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North American Oilfield Services Activity Languishing

The North America oilfield services market "eroded more than we thought" in 3Q2012, and the spending decline may not turn around before next year, according to the research team at Tudor, Pickering, Holt & Co. (TPH).

An apparent lack of interest by exploration and production (E&P) operators is to blame for declines in July through September, said the energy analyst's oilfield services team last week. The three-month period saw the oilfield services market fall for pricing and utilization in service lines, which included pressure pumping and land drilling.

"The seeming E&P apathy around activity levels into late this year are compounding the equipment oversupply issues and will further erode margins," said the analysts. "There is 'hope' by some that this spending decline turns with the calendar in January."

A recent survey of 1,200 energy analysts by Bloomberg is reporting that energy sector profits could be down as much as 24% in 3Q2012 from the year-ago period. In addition to a lack of activity in the onshore, Hurricane Isaac also appears to have impacted some Gulf of Mexico (GOM) operations. More production losses, albeit slight, are expected to follow, said Motley Fool.

Energy analyst Stephen Smith posited other reasons for the recent slowdown in activity. In a note to clients he said "the lags in waiting for well completions, hook-ups, processing plants and gathering lines have been much longer than normal, given the strains of the horizontal drilling boom in some areas."

Onshore "activity may well turn, but it seems wishful thinking to believe Jan. 1 means a great sense of urgency and rigs/equipment immediately bounce back," said the TPH team. Canada also may have "problems where the typical 4Q2012 seasonal improvements may prove elusive," from a combination of apathy and economics.

All together, Wall Street estimates for 3Q2012 earnings "are meaningfully too high," said TPH. "This isn't a new concept" as it's been a focus for buyers in the past few weeks, "but until we have some hint on the horizon of enough activity improvement to tighten the market, we think the North American-focused stocks generally lag other oil service names."

Stock valuations are a "saving grace" for the North American service companies, which offers a wee bit of optimism over the long-term. Share prices "may rally" if natural gas prices also rally, said TPH analysts. However, "oil service revenues/earnings are aligned with E&P spending."

A "bounce" in natural gas prices could happen "without much of a bounce in activity, and 10%-plus increases in total demand are needed to tighten domestic oil service markets. It will happen, just not likely in the near term."

According to the TPH review, industry sentiment "is decidedly worse exiting September than it was entering. There was likely some disbelief that both horizontal and oily activity would plateau/move lower. There's now been time for that to set in as real." Apparently, there is "less contract appetite on the part of E&Ps, combined with more rigs (new builds) and lower demand, which is pressuring utilization and also driving dayrates lower."

Price erosion in the past month has been evident for pressure pumping services, said analysts. Even though the pressure pumpers have more "visibility on their costs moving lower" for things such as guar, a key ingredient in hydraulic fracturing fluid, "this looks to us like the cost relief is being competed away."

Pricing isn't the only thing, however. Capacity also "is being stacked," said analysts, which has moderated the near-term oversupply."

As North American operators prepare for 3Q2012 earnings reports, the TPH analysts said they expect the tone to be "very cautious" because of recent market erosion.

"Estimates are quickly falling for 3Q2012, but 4Q2012 is going to be a tough hurdle, so managements will need to rein in" end-of-year expectations during conference calls. Even with West Texas Intermediate crude oil prices of $90/bbl-plus and a recovery in natural gas prices, analysts said the conference calls may be more about end-of-year holiday-related downtime than visibility for 2013.

Since early 2000 the Philadelphia Oil Service Sector Index on a quarterly basis has had an R-square statistic of 80.3% to quarterly nominal WTI prices, compared with just 11.3% for quarterly nomination Henry Hub prices, according to CME Group and NGI's Bidweek Survey data.

Apache Corp. and Noble Energy Inc. last week said their GOM production facilities that were shuttered because of Hurricane Isaac are back online, but 3Q2012 volumes were impacted. Isaac deferred Apache GOM production for six weeks in August and September, impacting total volumes in the quarter by an estimated 12,200 boe/d. Noble lost close to 7,000 boe/d from the storm and it now expects 3Q2012 volumes to be at the low end of previous guidance of 242,000-250,000 boe/d.

Houston's Superior Energy Services Inc., which provides specialized oilfield services, said it doesn't expect to hit its guidance for 3Q2012. Part of the take down is from Hurricane Isaac's impact on operations in the Gulf of Mexico. However, the company saw a more rapid decline in onshore activity over the period than it anticipated. Margins in most of Superior's product and service lines performed "at or near" planned levels, with the pressure pumping unit performing as forecast. The company now anticipates operating earnings of 52-55 cents/share in the quarter, which would be below consensus Wall Street forecasts of 66 cents.

"Directionally, we were correct in our assumptions about lower activity and utilization in the U.S. land market for the second half of 2012," CEO David Dunlap said. "However, the pace of reduction was greater than we anticipated as our customers have taken action to contain their 2012 spending to budgeted levels."

Core Laboratories, which provides reservoir management services, also warned last Tuesday of a tough quarter. At the end of 2Q2012 the company issued a guidance for 3Q2012 that assumed a flat North American rig count. However, since the end of June Baker Hughes Inc.'s rig count has fallen 6% in the United States and 30% in Canada.

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