A recent analyst note suggests that several of the largest oilfield services companies could have an advantage as offshore oil drilling growth enters a possible transition phase.
Analysts from Credit Suisse explained that near the end of 2013, it was clear that oil companies that drive much of the deepwater oil drilling activity were not going to generate, or commit enough capital to keep all the current deepwater rigs running, plus the new-build rigs coming out of shipyards over the next three years.1
The analysts estimated that the companies would need to increase their rig-rental capital spending by 14% to 18% over each of the next three years to keep all the rigs active, but actual growth was looking more like 5%. That means an increasing likelihood of stacked rigs as we approach 2015, the analysts said, as companies with contracts on older rigs release them.
The analysts said the expected reduction in dayrates of third- or fourth-generation rigs wouldn’t be enough to salvage the economics of most offshore projects. Not only will dayrates decline, according to the analysts, but there will be an increase in stacked rigs, which will be done at a cost to the drillers — a much worse situation than just lower rates at some normal utilization.
Credit Suisse said that land driller stocks were up 50% in the last year while the rig count was falling. Those names now “seem a bit ahead of themselves” after the rig count decline of 8% over that period and an outlook for a fairly flat rig count this year. Replacing older rigs with new, highly efficient electric rigs will continue, but replacement cycles never seem to generate the leverage that growth cycles do.
As a result, the analysts were highlighting four large-cap oilfield services companies, as leaders to watch in this area, two of which – Halliburton and Baker Hughes – comprise a one-third weighting in the Frack Attack motif.
The motif has increased 1.2% in the past month. In that same time, the S&P 500 has lost 1.7%. Over the past 12 months, the motif is up 37.0%; the S&P 500 has risen 20.4%.
The analysts maintained that the integration of technologies and services, the ability to buy in scale, and the ability to discount bundled services, can give the large-cap stocks a significant advantage in a more cautious growth environment. If international oil company activity shifts from deepwater to onshore, the integrated companies will still be doing their work, just on a different platform, they said.
The significant push to improve returns and reduced costs should accelerate the conversion of the industry to what Credit Suisse calls its “Managed Shale” model, where more and more services are ceded to single-company providers, in an effort to optimize their technology to reduce per-barrel-of-oil-equivalent costs and increase production, while reducing the cost to the customer.
In the US, reports of price stability and potential strength in specific shale oil basins, with the Permian being singled out, provides confidence that there is a supply/demand equilibrium in pressure pumping, the analysts said. That alone could cause the sector’s stock prices to improve, they added.
If most of the world, outside of Mexico, Brazil and US completion-related services, is currently operating at or near record levels, then there may be little upside potential to normalized margins at this point.
The Credit Suisse analysts reckon that as US completion-related services move up to what normalized margins are determined to be,companies with the greatest exposurein that areacould be expected to see the fastest operating-income acceleration reflected in their balance sheets. The companies with the most expossure, the analysts said, are Superior Energy Services, Baker Hughes and Halliburton – which make up 38% of the Frack Attack motif weight, and may be worth watching to see what kind of pricing strength they are able to apply across the industry.
1Credit Suisse, “Big Oilfield-Services Names Sitting Pretty,” barrons.com, Feb. 20, 2014.