not experiencing a growth [ph] margin squeeze.

If a margin squeeze would be something that's very sensitive to costs such as to me a grocery store or 7/11 or filling station or something. Our margins have been around... cash as a percent of revenues is around two-thirds. Now this quarter it was I think 63% or so slightly down. Cash taxes were 2% versus 5% last quarter, so those were balanced around a point or two. So overall we were probably off a point or two on revenues. And so and that will bounce around and that's a phenomenon of costs up slightly as a function of the cost of fuels coupled with our perception of... and our guidance of going ahead and forecasting that phenomenon to continue for the whole year in our guidance.

And remember our guidance includes fuel costs, both in compression and production and, so those are.... there's a linear function in those as well. Those will both increase and decrease over time as oil and gas prices fluctuate. But if you look at sort of phenomenon of the day if you look at street guidance versus strip, which is... again we always take a peek at those and we've to run the business with a sense of both. We have the current strip by the Street of 795 this year versus the close of 1123 today. Next year 826 versus a close of 1056 today. All 88 versus a 119 today and for this year 84 versus 112 for next year.

So therein lies a little bit of what is being reconciled by the market since which is which. And to move that on down the road to give you a sense of what happens. Should we experience that strip the rest of year and given our hedge position, which is again we're running company with now roughly two-thirds hedged. And we've talked about that's a kind of where we run in half to two-thirds. We've also said beginning last quarter, we think we're in a little bit of transition into higher prices and to address that, we've pretty well left next year open, we're probably somewhere around 10% hedged for next year.

As we think prices are in a transition period to higher from lower. And to put that in perspective last year's average price versus now, you have seen sort of a 50% increase. And so it's very important that you don't get caught for years in a switch in terms of... now that could be a serious margin squeeze over time. But if you look at our cash flow just some sensitivities, we are looking at $4.2 billion by the Street, current strips closer to $5 billion, okay, so that's almost 20%, now that's quite a difference.

Using next year's strip and sort of what we're looking at in growth you could see $6.5 billion of cash flow. So you are kind of looking at almost a doubling your cash flow in two years. So now if you're running that kind of powerful business, how do you address what you are doing otherwise? And again it doesn't have to be $6.5 billion to be prosperous and this could be and that's the perspective in my chair.

Within that we've got to do lot of things, we've got emerging shale plays that are prolific. It's a time to grab hold or sit and miss and so you choose your position. So I've really never quite seen so many opportunities and moving parts at once. Also the acquisition market is robust as we predicted. Earlier this year a lot of tax-driven deals and other, certainly a fear of change of tax increases as you all are aware of. I think that continues. We've announced.... closed or announced $2.3 billion, last year we did $4 billion, I bet we beat it the pace we are on. Maybe by a wide margin but certainly something less... something more than last year and financially we are prepared to at least beat next year's in terms of a slight margin, we are prepared to do $4 billion to $5 billion financially at the moment. And that's... we have done relatively half that and that's prepared by a stock offering of about $1.2 billion and then more recently couple of billion in bonds. So we are ready and we are active and we are looking at a lot of deals. So... but again within the perspective, the other thing I would point out in terms of back to the margin discussion, should the strip hold this year even given our hedges, we will have record margins.

We have had record margins for every year as far back as I can view in terms of the five year perspective, but if you go back to say 2003, we are seeing record margins every year, since then going from 277 to 346 to 469 to 552 to 563 last year and again they are off like $0.13 in the first quarter. But I think the alarmist who is trying to predict a trend, it's not there, if you view the strip. If you want to use some artificial price or other price, we can contrive our margin squeeze, but we always could in the commodity business, so that's not really very interesting.

So we will drive forward with our stronger for longer influence with discipline and margin attention. Now if you... a really exciting thing if you look at next year given the current strips, you don't see a 30% increase in margins at XTO possibly if those things hold, and we haven't had that kind of explosion for years. And so, we are on the verge of a sense of excitement. Now, if it doesn't happen, where are we? Very profitable, very robust, very dynamic, but we are just talking about, what, possibly could explode even further, and one has to guide your business within that. Now the challenge at XTO at the moment is to continue to deliver value and dynamic growth, you become accustomed to... we have increased guidance three points, already this year. And it's, last I checked, it's... I believe it's April. We looked at oil production and to me that was a pleasant surprise. I wasn't looking for oil production to be quite that robustly because we were looking at the oil production more as a cash cow than a growth vehicle, frankly it's both, which is very, very exciting.

And so again, if you look at in our chair, everything is really humming along. And again the challenge is how do you balance all this? And we have never seen quite this much variables to watch at once that are just exciting, Marcellus Shale being example and so we've got to plan like a dynamic growth machine and prepare for growth in the future, which is as a company of the size of $34 billion is just really kind of unbelievable. I would have never have seen this ability to grow this fast with the size certainly 5 years ago, it just wasn't possible, now it is, and if you're minding the store, there's all kinds of things to do.

And so, our goal to make 15 Ts next year, one thing we haven't probably dwelled on enough is that we generally have been seeing upsides kind of 3 to 1 all-in of reserve potential, as we move reserves up. Now for example at 8 Ts we saw roughly 25 Ts total resource, now we are booking 11.3, we are closer to 35, about 3 to 1. And so... so what moved, if we just move to 15 Ts you would say, wouldn't it be wonderful if we could increase the upsides to 45 Ts for the whole company. So that's why you are moving book up 3 something, you're moving total up 10. Now how do you do that? One of the ways you do that is to continue to buy deals that are both proved and heavy potential.

