Like other sectors of the market, E&P stocks took a hammering in 2002, particularly those of oil and gas producers with market caps of $1 billion or less. But it's precisely such a ticker tumbling that typically spawns buying opportunities for the savvy investor. In addition, a more robust outlook for gas prices than has been seen in years is fueling bullish analyst sentiment toward producer stocks. The Street consensus: an average $3.50 price for gas this year, based on deepening gas-supply shortfalls and only a modest uptick in demand. On the oil side, market seers expect average $23 to $26 prices for 2003-not as heady as last year but a far cry from the $10 level seen in January 1999. So which publicly traded small- to midcap producers are likely to show the greatest gains in share-price appreciation during 2003? To find out, Oil and Gas Investor polled seven analysts at five investment-banking firms. Their top 15 choices follow, in order of how frequently a company was mentioned and highest projected percent gains in share price. Clearly, these analysts like undervalued, high-growth operators with exposure to natural gas, particularly in the relatively untapped Rockies, where take-away capacity is expected to increase while basis differentials narrow. They also like rapid-growth oil stories that can take advantage of near-term crude prices. Western Gas Resources (NYSE: WGR) This Denver operator is sitting on two high-growth, gassy prospects in the Rockies-the Powder River Basin coalbed-methane (CBM) play and the Pinedale Anticline in the Green River Basin. "Taking into account its booked reserves and midstream assets net of debt, the WGR story is worth about $36," says Irene Haas, E&P analyst for Sanders Morris Harris. "However, between its Wyodak and Big George CBM gas reserves that haven't yet been developed, there's another $20 worth of value-and still another $3 of value underlying its undeveloped Pinedale Anticline tight-sands gas reserves. So this could be close to a $60 stock in the next few years." Greg McMichael, senior E&P analyst for A.G. Edwards & Sons, says Western Gas has about 2 trillion cubic feet equivalent (Tcfe) of upside ahead of it in the Powder River CBM play, on top of some 400 billion cubic feet equivalent (Bcfe) of reserves already booked. "In effect, the company, with a dominant 515,000-net-acre position in the Powder River, could grow its reserves sixfold during the next four to five years in a play that has proven almost risk-free." With midstream assets in the Rockies, West Texas and Oklahoma, the company is strategically positioned to support its Rockies E&P operations, says Larry Benedetto, senior E&P analyst for Howard Weil in New Orleans. "As the company grows, we see it becoming more upstream-oriented and less of a gas-gathering and -processing company." (For more, see "Changing Horses in Midstream," Oil and Gas Investor, December 2002.) Cimarex Energy (NYSE: XEC) The result of the merger this past fall of Key Production Co. and the E&P division of Helmerich & Payne, Denver-based Cimarex is now well positioned to grow annual reserves and production by 8% to 12%-and that's just from its enlarged, 50,000-acre undeveloped leasehold position in western Oklahoma's Anadarko Basin, says McMichael. "In addition, Cimarex picked up significant South Texas exploration acreage-about 100,000 net acres-which gives the company a new component of reserve and production growth." McMichael adds that Cimarex's stock is cheap, trading at a 20% to 25% discount to its small-cap peers on the basis of price to cash flow and net asset value (NAV). Larry C. Busnardo, E&P analyst for Petrie Parkman & Co., says that Key, on its own, didn't have the capital or the right size to grow meaningfully. "The new company, by contrast, has a larger inventory of moderate-risk Midcontinent development opportunities that should increase recent daily production of 184.2 million cubic feet equivalent (MMcfe) by up to 5% in 2003." He notes, however, that the real reserve and production upside for Cimarex will come from a recently initiated horizontal-drilling program in the Hardeman Basin in northern Texas and exploration opportunities in the Mississippi Salt Dome Basin. "Continued success in these areas could lead to an incremental 5% growth in output annually." Stone Energy (NYSE: SGY) Based in Lafayette, Louisiana, this operator has been very successful at