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Schlumberger Puts North American E&Ps on Notice: Expect More Aggressive Pricing

Healthier commodity prices are sending oil and natural gas producers back to work, which sets the stage for Schlumberger Ltd. (SLB) to begin a push for higher prices for its services, CEO Paal Kibsgaard said Friday.

Global oil supplies have begun to line up with demand, pointing to stronger prices and more exploration and production (E&P) investments as the year progresses, he said during a conference call.

The oilfield services (OFS) technology leader is expected to see the most growth within North America's land operations, where revenue overall jumped 4% sequentially in the final quarter. Growth was "driven by an improving land business in the U.S. and Western Canada, as drilling and completions activity increased and services started to recover," Kibsgaard said.

The upcycle has begun, he said. "Growth in E&P investments will be led by the North America land operators, who appear to remain unconstrained by years of negative free cash flow as external funding seems more readily available, and the pursuit of shorter-term equity value takes precedence over full-cycle returns."

Price Concessions No More

The company has begun an aggressive push for higher prices for its North American land services moving forward, particularly for "mega-completions," which involve drilling super laterals and boosting the amount of proppant per fracture stage.

Pricing within the U.S. pressure pumping segment is already about 15% higher, with 30-40% upside in some U.S. basins. Management is encouraged by the current pricing trends, but the plan overall is to reach a "sustainable operating environment" after making sharp price concessions for customers during the downturn that began in 2014.

Directional drilling, not pressure pumping, gained the most U.S. pricing traction for SLB during 4Q2016. SLB's PowerDrive Orbit bottomhole assembly rotary steering system has been sold out since the 3Q2016 conference call in October, even with capacity additions.

In addition, Kibsgaard put U.S. E&P customers on notice regarding cost inflation. With E&P cash flows likely to improve this year, the company has begun "high grading" the contracts portfolio to generate better revenue. Margins declined 207 basis points in 4Q2016 year/year following the retreat by customers.

However, North America land revenue experienced double-digit growth in 4Q2016 year/year, driven by strong hydraulic fracturing activity as stage counts increased, as well as higher uptake of drilling/measurements, drillbits/tools and completion services from M-I SWACO products as more rigs went back to work.

Revenue on land in the United States posted double-digit growth as well, from higher activity and a modest pricing recovery, while revenue in Western Canada grew following the winter ramp-up and from higher sales of artificial lift products.

Spending surveys of E&P companies have indicated that this year's North American investments may increase by 30%, led by the Permian Basin, "which should lead to both higher activity and a long-overdue recovery in service industry pricing," Kibsgaard said.

"In North America, our strategy during this downturn has been to preserve our infrastructure footprint on land while reducing and stacking operating capacity to minimize financial losses during the trough of the cycle, at the expense of market share. This has served us well in the past year.

"In parallel with this, we have continued to invest in the underlying efficiency of operations as well as the new technologies and further vertical integration. As the market now starts to recover, we will aggressively redeploy our oil capacity in any product line and any basin that shows a clear path toward profitability."

Overall, the global OFS sector is moving into recovery, with international operations lagging.

"First of all, we maintain our constructive view of the oil market, as supply and demand continued to tighten in the fourth quarter," Kibsgaard said. This tightening is partly driven by strong demand," as well as the agreement by the Organization of the Petroleum Exporting Countries and allies to reduce output through at least May.

While things are looking up for North America land operations, the offshore business has become nearly untenable, said the CEO. He warned that the company may divert capital elsewhere after revenue declined sequentially for the second quarter in a row.

Offshore Still Under Pressure

The offshore rig count continues to decline and pricing remains under pressure, "in spite of the significant technical and operational challenges in the market. The resulting business environment is potentially becoming unsustainable for us and will either lead to a recovering service pricing or a narrowing of our service offering, with redeployment of resources to markets that offer more adequate returns."

For international operations, 2017 may be the third year in a row for reduced capital expenditures (capex) by customers, Kibsgaard said. In the past two years there have been few final investment decisions with "sizable oil development...and outside of the Gulf countries most of the international production is today decreasing producible reserves with little or no reserves replacement. It is equivalent to borrowing barrels from the future."

The amount of capex needed to replenish global reserves "will be much higher than the current decline rates may suggest," he said. "This concerning plan cannot be reversed or mitigated by North America unconventional resources alone, which currently represent only around 5% of global crude production. The future supply challenges of the industry can only be addressed by a broad increase in global investment," which SLB is not expecting before 2018.

SLB posted a $536 million restructuring charge for reducing its global workforce to reflect lower activity. The company also took charges of $139 million that were in part related to its $12.7 billion purchase of rival Cameron International Corp.

Fourth quarter losses totaled $204 million (minus 15 cents/share), versus a year-ago loss of $1.02 billion (minus 81 cents). Excluding one-time charges, adjusted earnings were 27 cents/share. Revenue in the final three months plunged 8.2% to $7.11 billion, in line with Wall Street expectations. Full-year 2016 revenue of $27.8 billion decreased 22% year-on-year, despite three quarters of activity from the Cameron Group, which contributed $4.2 billion in revenue.

During the quarter, SLB repurchased 1.5 million shares of common stock at an average price of $78.21/share. Earlier this month SLB also said it would acquire Peak Well Systems, which designs and develops advanced downhole tools for flow control, well intervention and well integrity. Capex this year is expected to inch slightly higher to $2.2 billion from $2.1 billion.

NGI’s Shale Daily will be covering many North American-focused oil and gas operator results in the coming weeks. A calendar listing is available on the website.

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