Now... but you also have to be smart, and the trick is to not to throw up a bunch of airballs while you're trying to do that. So what you see with XTO is sort of an interesting balance of acquisitions that come heavy with exciting acreage that you are paying 10,000 or 12,000 an acre four times and that's different. It's the hybrid animal, but out of that comes the potential to have the tripling of 15 Ts book, of how you are doing 15 Ts book as well. Now it's going to take some capital, the thing that's coming faster than you might think, depends on what your target is. You're trying to move all these variables at once. You are going to move on the capital side and that's why you are seeing XTO active in the capital markets a higher pace than before. But again, we are prepared to do at least another couple of billion this year to 2 to 2.5 already, and if you look at... you'll see an exciting statistic as a businessman, it's like the Marcellus. You pay $600 million for it, you got 145 Bs and that's a conservative booking. And so for a couple hundred million dollars you got up to 40 Ts of upside. Okay, that's an nickel in Mcf. I haven't seen that in my career routinely and so, so now what happens eventually, will they all work? Our job is to stay away from those that don't, out of the shale. And so it's an interesting challenge, it's an interesting time to be in the business and I think XTO is a very interesting investment.

So with that, we will open up for questions.

Question And Answer

Operator

[Operator Instructions]. And your first question comes from the line of Brian Singer of Goldman Sachs.

Brian Singer - Goldman Sachs

Thank you, good afternoon.

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

Hey Brian.

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Hey Brian.

Brian Singer - Goldman Sachs

Couple of questions. Keith, in the last quarter and the fourth quarter, you told a pretty good I think 13 million a day IT horizontal in Freestone. Do you view that as a one-off, how do you think about the varying rates with the well that you drilled this quarter versus the well you drilled last quarter?

Keith A. Hutton - President

Brian, the last quarter well was one of our deep Cotton Valley Lime horizontals at 14000 feet. This well that's on the current is at about 11,000 feet, so your difference is, it costs $4 million to drill these type of wells that cost you $7 million to drill the deep ones. We have two of those drilled that I was talking about that we are currently completing. Do I think 13 million a day was an aberration? No. In fact, we don't think we completed that well very well and we think we got a potential for these wells to be 15 million to 20 million a day.

Brian Singer - Goldman Sachs

What's the timing for the additional deeper horizontals?

Keith A. Hutton - President

You got 2 of them now, you have a rig drilling in another one. Those probably... we are completing them as we speak. So you will them on here in the second quarter. So we'll have at least maybe three on here in the second quarter.

Brian Singer - Goldman Sachs

Okay. In the Barnett, you've highlighted the stronger than expected performance from some of the tier one wells, is there a conclusion to be drawn from that?

Keith A. Hutton - President

Tier one is an interesting animal, we're probably drilling them a little longer. We have decided that in some places you actually... we used to avoid karsts and in some places, you don't need to do that. I think that's some of the things we've learned, is some of the better wells are drilled into or close to karsts and that is area specific, Brian some areas you don't want to do that, some areas you do, I think we are learning in some of the areas we are in tier one don't go for every body by the way. But we have actually figured out an area where you can drill in close to a karst, you don't get a lot of water and your wells are lot better, so I think that's why you are seeing some of our wells in tier one to be better.

Brian Singer - Goldman Sachs

Great. And lastly, Bob, you highlighted the various cash flow opportunities, if the strip does hold. But given the costs have ticked up a little, can you talk about the cost outlook that you would see both on an operating and capital cost basis in the event that we do get the strip holding this year and next year?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Yes, I think the cost will be a little upward pressure, we put most... we put a lot of it into our anticipation of our fuel costs, which are automatic. I think though... $10 gas and at least $100 oil, I think that certainly there will be some pressure on service costs not wild at the moment, they have brought in lot of extra drilling equipment in the last couple of years that will help keep that from exploding. But I think the pressures will be up with an upward bias because of the prolific margins in the business. One of the things that's interesting at the moment as we are seeing sort of... on the acquisition side, we are seeing sort of a strange phenomenon. I think this credit crisis dried up some of the easy money that comes into our business, particularly in the high yield area and just crazy money. And so, we are finding excellent values in the deal market that are surprisingly good values given the commodity environment. And so again half of our business when you talk about cost pressures, I certainly think of the acquisition capital allocation as a cost pressure area. And for some reasons, well for reasons we are talking about there is sort of an anomaly in the market that will pass, and so we're going to be optimistic, go hard here.

And part of it is tax-driven, part of it's capital shortage-driven, relative to the commodity price environment. The commodity price environment, will it hold? Again everybody has own their views. We've got storage at five-year of average and if you look at last year, when we got over the five-year average it was... you could isolate it as with... the LNG imports were up roughly, at one point roughly 500 billion cubic feet. So they've got that's... and all of that got eaten up this winter. Now we are about to five-year average imports on LNG or less than B a day versus an average of over two last year the strip in London. There is a couple of dollars of ours and higher in Asia. So if those relationships hold that should protect us from LNG. So those reasons to be bullish. I continue to be bullish on all. I think the gas psychology is going to put pressure on it. I think should we have an event this summer, like extreme heat or the hurricane bug, we really could see a spike to 15 to 16, I hope it doesn't happen. I do think there will be pressure on the strip to 11 to 12 for next year.

