As we write this letter today, the domestic oil and gas industry is facing a perplexing environment. Natural gas storage levels have declined from the record high levels of this past summer to record low levels today. While the U.S. has experienced higher heating-related demand than recent norms during the past heating season, this drastic change of circumstance is mainly the result of declining domestic natural gas production. Declining gas production and storage levels have led to robust natural gas prices, but have not yet led to dramatic increases in drilling activity.

Declining domestic natural gas production may well be an irreversible trend. Overall decline rates for natural gas production have increased to as much as 30% per year. While the level of gas-related drilling rig activity is well below the recent record levels of 2001, gas-related drilling activity is still above levels experienced during the 1990s. Yet gas production continues to decline.

Domestic natural gas prices are of course impacted by oil prices. While we don't expect that recent oil prices of up to $39 per barrel are sustainable, we do believe OPEC has signaled its intent to target oil prices of at least $25 per barrel. On a BTU-equivalent basis, a $25 oil price can support a domestic natural gas price of $4 per mcf and perhaps higher when the environmental benefits of natural gas are considered. Taken together with the high decline rates for existing production, natural gas prices of $4 or even more seem both sustainable and even necessary to encourage reserve development.

In what should be a terrific environment for a U.S. natural gas producer, why has there not been more drilling activity? There are various current theories including: lack of capital, refocusing of the majors to international markets, and a current lack of domestic drilling prospects. We believe all of the above are contributing factors.

However, we also believe that drilling activity will soon increase in response to price incentives but that, at best, increased drilling will only stabilize gas supply. We believe domestic natural gas prices will therefore be sustained within a higher price band (perhaps around $4 per mcf) than we have experienced historically.

Carrizo should fare well in such an environment. Our continued exploration focus has led to a growing prospect inventory. We create value with the drillbit, which gives us the opportunity to achieve above average growth rates of reserves and production without depending on the property acquisition market. With industry currently lacking a deep inventory of drilling prospects, we believe Carrizo's inherent value continues to increase.

Consistent with our bullish view of the domestic natural gas fundamentals, our operating strategy has remained constant. Its key elements: A geographic focus in proven geologic trends throughout the onshore Gulf Coast region. Control and a high ownership interest (in many cases I 00%) in both the data and land positions that comprise our prospect inventory. Continually increasing the size and quality of our prospect inventory through acquisition of 3-D seismic data and land, as well as constant reinterpretation through use of fundamental geologic studies and sophisticated geophysical interpretive techniques. Sizing our drilling program to enable management to sell down enough interest in specific prospects to mitigate risk and improve economics, but yet maintain operatorship of these drilling prospects in the context of a drilling budget which does not exceed our internally generated cash flow. Maintaining maximum possible ownership of our highest potential drilling prospects, typically deeper targets.