low-risk, bread-and-butter exploitation and exploration drilling in the Gulf of Mexico and the Texas and Louisiana Gulf Coast, says Kenneth H. Beer, partner at Johnson Rice & Co. "The market, however, has been taking a wait-and-see attitude toward the company's recent acquisitions of Basin Exploration and Conoco's Gulf of Mexico shelf properties." It recently traded around $30, but Beer believes there is limited downside to the stock and the opportunity for surprise on the upside. The company has high-graded its inventory of prospects and should turn in 10% to 15% growth in output in 2003. Benedetto says Stone has a three- to four-year inventory of drilling prospects based on its leasehold position in the Gulf of Mexico shelf, plus it will participate in five wells in Wyoming's Jonah Field during the next two years. "This is a very well-managed producer with the outlook for exceptional growth, yet it's trading at a significant discount to our appraised NAV of $40 per share." Tom Brown (NYSE: TBI) With improving gas prices, this Denver-based producer is increasing its Rockies drilling activity in the Pavillion Field in Wyoming's Wind River Basin, the White River Dome CBM play in Colorado's Piceance Basin, and the Andy's Mesa play in Utah's Paradox Basin. "From those development activities alone, we're looking for up to 5% growth in output in 2003 from a current level of 230 MMcfe per day," says Busnardo. On the exploration side, the company is moving ahead with a horizontal-drilling program on its Deep Valley prospect in the West Texas Permian Basin. "If it's successful, there's a meaningful 500 Bcfe of net unrisked reserve potential." Tom Brown should also benefit from better 2003 prices for Rockies gas, says Michael Scialla, E&P analyst for A.G. Edwards & Sons. "The differential between Henry Hub prices and Rockies spot prices averaged about $1.20 in 2002; we think that spread will narrow to its historical average of 60 cents in 2003 as the Kern River Pipeline expansion comes online." Forest Oil (NYSE: FST) This Denver producer is looking at significant 2003 production gains-north of 15%-virtually all of which will come from its development project at Redoubt Shoal in Cook Inlet, Alaska, says Beer. There, oil output should ramp up from zero to 12,000 to 15,000 barrels per day. "Meanwhile, the company is stemming production declines in the Gulf of Mexico. Key to this effort has been Forest's new president, Craig Clark, who has directed his hands-on operating skills toward bringing down costs and getting production online." Benedetto sees Forest's output rising from 24.2 million barrels of oil equivalent (BOE) in 2002 to 28 million BOE in 2003. "We should also see some increased spending by the company-primarily gas-driven-in both the Gulf of Mexico and the Foothills play in Canada. In addition, Forest plans to drill a high-potential gas well in the Northwest Territories' Fort Liard area." Spinnaker Exploration (NYSE: SKE) This Houston-based operator's stock took a beating last fall because of its lower-than-expected 2003 production guidance of 50- to 57 Bcfe, says Haas. "This created an attractive buying opportunity, with the stock recently trading well below its appraised NAV of $27 per share." The analyst says there's real tangible growth for the company right around the corner. She points out that the Front Runner project in the deepwater Gulf of Mexico, coming online in mid-2004, will add about 20 Bcfe of net production to Spinnaker that year, and another 42 Bcfe to its net output for full-year 2005. "In addition, debt-free Spinnaker is very prospect-rich, with 150-plus prospects on 772,000 net acres of leases in the Gulf of Mexico." PetroQuest Energy (Nasdaq: PQUE) PetroQuest is poised for growth through the drillbit in the shallow-water Gulf of Mexico and South Louisiana, says Ronald E. Mills, E&P analyst for Johnson Rice & Co. He expects the Lafayette, Louisiana-based operator will exit 2002 with about 100 Bcfe of reserves, but it has 700-plus Bcfe of net unrisked reserve potential in its drilling inventory. Mills looks for the company to grow production by 23% to 25% in 2003, mainly from the development of three offshore wells at Ship Shoal 72 and an onshore well at Berry Lake in South Louisiana. Brigham Exploration (Nasdaq: BEXP) Within the past 24 months, this Austin, Texas-based operator has made four significant discoveries: the Home Run Field, the Triple Crown