This summer and I think that will be enough, I hope it's not more spike than that, we don't need those kind of prices, and to be prosperous. But it could happen, I mean where oil is, you can build theoretical $20 an Mcf value which are 6 to 1. So I think there will be pressure on commodity prices in the upper direction too, that will more than offset any pressures from costs. I think there will be margin expansion.

Brian Singer - Goldman Sachs

Your cost guidance I think you have said includes, seems $10 gas for the balance of the year?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

In our guidance, yes.

Brian Singer - Goldman Sachs

Thank you.

Operator

Your next question comes from line Joe Allman of JP Morgan.

Joe Allman - JP Morgan

Hi, everybody.

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

Hey Joe.

Keith A. Hutton - President

Hello.

Joe Allman - JP Morgan

On the last question on costs, what are you seeing in terms of the recent trends in terms of drilling and completion costs and that the day rate in another service costs?

Keith A. Hutton - President

In general, everything is holding. Pumping services has actually gone down this year. You haven't seen anybody press it up this year, really because of... so it's pretty easy entry. Everybody is doing water fracs for all these plays and so there's lot of capital floating around there. Drilling rigs have not gone up yet, I wouldn't be surprised if we see them press up a little bit. But the only thing you are seeing inflation on it's pipe, steel prices have gone up but again that's 15% to 20% of your well costs. So it's a slight inflation but not a big one. But again if prices hold you might see a little bit of that towards the end of the year.

Joe Allman - JP Morgan

Got you. So is that a change, whereas costs previously were declining, you are not seeing them just kind of a level off here?

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

Yes, I think that's right, I think everybody has decided we are not going to lower prices at this moment because it looks like commodities are coming up. But they haven't tried to press them either and you can see that as the rig count that's really going up.

Joe Allman - JP Morgan

Alright, I think got you, and then in terms of your increase in spending for 2008, could you kind a break it out, is that mostly the acquisition properties or is it cost increasing or is it... what are the kind of factors there?

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

It's actually about 40% for Woodford and Fayetteville because of your acquisitions and how well you are doing. So you're just pressing more rigs into those areas. The rest of it's kind of spread out, so we're picking up a couple of more rigs in Barnett, a couple out in San Juan to drill some of those. We've talked about a couple more of oil rigs and you kind of spread it out between the districts after that.

Joe Allman - JP Morgan

Okay it's helpful. And then could you talk about your prospectivity for the Haynesville Shale and could you also talk about the Mancos Shale a little bit?

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

Yes, Haynesville we are in that area obviously. I don't really want to talk about it, because we are trying to push our position a little bit. Do I think it works? Yes, and maybe a limited area. You don't know how big it really is and so I don't think the industry does either. Obviously we are all running around trying to figure out how big it is, but when you go to Mancos we've drilled a well in Natural Buttes, it did have good gas shows, it looks okay. We should be testing it here, we will kind of see what we think of that. Questar has drilled a couple of deep wells to offset us and we're obviously in a deal with --

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Gasco.

Keith A. Hutton - President

Gasco, it's out in the Natural Buttes area and we have a high interest in that well. It's offset PetroCanada well, it's got run rate that's really good because of its own [ph] plus Mancos. And so I think as the year goes along here, you'll get some really good data on that, but it's a little early at this point.

Joe Allman - JP Morgan

Got you. And then lastly, any opportunity to buy any more acreage in the Woodford Shale here?

Keith A. Hutton - President

Yes. There is some people popping out with some stuff, some large companies coming out with some stuff and there are some smaller ones that are coming out too. And it all depends upon your opinion, like we said at the analyst meeting, Woodford is a tough game to play from a structural, you need 3-D and the 3-Ds are just now getting shot. So I would say it's early to come out and an opportunity to go in if you believe that the 3-D is going to tell you where to go because there are some really good Woodford wells.

Joe Allman - JP Morgan

Got you. Very helpful, thank you.

Operator

Your next question comes from the line of Jeff Hayden of Pritchard Capital Partners.

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Hi Jeff.

Jeff Hayden - Pritchard Capital Partners

Hi. Why don't you talk a little bit more about the Marcellus? With the acquisition, what are your plans for drilling it up and what you are seeing with regards to the prospectivity of the stuff in West Virginia versus Pennsylvania? Do you have a kind of similar expectations with the EURs plus the whole acreage position you bought?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

One thing I would say as a philosophy... and I'll let Keith comment on the technical aspect. We enjoy long life in the reserve aspect of the company. On the leasing side, one thing that we pay a lot of attention to is the life of the lease. One thing that Keith didn't highlight a while ago in his analysis of the costs, but you all can relate to it this way, if... would you rather have a one year option or one that last 30? And would the value be different? And so if you look at the technical side of the business, a lot of this opportunity in the Marcellus is what we call held by production, so that you will own those rights for as long as you produce the shallow. And that could be 40, 50, longer than certainly I'd care and maybe you could, but now and so that's a good deal of it.

So the philosophy of it is as you get into these areas get some life because it's early in this play and you are paying a lot of... you are thinking of it more as option value. The $1000 an acre, that's more of an option value than we start paying $10,000 a acre, you better be right. And so that's a different bet and so that this is more of an option value driven play and we're looking for a length of time, I'm not saying we know exactly what to do where.

And but we do like the qualities we're seeing. We think it's worth the money to go ahead and take the position because of the risk relative to the dollars exposed and smart. And we think it's at a state of lower risk than not, but we don't think it's the stage of some of these other shale plays with. But with that, you'll see us when we enter these things, try to get some life on our options.

