Tony Bennett may have left his heart in San Francisco, but it’s only because the honey-voiced crooner was not in the oil and gas business — especially natural gas.

Bennett was nowhere to be found at the Independent Petroleum Association of America’s annual west coast Oil and Gas Symposium (OGIS) in late September. Sadly, neither was his heart. The San Francisco event this year attracted a less enthusiastic crowd reflecting a financial industry that, judging from the long third quarter drum roll of sell-side downgrades for oil services, had developed ennui on energy.

And that’s too bad. In contrast to today’s mega-conferences that emphasize large public companies rehashing progress in the latest tight formation oil or gas play, the west coast OGIS event is a forum for smaller public companies that are promoting tomorrow’s stories. It is an early glimpse at the conveyor belt of ideas imparting vitality to an evolving oil and gas industry.

San Francisco OGIS this year also featured one of the larger gatherings of upstream MLPs assembled in a single setting. The consistent yield model of the upstream MLP has come of age with investors. OGIS presenters included eight —count them — of the 11 existing upstream MLPs. If you want to know what’s going on in transactions, ask the management team of an upstream MLP. Each of the OGIS eight outlined a favorable climate for acquisition of mature assets.

“Assets change hands all the time,” Richard Robert, chief financial officer for Vanguard Natural Resources LLC. (NYSE: VNR) told attendees. “The type of assets C Corps divest are exactly what we’re looking for, so deal flow is not a problem.”

My Love Waits There In San Francisco

Actually the Permian Basin demonstrated some heart in San Francisco. The dusty West Texas region has returned to the prominence it once held when it was producing 25% of the nation’s daily oil production. A recent series of billion dollar transactions, some involving majors such as Chevron Corp. (NYSE: CVX) and Royal Dutch Shell Plc’s (NYSE:RDS) September 2012 purchase of Chesapeake Energy Corp. (NYSE: CHK) Delaware Basin properties, demonstrate that operators are back in the saddle in a region that has produced oil or gas for more than 90 years. The Permian is gaining momentum as operators apply unconventional techniques such as horizontal drilling and multistage fracturing to multiple tight formation targets. That in turn is bringing about a progression in Permian drilling as operators turn from bread-and-butter vertical Wolfberry drilling toward larger yields from horizontal efforts.

“In the Wolfberry, we’ve drilled 70 wells,” said Fred Callon, chief executive officer for Natchez, Mississippi-based Callon Petroleum Co. (NYSE: CPE). “We have over 100 locations left but we’re phasing it out to the extent we think the economics of horizontal are better than vertical.”

Little Cable Cars Climb Halfway To The Stars

Cost pressures are also accelerating acquisitions and divestitures in the Permian Basin, according to Steve Pruett, senior vice president for business development at Midland-based Concho Resources Inc. (NYSE: CXO).

“What has changed in the Permian is that it is a game for the big boys, whether it is $2 million Wolfberry well or $9 million Penn shale well, and the smaller independents have trouble playing that game,” Pruett told a standing room only break out session at OGIS.

“There are firms like Legacy (Legacy Reserves LP Nasdaq: LGCY) and EnerVest (EnerVest, Ltd) who are rolling up the mom and pops who have mature production and are ready to go to the farm. And then there are a number of private independents in Midland that have gotten sophisticated and are playing the game, but have leased so much acreage and are now seeing the vertical game become a horizontal game. A $3.5 million well is now an $8 million well, so they are saying: ‘Wow, that’s a game for the big boys. I’m either going to have to go to Mr. Private Equity and get some backing,’ sell down, find a JV partner, which some have done, or drill a handful of wells and sell. So we’ve never seen more deal flow from private independents — and frankly from smaller public independents who have acreage positions they can’t process.”

The Morning Fog May Chill The Air

But it wasn’t just Tony Bennett — or his heart — missing from the West Coast conference. Natural gas, at least short-term enthusiastic support for natural gas, was nowhere in attendance. Michael Watford, CEO for Houston-based Ultra Petroleum Inc. (NYSE: UPL) started the conference with a sobering review of an oversupplied natural gas market.

“We’re deferring completions and we’re cutting capex as fast as we can,” Watford told the conference. “You just can’t turn this stuff off quickly is the message.”

According to Watford, UPL began the year with $925 million in capex, was down to a run rate of $825 million as of the OGIS conference, and would exit 2012 below $625 million. In Wyoming, where Ultra controls 53,000 net acres in the prolific Jonah-Pinedale dry gas play, the company reduced rig count from six units to two in early 2012 at a cost of $10 million in cancelled contracts.

“I think we’re typical of all the other companies in the industry. You haven’t seen the production cuts that are coming, because when you cut capital it takes awhile to wind down,” Watford said.

And that led to a startling prediction.

“Much like gas prices went down very quickly, they can go up very quickly,” Watford said. “Most companies are going through their capital budget forecasts for 2013 right now. You are not seeing any allocated capital drilling dry gas wells. By the time supply comes down in 2013 you won’t see capital go back into gas until 2014. That means you won’t see a production increase until 2015. So here comes $6 gas.”

Meanwhile, Plan B for natural gas companies was evident in a presentation by Gastar Exploration Ltd. (NYSE: GST).  Chief executive officer J. Russell Porter
outlined a stealth liquid play in the Midcontinent in which Gastar had blocked up 25,000 acres as a 50% partner. Gastar has drilled one well in the play, plans to complete two more by year-end, and spend up to $40 million in acreage acquisition and drilling in 2013. Porter said the last two of the nine wells Gastar’s partner had drilled in the play generated IPs of 600 Bopd.

“If we see that sort of performance from the wells we’re drilling, we’ll be off and running and trying to get as much acreage as possible in this play,” Porter said. “It will certainly change the outlook for Gastar and give me a reason to take the ‘gas’ portion out of our name and become anything other than Gastar.”

Your Golden Light Will Shine On Me

It would be wrong to say there was no enthusiasm at all in San Francisco. The Giants clinched a division title in time for OGIS and civic pride was reflected in the modest bounce-in-step among locals navigating the crisp evening air on their way to a baseball nightcap. Back at conference headquarters in the stately Palace Hotel, financial attendees were waiting for a name player to step up to the oil and gas plate and start a pennant-winning rally.

Like Tony Bennett, those financial gurus were hoping San Francisco’s golden light would shine on them.

Contact the author, Richard Mason, at rmason@hartenergy.com.