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The Dollar That Means $3.8 Billion for Ultra Petroleum Corp. (UPL)

There is a lot of talk about how natural gas prices have detrimentally affected exploration and production companies, but we rarely see raw numbers that describes how much it hurts these companies. In Ultra Petroleum Corp. (NYSE:UPL)‘s most recent earnings call, we got to see the full impact of what gas prices means to the company. Let’s take a look at how a one-dollar change in gas prices means over $3.8 billion in value for the company, and what it really means for investors.

Ultra Petroleum Corp. (NYSE:UPL)“2012 was a train wreck”
To be clear, those are the exact words Ultra CEO Michael Watford used to describe the most recent fiscal year. Ultra is one of the very few companies out there in the exploration and production business that has dedicated itself to the production of natural gas. While some business-minded people may applaud a company focusing on one element and doing it exceptionally well, there is one problem with this plan.

Henry Hub Natural Gas Spot Price Chart

Henry Hub Natural Gas Spot Price data by YCharts

Natural gas supply gluts resulted in 12-year lows for natural gas prices back in April of 2012, and prices haven’t rebounded much since that time. With prices dropping so low, several companies have had to do an asset writedown. Last quarter, both Chesapeake Energy Corporation (NYSE:CHK) and Devon Energy Corporation (NYSE:DVN) had big writedowns. So far, Ultra has been one of the hardest hit; since the beginning of the fiscal year, the company has written down almost $2.5 billion in assets despite the fact that it only has a $2.4 billion market cap

Company Asset Writedowns in 2012 (in billions) Market Capitalization (in billions)
Ultra Petroleum $2.47 $2.44
Chesapeake Energy $3.3 $13.31
Devon Energy $1.12 $23.9

Source: Quarterly Reports and Yahoo! Finance

Again, Ultra’s woes for the year are mostly attributed to its natural-gas-only portfolio. Other exploration and production companies like Devon and Chesapeake have gone to great lengths to transition their business model to a more liquid-focused portfolio.

So how does one dollar translate to $3.8 billion for Ultra? This relates to how the company can report its gas reserves. Reserves can be reported in three ways: proven; proven and probable;  and proven, probable, and possible. These are also known as 1P, 2P, and 3P reserves. The different categories are based on the technical and commercial viability of these reserves. For a more detailed explanation of each of these categories, click here (link opens a PDF).

Herein lies the rub: These numbers change not only with reserves found and used, but also with the current price of the commodity. As the value of natural gas increases, so too does the plausibility of these reserves. The same can be said when the price drops, and this is what Ultra experienced. Using two different price ranges ($5 and $6 per thousand cubic feet), the company projects a $3.8 billion drop in proven and probable reserves. This change in price means that the company needs to demote 2.3 trillion cubic feet of gas from proven to probable reserves.

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