Keith A. Hutton - President

Jeff, I'll talk a little bit to your questions on West Virginia versus Pennsylvania, you've probably seen a lot of different companies as you get into Southern and West Virginia, the pressure gets lower in the Marcellus and it gets thinner. The real reason for buying the Linn properties goes to what Bob's talked about, the HBP, they have pipelines in place and right of ways for you to be able to lay high pressure lines into your Marcellus wells and you start drilling them. You can drill shallow wells and drill into the Marcellus just an extra 1000 to 1500 feet and there is some testing its verticals without a lot of costs and go ahead and hook them up and flow them into your current pipelines and has a lot of advantages in that way. If you look at fitness, most of the stuff is probably 150 feet to 200 feet thick that we got from Linn.

It is not very far from some of the plays that Atlas and Range are doing. It looks very much the same on logs, there are a lot of deep wells in the Appalachian basin you can see. You can see what the frosty looks like, you can see what shale looks like and we think that you got to have a certain amount of density porosity or it's not a good play. So we've kind of picked out what we believe in the fair way and the Linn's property slammed right in the middle of it. I don't think whether it's equally pressured or over pressured makes all that much difference. You need the permeability, you can have a lot of overpressure. And if you've got no perm, you've got no well. And so what I would tell you is there are some places up toward New York that look like they are okay and you have heard a lot about that from the players up there. And then you're seeing a lot of stuff right down here on the Pennsylvania West Virginia border, where Range and Atlas are playing and those look good as well. All of them have reasonable pressure and reasonable gas in play and again it's all tied to if you are in the right spot perm wise and fracture wise. After our evaluation and we've been doing it for about 18 months, we really decided Linn was in a pretty good spot.

Jeff Hayden - Pritchard Capital Partners

All right. And then jump into the Barnett real quick, results in the core continue to look quite good for you guys. What do you think is kind of a fair number to use as far as expect the ultimate recovery on a per well basis for the stuff you got in the core area right now?

Keith A. Hutton - President

You know we are using around 3 Bs. There are obviously some really hot spots where you've got like 8 and 9 Bcf wells, no joke. And I mean those were phenomenal, and what I would say is we started off low and so we used to say, it was 2.5 and it was 3, maybe 3.5, we have all been surprised how good it is. I think the thing to remember as you are talking about in some cases you get into the core areas, 400 feet of thickness and probably 200 Bs per square mile of gas in place, we run around saying 150, but some of these areas have a lot more inside. Yes, I think we've all been in surprised, it all comes down to the tail decline, Jeff, is it 7% or 8% or is it 4 or 5. If you run models you can get shallower decline rates, reservoir models. So, it's one reason we are so aggressive in trying to get more acreage in the core and drilling in there is... If there is an area that's ever going to outperform, we wrote down on a paper, that's it.

Jeff Hayden - Pritchard Capital Partners

All right, appreciate you guys.

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

You bet.

Operator

Your next question comes from the line of David Kistler of Simmons & Co.

David Kistler - Simmons & Co.

Good afternoon, guys.

Keith A. Hutton - President

Hello.

David Kistler - Simmons & Co.

Thinking about the infrastructure angle of things, as you talked about the acquisition market being as robust as it is and looking at your last couple of acquisitions, having infrastructure components to it. Is that something that we should be looking forward going forward and as we think about how we budget our capital spending, should we be assuming something like maybe 7% to 10% just based off the numbers you gave us earlier of capital going to gathering and, processing and what not?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

I think that's reasonable.

Keith A. Hutton - President

Yes, I mean obviously you're going to... one of the key components to our success in both Freestone Trend and Barnett is our ability to control the infrastructure build out. It's, why we make a volume forecast in lot of cases. If you are waiting for the other third party guy to get in there and he has got a problem, you are trapped. And so we're able to wield capital to wherever we need it, order compressors when we need it, put in bigger pipe if we have to, a lot of things that allow us to make our volume forecast to beat them. I mean so, a lot of these areas we are buying them because we have infrastructure control. So sure, I mean you will see us spend more on infrastructure as we go forward, but volume build will follow it.

David Kistler - Simmons & Co.

Okay. And kind of thinking about as, as you gather more and more infrastructure, do you potentially look at some point spinning that out as a separate company, anything like that or as a source of capital for ongoing acquisitions?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Yes, we might at some point, what you're looking at now is a growth business that's capital intensive and so it's probably needing virtually all of its own cash flow to grow. And that doesn't particularly lend itself to some of these MLP structures for example readily, ultimately it will be material and then certainly you can look at, could we possibly get the multiple for that cash flow stream of the business higher than the overall cash flow of the company? Certainly, there has to be a lift to be meaningful to go to the trouble of it and now... and one way to make that irrelevant is give the overall cash flow multiple of the mono-company up, which would be more interesting I think and more valuable. And so I think you are seeing a little bit of a lift evolving into the E&P companies and if we ever capitalize strip instead of something else, perhaps it could be further expansion should the strip hold. And so, but we will continue to evaluate it. I don't see it as a company maker, but certainly source of capital potentially.

David Kistler - Simmons & Co.