Field and the Providence Field-all in South Texas-and a Hunton find in western Oklahoma's Anadarko Basin, says Mills. "Development of those fields will fuel a 20% growth in production in 2003, up from an average 2002 output of 27.5 MMcfe per day. Also, the company has follow-on exploration potential in each of these areas." Remington Oil and Gas (NYSE: REM) While this Dallas-based producer had a reserve base of only 195 Bcfe as of year-end 2001, it has an aggregate 1 Tcfe of net unrisked reserve potential on 62 shallow-water Gulf of Mexico prospects and several onshore Gulf Coast prospects, says Busnardo. "With a number of discoveries coming online, the company should achieve daily production growth of nearly 30% in 2003, up from a recent average of 85 MMcfe per day. Also, the stock is inexpensive, recently trading at four times estimated 2003 cash flow versus a peer-group average multiple of slightly more than five." (For more on Remington, see "Swimming to Grow," Oil and Gas Investor, December 2002.) 3Tec Energy (Nasdaq: TTEN) Although this 85% gas-levered Houston-based operator has historically grown via acquisition, it's now beginning to witness some organic growth, says Mills. The engines for the company's expected 10% growth in 2003 production will be its Gulf of Mexico drilling program in Breton Sound and Chandeleur Sound and the continued development of its White Oak and Glenwood fields in East Texas. Chesapeake Energy (NYSE: CHK) This Oklahoma City-based producer has very predictable, stable production growth from long-lived, low-decline gas wells in the Midcontinent region, where 85% of its reserves are located, says Beer. "The kicker for Chesapeake is the new-found exploration exposure it now has in some of the deep gas plays in central Oklahoma, where it has had initial success in the Springer and Hunton formations." While the company has about $1.5 billion of debt versus a total market cap of $1.2 billion, most of the debt maturities are eight to 10 years out. "Chesapeake has a good pairing of long-term debt with long-lived gas properties and strong leverage to improving gas prices." Westport Resources (NYSE: WRC) What Busnardo finds attractive about this Denver-based operator is its year-end 2002 purchase from El Paso Production of 600 Bcf of Uintah Basin gas reserves in Utah. "This buy gives the company a new core area of focus in the Rockies that fits well with our positive natural gas outlook. It will also be the main driver for the 30% growth we anticipate in Westport's 2003 production, from a recent 365- to 463.5 MMcfe per day." He adds that the company also has exploitation and exploration upside in the Midcontinent, South Texas and the Gulf of Mexico. Quicksilver Resources (NYSE: KWK) While this Fort Worth-based producer's bread-and-butter operations are centered on Michigan's Antrim Shale play, a large portion of its 2003 production growth will come from Canadian coalbed methane (CBM) drilling, says Haas. The company has a joint venture with EnCana Corp. on the Palliser Block 40 miles east of Calgary, where some 192,000 gross acres have been isolated for CBM development. "By year-end 2002, Quicksilver had drilled 150 gross exploration and development wells in that play; in 2003, it expects to grow net production by at least 20%." Cabot Oil & Gas (NYSE: COG) With prospects in Appalachia, the Gulf Coast, the Gulf of Mexico and the Rockies, this 90% gas-levered Houston operator will likely show 5% to 10% growth in production in 2003, says Beer. "Nonetheless, it is one of the cheaper gas stocks. The market recently has been valuing the company's reserves in the ground at about $1 per Mcfe-a truer valuation would be closer to $1.25 per Mcfe." He adds that if gas prices in 2003 rise to around $4, the company's cash flow could jump upwards of 20%. Patina Oil & Gas (NYSE: POG) Focused on the Wattenberg Field in Colorado's Denver-Julesburg Basin, this Denver-based producer has one of the strongest reinvestment-efficiency ratios in the small-cap E&P group, says Scialla. He points out that Patina is achieving a 50% annual internal rate of return versus a peer-group average of about 17%. Despite this efficiency, an outlook for 18% production growth in 2003 and a strong balance sheet-20% debt to total capitalization-Patina is very undervalued, says Scialla. "The stock recently traded at 3.8 times 2003 EV/EBITDA versus a peer-group average multiple of 5.5."