Compton's Chill Should Pass

This column was originally published on RealMoney on June 30 at 9:09 a.m. EDT. It's being republished as a bonus for TheStreet.com readers.

With energy investors already on pins and needles, Compton Petroleum(CMZ Quote) frayed even more nerves this week.

Compton, a small exploration and production company with operations in the U.S. and Canadian Rockies, indicated on Wednesday that they would reduce their capital spending budget by $110 million. The company cited a combination of increased oilfield service costs, a decrease in productivity and a decline in natural gas prices.

Some investors -- especially those bearish on the natural gas markets -- suggested Compton's news could be the beginning of a trend toward reduced activity by exploration and production companies and, as a result, a decline in demand for drilling rigs and other oil field services.

While there is little doubt that the 40%-plus decline in natural gas prices in recent months could impact drilling activity, it is important to put Compton's announcement in context. It is also important to revisit the reasons behind the decline in natural gas prices.

Big Is Beautiful

While Compton did suggest that natural gas prices had something to do with the decision to reduce its capital-spending budget, it is likely gas prices were not the major reason the company chose to take an axe to spending.

Rather, it appears the more prescient reason was likely rising service costs and a decline in service productivity. Those reasons better explain what is going on at Compton.

Smaller exploration companies, like Compton, have found it increasingly difficult to access drilling rigs and other oil field services as demand has grown. In large part, that's due to drilling contractors and other service companies working to "high grade" their client lists. In short, if a drilling contractor has a choice of putting a rig to work for a small company on a one-well contract at a lower price or a multi-well contract at a higher price with a major production company, the smaller company will always get the short draw. Moreover, a service company -- be it a well-stimulation company, compression company or other service provider -- is always going to provide its best crews and equipment to its best customers.