Okay. And as you guys continue on kind of this aggressive growth plan that is out there and apparent right now, how do you match that or staff that with people, that seems to be kind of the constant conundrum. Can you comment a little bit on that?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

We'll get... one of the successful things about XTO is we are kind of like coming to America. We are a melting pot of other companies' employees. And so we have been very successful with that. And so when people say, when we buy something, they say we will use your people or their people. If we used our people, we would have been out of business in terms of growth ten years ago. So what we... and again generally you get the field people, the choice of them in these deals. And so we are very successful at rejuvenating and melding in that culture and reenergizing that group of people. And so... I've got a lot of history in the company like 3, 4 year for doing that and otherwise, you're getting into the technical staff, professional staff, there is certainly a shortage of that talent in America, that's more chronic than probably known and there is all kinds of ratios of the professions and so there was a... for a while there was a dearth of Africans going into our business as we went through the bust of yesteryear. So capital, I mean will be one thing, professional talent will be another. And so that's a good question, and that'll continue to be a challenge.

I think one of the advantages we've had is the culture of success and growth and frankly, a place where you can make some money, of course with performance of the equity. And we reward our professionals with some equity incentives as well as, we are on the two years, two bonuses a year plan, for the key people and the key professionals. So we work hard at it, we've got a great reputation. And generally some of these deals even though they are asset deals, we do get some staff that comes with them that, that are non-field and Keith I will let you elaborate, you are the one that's get it done.

Keith A. Hutton - President

I think the guys that are working in that particular basin may be for another company, that actually is not drilling like you are, they know you are very aggressive that will jump ship and come to you. And changed about three years ago too and started going to the schools and hiring guys straight out of school. And what I'd tell you today is maybe they were smarter than I was when I got out of school, but these guys are pretty good after two-three years. And so what... if you can drop them into this kind of trial by fire situation where we have a 25-year guy as a mentor, and we're drilling this many wells in these areas and they learn very rapidly. So you end up with some pretty good engineers and geologists two-three years out and we've got a pretty good group of those guys coming to the company at this point and it's been able to really help us as we grow. And we get enough of the older guys, the 25 to 30 year guys to help us mentor those younger guys and work for us.

Like Bob said, it'll be a challenge, but if you at the acquisitions we made this year, really Fayetteville and Woodford are already in our backyard and we're already operating in those areas. And Marcellus it's not a lot different, we're getting the Dominions, I mean Linn staff over there and they've got some pretty good people, with some geologists that remain there for a long time, some landmen obviously field people. I mean so I think we're going to end up like Bob said being able to bring those people into the fold and that will give us our operating staff we need to get started in Appalachia and I hope that it'll be as hard as you might think to get it built.

David Kistler - Simmons & Co.

Okay. So I mean just to kind of capture that. It may be biased as you guys a little bit more to bolt-on acquisitions or certainly like structure type acquisitions going forward?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Yes I think that's probably been our strength for a good while, I call them an additional franchise base as we get, we have a very large franchise base. We are one of the largest holders of domestic reserves now and natural gas. And so after that comes as you say bolt-ons and so that's the bread and butter part of the business. In most of the deals we're doing today even though it's more dollars or because we are exposed to so many of these areas, to qualify is theoretically as a bolt-on. And so that's working for us.

David Kistler - Simmons & Co.

Well, I thank you guys very much for the clarifications.

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Thanks.

Keith A. Hutton - President

You bet.

Operator

Your next question comes from the line of Harry Mateer of Lehman Brothers.

Harry Mateer - Lehman Brothers

Hi guys. My first question is just a follow-up on the CapEx increase. I was just wondering is the breakdown roughly 40% Woodford, Fayetteville, the increase for the midstream CapEx as well, or is that concentrated in any one location?

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

No, it's close about 50% of that midstream increase is Fayetteville and Woodford and the other 50% is unique opportunity we've run into out in West Texas, where I mean our Cornell and Mahoney units, we go into an oxy plant to strip the CO2 out of our gas and reuse it, that plant is full. So, we are in a position, where if we want anymore volume growth out of those fields, we have to build our own and we are building that, that's another $45 million to $50 million deal. But it's... should be operational late in the fourth quarter, early next year and we are going to get 800 barrels a day of NGL out of it. If you look at cash flow, it pays out 2.5 years, so it's quite a good economic venture to do and so, we jumped into that here in the first quarter. So that basically makes up the $100 million of increase.

Harry Mateer - Lehman Brothers

Okay and what was your total CapEx in the first quarter?

Keith A. Hutton - President

There is about 150 million on the gathering, processing and other assets, kind of catch all category. The gathering, processing really was more on the $400 million pace. If you look at development CapEx, we were just over $767 million for development costs, unproved property acquisitions $739 million, and proved property acquisitions $521 million and so with 150 gas gathering, processing and other assets acquisitions $2.177 billion in CapEx.

Harry Mateer - Lehman Brothers

Okay. And then last just on acquisitions, with the prospect of potentially couple of billion more this year, as I think about financing for that and I believe you've given yourself some dry powder with the recent bond deal you did, so you probably got a bit of a cash build on the balance sheet not to mention free cash flow throughout the year. But the difference between whatever cash you have on hand plus free cash flow, would you guys consider coming back to the equity market or another bond deal, both. What are you thinking of right now?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Right now, we are set up for again the program we described earlier, for the right opportunity, we've always said, we would come back. I think the philosophy is the way we would run it, and these deals, these deals will come and go. And so a couple of years ago, the whole year was $600 million, last year it was $4 million and so it's the old make hay when the sun shines a little bit. And so we would, I would tell you this. I have never bought a great asset that I wish I didn't and I never lost one that I am glad I did, and so now again, what does that mean? Well that's our job to decide what's a great asset, that's all we get paid to do, we've got the track record.

