US service companies set to shine
A tighter market for fracking equipment and a rosy drilling outlook have operators recovering their pre-crash form
As America's oil and gas production marched towards record highs over the past year, a surprising corner of the market was left out of the party—the companies hired to do all that drilling.
For the big American oilfield service companies, the recovery has been painfully slow to arrive. After a massive buildout of drilling capacity in the early years of the shale boom, companies were left with a glut of rigs, pressure pumping equipment and other fracking supplies. With so much excess kit laying around, producers knew they could pit their service providers against each other to keep costs low, even as drilling activity picked up. The fact that producers were figuring out ways to get more oil from fewer wells and rigs only exacerbated the overcapacity problem.
That is all finally starting to change. A rosy fourth-quarter earnings season and improving outlook for 2018 mean recovery is at hand. A recent upturn in the oil price should drive drilling activity higher again, even if producers manage to hold the line on capital discipline. With higher prices, companies can improve profitability and lift growth.
The land rig count looks set to easily eclipse the 1,000 mark this year, up from around 900 at the start of 2018, driven by the tight-oil industry. This will drive production higher. The Energy Information Administration expects output to rise around 700,000 barrels a day over the course of the year, to a record 10.6m b/d, driven largely by lower-48 tight oil output.
This would actually mark a slowdown from 2017. But the difference for the oilfield services industry is that the market for fracking equipment is much tighter now, so continued growth will allow them to recover pricing, and margins, to pre-crash levels.
Halliburton says a tight market for equipment is already driving its margins higher. "We're sold out," the company's chief executive Jeff Miller told analysts in January. "Improving oil price and demand for equipment provides a runway for us to continue to increase our pricing through the first half of the year." Miller told analysts he wants to get the company's margins back to pre-crash levels this year.
Schlumberger expects its US onshore customers to lift spending by as much as 20% again this year. In a sign of confidence that the US market will continue to strengthen, the company recently bought 1m horsepower of pressure pumping equipment from rival Weatherford for $430m. It plans to put that capacity into the market this year to meet growing demand.
Key to sustaining the recovery, and maintaining the upswing in pricing, will be for large fracking companies like Halliburton and Schlumberger to resist the urge to start building out new capacity. Both have resisted so far. Revenue per frack stage—a metric of pricing strength in the services market-bounced back from a low of around $25,000 in 2016 to close to $40,000 at the end of 2017, according to a recent report from investment bank Bernstein. The bank's analysts expect that figure to rise again to close to $50,000 this year, returning to levels seen before the downturn.
The recovery should be particularly strong for companies that own so-called "super-spec" rigs, the kind that can handle the intense and high-tech sort of drilling producers are moving towards, especially in the red-hot Permian. Producers have found that their well-level economics have improved greatly with the drilling of longer lateral wells with more intense frack jobs. Super-spec rigs, which can handle those 10,000ft-plus lateral wells and even move themselves from site to site, command a premium.
Helmerich & Payne, the clear leader in the market, is enjoying the fruits after a particularly brutal downturn. The company runs around 40% of the existing super-spec fleet, which is fully booked. It also reckons it owns around half the 250 or so rigs where upgrading to super-spec capabilities is feasible. The demand for super-spec rigs has seen the company's US onshore market share jump from 15% to 20%.
The flip side to this bullish outlook for the oilfield service companies is a risk of a surge in inflation for producers, which could threaten to choke off the drilling recovery. However, drilling service rates remain lower than in the years ahead of the boom, and a higher oil price should allow producers to take the inflation in its stride. After a deep downturn, drillers have dug themselves out.
Source: Baker Hughes