Drillers, support services, and other suppliers feel the pinch as oil and gas companies curtail capital expenditures and seek operating efficiencies in response to lower commodity prices.
While things looked better for a while in the second quarter when West Texas Intermediate traded again above $60/bbl, the loss of over one third of this price since then set everyone back on their heels. Weakened demand and heightened industry competition to maintain market share has pushed oil field service companies to take lower contract terms or day rates to save on costs and reduce revenues.
The US Bureau of Labor Statistics Producer Price Index (PPI) tracks the rates oil and natural gas service firms are receiving for goods and services used in producing oil and natural gas. From June 2014 to October 2015, rates for drilling activities, which primarily represent service fees for contractors to drill oil and gas wells, declined 21%. Rates for support activities for oil and gas operations, which include the surveying, cementing, casing, and otherwise treating wells, declined 1%. The price of sands primarily used for hydraulic fracturing declined 19%.
According to Barclays' estimates, North American exploration and production spending will fall 35% year-over-year in 2015, while Large Cap Services North American revenue will fall 43% year-over-year.
Schlumberger, the world's largest oil field services provider, reported third-quarter adjusted earnings down 48% year-on-year, and revenues of $8.47 billion, down 33%. Paal Kibsgaard, chairman and chief executive officer, said, "For oil field services, the market outlook for the coming quarters looks increasingly challenging with activity expected to be reduced further, as lack of available cash flow exhausts capital spending for a number of our customers, leading them to take a conservative view on 2016 E&P spending in spite of any gradual improvement in oil prices."
Impaired deliverability
Prospects remain bleak, while depressed pricing and margins are impairing deliverability of service and reshaping the landscape of the oil service market.
As noted by John Daniel, an analyst from Simmons & Co., continued malaise in activity and pricing implies 1. Industry consolidation; 2. Fewer capable service providers; 3. Service quality issues as fleet quality deteriorates; and 4. The industry's inability to quickly ramp when demand recovers-not only will equipment challenges grow, but the industry headcount chop has been severe.
Industry consolidation is already under way, and accelerating. Merger and acquisition activities (e.g., Halliburton Co. and Baker Hughes Inc.) have risen; some companies have suspended or exited nonperforming regions. Trican Well Service shut down Texas operations, while Calfrac Well Services suspended its Fayetteville operations. In other instances, companies have shut their doors outright.
Depressed margins are leading many fracturing companies to slash their capital spending as well. They are unwilling to reactivate fleets and hire new employees. "In other cases, we believe some franchises are electing to defer maintenance (one private shared that normal 500-hr maintenance cycles being pushed to 1,000 hr)," Daniel said.
Lastly, there is the natural attrition associated with fracturing equipment. The totality of all of these factors will ultimately necessitate higher pricing when demand for services recovers.
Barclays' view
A recent research note from Barclays also treats E&P firms' ability to sustain production by stretching the capital spending dollar, including adopting new technologies and completion designs, as a concern from an oil field service perspective.
However, J. David Anderson, author of the research note, believes that there is some silver lining for oil field service companies.
Large Cap Services' superior technology portfolios will continue to command share and premium margins, and the declining unconventional cost curve is supporting drilling and completion activity with increased service intensity accelerating capacity attrition.
"We believe expectations for continued well cost reductions into 2016 are based more on continued efficiencies than on further service price concessions. Some E&Ps did note service prices remain under pressure, but most were less vocal (at least publicly) about seeking additional discounts and some have raised concerns about sacrificing safety and performance," Anderson said.