So we know how to do it and so if a great asset came along, we are prepared to do more if it's just fodder, no, thank you and by the way, growth for growth sake is insane at our size because it just makes our hard... our job much harder. So we are aware of an increasing reserve base percentage growth. It's something you have to pay attention to. So the discipline is this, we will not buy an asset unless it can contribute to grow at a pace that's at least as much as the average asset we own and certainly to be a great asset it had to more, so we won't do it unless we think it's accretive to the potential growth.

Harry Mateer - Lehman Brothers

Okay. And then last just you know on the credit ratings front, any change to how you guys view yourselves, still happy at mid BBB, is there where you want to be?

Keith A. Hutton - President

Well I think there is advantages as you step up, they're relatively slight, but they could help on the CP side, commercial paper side. The size that we are getting to be would help the agencies look at it a potential upgrade, but in running our business, we really run it for the balance sheet to be in the fair way of the group and be well positioned for additional growth. And with that in mind, we try to keep the relationships with the agencies very open and they know exactly what we are planning to do. And that's generally to run a good strong balance sheet. So, that will be up to them as we get larger, just seems like the increased size tends to help in that direction.

Harry Mateer - Lehman Brothers

Thanks very much.

Keith A. Hutton - President

You bet.

Operator

Your next question comes from the line of Eric Hagen of Merrill Lynch.

Eric Hagen - Merrill Lynch

Good afternoon.

Keith A. Hutton - President

Hello.

Eric Hagen - Merrill Lynch

A question on the oil side, what was driving the out-performance in the production volumes in the Permian? Also South Texas, I think Keith mentioned, you are doing 1000 barrels per day there, is there any upside to that? And then finally, in terms of the acquisitions you are looking at, are any of those oil properties?

Keith A. Hutton - President

Let me cover the first two questions you asked, let's go to oil and South Texas. We drilled 2 or 3 wells at a rate and they have held up close to that and that's why you are 1000 barrel a day over what we have originally forecast. Is there any upside to that? And it would be yes to offset some of those, which we'll be during later in the year.

On the Permian side, some of it is driven by some very good performance out of horizontals in Block 9 and Russell, 300 to 500 barrel a top well. The other is, we have been working on facilities infrastructure build out to be able to handle more water and oil in both Russell and in Goldsmith, and some of those things there are just now coming on line allowing us to actually increase production out there and that's why we believe it's going to hold for the rest of the year.

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

And one of your questions was, are there any oil deals out there and they are predominantly gas, but that's been the market for a good while. And every now and then you will see an oil deal, but most of them are gas.

Eric Hagen - Merrill Lynch

Okay, great. That's all I had, thank you.

Keith A. Hutton - President

Thank you.

Operator

The next question comes from line of Ray Deacon of BMO Capital Markets.

Ray Deacon - BMO Capital Markets

Yes, hey Keith.

Keith A. Hutton - President

Hi Ray.

Ray Deacon - BMO Capital Markets

I was wondering... just a good question on the Piceance, what you hope to have accomplished by year-end in terms of production and number of wells online there and how the wells that are not yet hooked up look to you relative to the first couple?

Keith A. Hutton - President

You know log wise, Raymond, that's all you really look at, they look equal to the ones we have on line. I think we should have all 7 or 8 of those completed, I think there is... I think we drilled 7 wells, we are drilling our 8 and only two are online. We do have to lay a pipeline to one pad, it has got two of those wells still to go. So, once we get our facilities in the third quarter, we should be able to frac all those wells. I think our biggest drive is going to be toward getting a fit-for-purpose rig in there, so that we lower drilling costs and really working on that angle.

So we have a rig in mind that we think is a good one. We are just waiting for one when it comes free, we can get it. So that should happen in the next couple of months. I think you will see us by the end of the year have lower drilling costs and some more production spread out across our entire acreage position, to give a better look to what potential is in total.

Ray Deacon - BMO Capital Markets

Got it. Ad how many wells will you drill per pad do you think?

Keith A. Hutton - President

12 to 14, we've got some pad that are 10, some that are 16, it just depends what BLM will allow us to do but that's kind of what we're set up for us an average 12 to 14 wells per pad.

Ray Deacon - BMO Capital Markets

Got it, thanks a lot.

Keith A. Hutton - President

You bet.

Operator

Next Question comes from the line of David Heikkinen of Tudor, Pickering, Holt.

David Heikkinen - Pickering Energy Partners

I had a quick question for you, Louis on... if we hold $10 gas flat $100 oil into 2009, should we just going to have a steady escalation in production costs and G&A costs, just kind of GDP wise or what do you think about overall cost heading into the sequentially as we go through the year at a flat price deck?

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

Yes, we looked at it pretty closely and what you have now is that you had kind of a change this time last time in your maintenance operations to keep production up, we kept those up that's another reason our oil production has outperformed. And so you got that components stayed pretty flat. If you have the $100 oil and $10 gas, I feel like the numbers that we have given you are adequate to take care of it for a few years and if you go to $120 oil, gas is $12 you are going to have some of that ramp up that Bob is talking about that just due to the fuel component and how that works. But we looked at it pretty hard and we feel like we are in pretty good shape on it. It does seem like whenever prices have an upward bias costs do too on the production side and one thing is you're just working hard to keep everything online and keep production up at a higher rate. So I think we feel pretty good, you see it's a Q2 through Q4 forecast, so that should take care of us, I think if and only upside that I'd see is the prices average higher which is certainly good.

