In the business world, we hear a lot of talk about the importance of "vision," but in the competitive environment of today’s oil and gas industry, where practical consequences ride on every decision, some could ask, "What is a vision really worth?" We’ve been in this business for more than a quarter of a century, and during that time, we’ve learned that a commitment to a vision can become a critical intangible resource—a major source of future productivity embedded within the hearts and minds of our employees. It is a driving force that simultaneously touches our emotions and focuses our intellect, and it is one of the pillars of sustainable competitive advantage—something that is both hard to create and difficult to duplicate.

Vision has value because it defines an organization’s purpose. It answers two basic questions that every organization must address: what do we do, and why do we do it? At Swift Energy, our vision is founded on two sweeping trends that are reshaping the world. The first is the transformation of world energy supplies. We have a global economy that runs on oil, and world crude oil supplies are not keeping pace with demand. The second is the advent of the digital age, bringing with it a new knowledge-based economy. Put simply, our vision is to use state-of-the-art technical knowledge to help supply the world with energy.

This vision guides the way we carry out our more specific mission as an oil and gas company, which is to increase the volume and value of our proved oil and gas reserves. Like any business, we ultimately must create value for our stakeholders, and we accomplish that task through reserves growth, believing that growth in reserves holds the key to growth in production, revenues, and earnings.

As we point out elsewhere in this report, we have successfully accomplished this mission throughout our history, and the last five years are no exception. Excluding our New Zealand activities, which are being discontinued after our recent agreement to sell those properties, we’ve been able to increase our domestic proved reserves at a compounded five-year growth rate of 6% per year. This has allowed us to increase our domestic oil and gas production by 13% per year over that same time frame, which in turn has allowed us to increase our cash flows from continuing operations at a rate of 51% per year and our diluted earnings per share from continuing operations at a rate of 79% per year. With these successes, our year-end stock price over the last five years has increased at an average annual rate of 35%.

These kinds of results flow naturally from the competitive abilities we’ve developed in pursuit of our vision and mission. The main reason we’ve seen crude oil prices nearly triple over the last five years is that oil and gas resources are becoming increasingly difficult to find and produce, particularly in the record amounts that our growing global economy requires. The difficulty of the task is compounded by a lack of intellectual infrastructure within our industry, as years of underinvestment have inevitably led to a shortage of skilled workers. Companies that succeed in this highly challenging environment will be those that develop a competitive advantage in professional knowledge and technical capabilities, and that’s precisely what our vision mandates that we continue to do.

With this in mind, we’ve spent a lot of time and effort in recent years building a proprietary knowledge base that will serve as the foundation for future growth. At the core of that knowledge base is over 4,000 square miles of three-dimensional seismic data covering a significant portion of southern Louisiana. We view this region as a tremendous opportunity. South Louisiana presents a number of challenges, but it is also a premium market that offers the potential for higher-than-average operating margins.

Our focus on South Louisiana is part of a long-term strategic transition. In the mid-1990s, most of our production came from natural gas, but today the majority of our production comes from crude oil and natural gas liquids. With U.S. oil production peaking in 1970 and undergoing more than three decades of decline, finding new oil production in the United States is not an easy thing to do, but we chose to focus on oil because it brings higher than average rewards, particularly in South Louisiana.

Our approach in South Louisiana has been to acquire three-dimensional seismic data from several sources, including our own proprietary surveys, and merge that data together into integrated datasets. Bringing the data together creates synergies that significantly improve the quality of all the information. We then combine that seismic information with digitized geological data obtained from previous wells. The result is a coherent picture of the subsurface environment that gives our highly skilled geoscience professionals a unique understanding of the opportunities available for creating new value. One could say that we are mapping out an entirely new geography beneath the surface of the earth, and this new geography is located in one of the most prolific oil and gas basins in the world.

 

Building this knowledge base has been an ongoing, multiyear undertaking involving considerable expense, and exploiting the knowledge we’ve gained has also required many other investments for future growth, including investments in the acquisition of both proved and unproved leasehold acreage, prospect development, and facility improvements. A significant portion of our knowledge base is now ready for use, and many of the other required investments have already been made, including some important facility improvements that are now nearing completion.

At the same time, we have rebalanced our portfolio through the acquisition of some exciting new properties in South Texas and the sale of our properties in New Zealand. Our new Cotulla acquisition in South Texas builds upon our many years of successful experience in that region, and the strategic decision to sell our New Zealand assets results from the recognition that our New Zealand properties were not competing well on a comparative basis with our domestic assets. Therefore, in 2007 we decided to divest our New Zealand assets and focus on our domestic strengths. This decision, which resulted in a non-cash loss of $4.29 per diluted share, should enhance our shareholder value and improve our overall market evaluation.

With this foundation in place, we think we are now poised for several more years of outstanding performance. In our South Louisiana region we are already benefiting greatly from our maturing geoscience databases. Currently our crown jewel in the region is the Lake Washington Field in Plaquemines Parish, which produces from multiple stacked layers of Miocene sands surrounding a salt dome. In our early drilling in this field, we focused on relatively shallow targets based on geological data from previous wells, but with our new geoscience databases, we have the confidence to drill to deeper sands with greater potential for adding new reserves. We are now imaging and mapping untested deeper structures, including high-potential subsalt prospects. At the same time, we have the comfort of knowing that many of these same deeper prospects also have a high probability of accessing low-risk targets at shallower depths.

We believe that this approach will help us continue our production growth in South Louisiana while simultaneously increasing our proved reserves for a lower per-unit cost. Our costs of adding reserves were higher than we planned in 2007, in part because of the aforementioned investments in acreage, prospects, and facilities, but those investments will help provide us with reserves growth for many years into the future. In particular, the approaching completion of a new production processing facility in Lake Washington will remove some key production capacity limitations that had prevented us from targeting new reserves in areas that were previously constrained. The bottom line is that everything is in place to undertake an aggressive drilling program in South Louisiana during 2008 that has the potential to increase our proved reserves in a very significant manner.