David Heikkinen - Pickering Energy Partners

Just one thing more, sequentially how do you see the quarters go, is it kind of a steady ramp through year, just with that type of activity if prices stay high you try to work harder in that type or is it just relatively flat is what I was trying to get an indication?

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

Yes, I mean you just --

David Heikkinen - Pickering Energy Partners

In that range.

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

Yes, relatively flat within that range, we don't see it ramping up as you go through.

David Heikkinen - Pickering Energy Partners

Good.

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

Well, as each quarter of oil, you'll have some ideas. If you go back to last year, we actually had a pretty flat year after we had a step change. So we'll see if that happens or not.

David Heikkinen - Pickering Energy Partners

Okay. And then Keith, just thinking about export capacity out of each of your areas, any constraints that we need to think about out of any other regions other than talked about the Fayetteville in the past or if there is anything else that we need to be thinking about from a constraint on the export side?

Keith A. Hutton - President

No, at the moment. Woodford, obviously there needs to be some pipe builds in there and we are working on that as are other people. But I don't think that constrains you for the next couple of years, year and a half. And by the end, somebody is going to lay another pipe, there is a lot of things going on with that.

I do think Marcellus is going to be the... obviously, there is... somebody is going to have to lay pipe into the Appalachian basin. There is not enough takeaway if we all get this to work. And so that could be a constraint, but that's not built into any of our volumes and I think once this year is over, people drill too much of wells, somebody will lay a pipe in there if the wells there are as good as we think them is.

David Heikkinen - Pickering Energy Partners

And then conceptually, is there ever a time that you sell assets or sell land as a source of capital or is it the cap... you're still completely in capture mode and your upside potential of finding something else or doing something better in the future is just higher than what you think the other sources of capital would be?

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Yes. If you look at... if you look at selling assets, generally the... we are dealing on the buy side of that and I would... we have very high quality base and I would guess with our cost of capital, probably at least on the incremental, probably we are talking about now, certainly lower than what you could sell that at, given the fact that we did bonds for a blended rate of... in the early 5s, so that certainly you would ask me to do that first. Yes, we are not down to burning the furniture to keep some of the rigs going, like maybe some competitors. I don't think that's the way to run a business, so and so again to the end of that, very hard... couple of three odd process which I don't see our assets deserving that.

David Heikkinen - Pickering Energy Partners

Thanks for the concept, not necessarily expecting you to do that, that was just scary. Thanks

Keith A. Hutton - President

David, this one advantage of that investment grade rating if you go back earlier in the company's history growth was always problematic, depending on the balance sheet. Now with the stock that performs well and the investment grade rating, you can right size the balance sheet, the opportunity that you see.

David Heikkinen - Pickering Energy Partners

Thanks guys.

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

All right.

Operator

Your next question comes from the line of Michael Hall of Stifel Nicolaus.

Michael Hall - Stifel Nicolaus

Hi, thanks. Pretty well covered at this point. Keith, real quick, you had mentioned some James lime potential I believe in the Angelina River Trend area there, talk a bit more, do you plan on testing any of that potential or...?

Keith A. Hutton - President

Yes, I mean, right now what we are doing is by drilling the deep crevice between the James Lime, and so we spread out our acreage position, we will probably figure out the best place to drill.

Michael Hall - Stifel Nicolaus

Okay.

Keith A. Hutton - President

We are in no hurry to do it. I mean if we see some really good stuff, we probably will. Top Western is coming right out so I mean and they prove it up for us as they go along here while we are proving up our other stuff, so that's really pretty nice set up.

Michael Hall - Stifel Nicolaus

Okay. Would you expect that to be then horizontal development or?

Keith A. Hutton - President

Yes, probably would be.

Michael Hall - Stifel Nicolaus

Okay. All right. And then in the Marcellus or Appalachian basin, there I mean... now you've got your initial footprint, do you have identified areas where you want to start adding already or you're going to do some digesting first?

Keith A. Hutton - President

Probably a little of both, obviously we have some areas we think are prospective. So you might see us add some and then we are probably going to spread just the similar areas we think are good, and then drill some wells inside out from there. The hope is here in early in up here that you get your well done and figure it out, the faster than some of your competitors and you expand your position rapidly would be the idea. So we are going to get after it here when in the year we start to testing some there.

Michael Hall - Stifel Nicolaus

Got it, very good, that's all I had, thanks.

Keith A. Hutton - President

Thank you.

Operator

Your next question comes from the line of Gil Yang of Citi.

Gil Yang - Citigroup

Hi. Well, most of questions have been answered of course, but could you just comment on... if you want to compare Fayetteville and Barnett to Marcellus in terms of the ease of surface access, rights of way, permitting, amenability towards or the friendliness towards drilling activities. Could you maybe just like put you on a scale of 1 to 10 and give us an idea of how once Marcellus works, and you get into development well, how quickly could that be ramped up for you and all the players?

Keith A. Hutton - President

Now, let me just take Marcellus, because Barnett if you have that in city, it's fine to bring that cities tougher. Some of the better wells are in the city, so you have to play the game. Fayetteville is obviously hilly, but there is nobody that lives really of great consequence, so relatively easy to get in there. Marcellus isn't a lot different, it's pretty area and there is a bunch of little ranches and things like that. It is hilly... One of the reasons we went with HPP production is you know you can build a pad, where they already have wells. One of the problems with leasing, as you guys are actually leasing some areas you can't get to a pipeline and you can't grow over easy. And so again, that's another advantage to buy something where you know the production is already in place. I don't think honestly it will be that hard to drill up there. There is a lot of wells in Appalachia, there are a lot of these guys. So they are kind of used to the oil industry and a lot of these guys are seeing more money poured on them, lease bonuses and royalties than they have ever seen. So, if they don't like you to start off, which they will after they see a nice bonus check and royalty.

Gil Yang - Citigroup

Do you think that friendliness is different depending on the part of... if you are in Pennsylvania versus West Virginia?

Keith A. Hutton - President

Sure, I mean it just depends upon where you are, that same thing happens where you've got some [indiscernible] it depends on what their perspective is. I don't think you know enough now to know whether one way or the other.

Gil Yang - Citigroup

All right, thanks.

Operator

Your next question comes from the line of David Tameron of Wachovia.

David Tameron - Wachovia

Hi, one more question believe it or not. Keith, are you saying the pressure... obviously, rigs are plentiful, but are you seeing the pressure on the higher and horsepower rigs, you know about 1500 and that some of the higher rigs needed for some of the exceptional drilling?.

Keith A. Hutton - President

Not at the moment, but that's... we've got enough in-house. We are not trying to go out and get a bunch of them. If you are those guys trying to go out and get something, there may be some. But we've got most of what we need in house and if we are picking up anything new, they are build outs, something like that the fit-for-purpose.

David Tameron - Wachovia

Okay. But to go out and add on the margin today it's more difficult than six months ago?

Keith A. Hutton - President

Quite a little more difficult, but that all depends upon the region.

David Tameron - Wachovia

All right. Fair enough, thanks.

Keith A. Hutton - President

You bet.

Operator

Your next call comes from the line of Stephen Beck of Jefferies and Company.

Keith A. Hutton - President

Hello.

Stephen Beck - Jefferies & Co.

Hello, good afternoon. I was looking at your Woodford costs, I think you said latest wells are $4.5 million. It seems you're getting some improvement there. Just wondering if you could talk about your Woodford construction and where you are getting your cost savings?

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

You drill an in field that you have already drilled a lot of shallow wells and so you kind to know what your traps are. Some other guys have the spread out, where they don't know what's going on and where the pipes are and so they are facing maybe more cost pressures than we are at the moment. A lot of it's just been that we air drill when we can. That means, we blow down the early hole fairly fast and we've been enable to make advances in drilling in the Woodford Shale itself of different bit designs and mud motors and so forth so. It's just a number of things that you have been able to do.

Stephen Beck - Jefferies & Co.

What kind of TDs are you hitting out there?

Keith A. Hutton - President

Ranges from 5000 to 10000 feet, and we're drilling 3500 foot collaterals and we are probably going to test a couple of the longer laterals and the more frac stages like the new field thing as well.

Stephen Beck - Jefferies & Co.

Okay. On the Barnett, can you tell us what the volumes are that's currently behind pipe?

Keith A. Hutton - President

What are you looking for? Well that are shut in or not producing yet or what?

Stephen Beck - Jefferies & Co.

Exactly. Just you have--

Keith A. Hutton - President

There is always an inventory of 80 and 120 wells it just depends on what time you are out there, waiting for hook up on pipeline, and so there is always a pretty good inventory floating.

Stephen Beck - Jefferies & Co.

Okay. And then thinking about the conversation on acquisitions and thinking about the oil plays, any thoughts on the North Dakota Bakken or some of those more emerging plays.

Keith A. Hutton - President

You know we mentioned the Bakken in our analyst meeting as a potential area we have been watching. Sure if it's the right assets, if it's not, we won't jump in, just depends upon what you see come out.

Stephen Beck - Jefferies & Co.

Okay, great, thank you very much

Keith A. Hutton - President

You bet.

Operator

And your next question comes from the line of Marshall Carver of Capital One Southcoast.

Marshall Carver - Capital One Southcoast

Yes, just a quick question on a Marcellus. Atlas is having a lot of success with vertical wells. Range is leaning more towards horizontal, you certainly have a lot of horizontal expertise in different shale plays. What are your thoughts for the Marcellus Shale in terms of verticals versus horizontals?

Keith A. Hutton - President

I probably don't know enough, what I would tell you is Marcellus verticals are some time hit and miss, you get a good area and then you get a well as not as good, horizontals will take out some of that choppiness and your wells will be a little more consistent. So we'll probably lean to a horizontal honestly, it's going to keep your footprint now as well in that area for a location and so forth. I would tell you with our experience in all these shale plays is to play to a horizontals, it gives little time to play we are able to get out.

Marshall Carver - Capital One Southcoast

Okay, thank you.

Keith A. Hutton - President

You bet.

Operator

And you have no further questions, I would now like to turn the call back over to Mr. Bob for closing remarks

Bob R. Simpson - Chairman of the Board & Chief Executive Officer

Thanks very much. This has been a long conference call so we wouldn't take long to wrap it up, just simply to say that we believe we are in a period that's transitioning to higher prices, we're in a very well position to do it. And there is some really exciting possibilities to ramp up our earnings and cash flow into these higher prices as we go through this year and but most especially into 2009 and thank you very much.

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

Thanks everybody.

Operator

Thank you for your participation in today's conference. This concludes the presentation and you may now disconnect.

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