Increased spending to benefit service companies

The oil service industry�especially offshore drilling contractors�will benefit from sharply increased spending by major oil companies, starting almost immediately, financial analysts reported.

Sam Fletcher
OGJ Online

The oil service industry�especially offshore drilling contractors�will benefit from sharply increased spending by major oil companies, starting almost immediately, financial analysts reported.

BP Amoco PLC executives in London said Tuesday the supermajor will increase exploration and production spending to $8 billion in 2001 from $6 billion currently. That is only the first of several similar increases by major producers that should serve as a catalyst for oil service stocks, said analysts at Simmons & Co. International and at Dain Rauscher Wessels, a division of Dain Rauscher Inc.

The BP Amoco announcement signals a "long-anticipated ramp-up in spending following a 2-year period of cost-cutting and stagnant production by the majors," said James Wicklund of Dain Rauscher. Moreover, he said, "It suggests a longer-term, multiyear cycle of sustained spending at increased levels."

Officials at Houston-based Simmons & Co., the only financial house specializing in the oil field service industry, subsequently hiked their projections of increased E&P spending to 20% from 15% previously, as the majors pour an extra $30 billion into worldwide drilling activity next year.

"The current oil service environment is going to get a lot better. And it's going to improve relatively quickly in the next few months, perhaps the next couple of weeks," said Dan Pickering, a senior analyst with Simmons & Co.

During a telephone conference call before US markets opened Tuesday, he said investors were facing their last chance to buy up key oil service stocks at a discount as those companies begin a run that will extend "over the next several years."

The newly enlarged BP Amoco group is to increase total capital spending to an annual average of $13.5 billion for the next 3 years, in a move to boost corporate earnings by 10%/year. That's up from a comparable annual average of $12 billion spent in 1997-99 by BP Amoco, ARCO, and Burmah Castrol PLC combined, officials said. (ARCO and Burmah Castrol were recently acquired by BP Amoco.)

The increased spending will accelerate high-return projects from the group's enlarged portfolio, with emphasis on gas production from Trinidad and oil production from the deep waters of the Gulf of Mexico.

Those projects are expected to be profitable at an average oil market price of $16/bbl, up from the previous assumption of $14/bbl by BP Amoco officials. However, upstream projects are still expected to return the cost of capital at a market price of $11/bbl, officials said.

Service sector revival
All offshore drilling contractors will benefit from the upsurge in spending, particularly those with large percentages of second and third-generation semisubmersible rigs and drillships in their fleets that can work in "mid-water" depths out to 5,000 ft, Wicklund said.

Conventional on-shelf drilling by jack up rigs in the Gulf of Mexico continues to be a "white-hot" market, while rigs capable of working the ultradeep waters of the gulf, beyond 5,000 ft, are at virtually 100% utilization. But utilization of the mid-water fleet hovers around 58% in the gulf, compared with 75% worldwide, said Wicklund.

"The simple and obvious key to increasing the utilization of these mid-water assets is increased E&P spending by the majors," he said.

The moderate recovery in floater-depth offshore drilling so far has been driven by independent operators, with the majors either curtailing or at best maintaining comparatively meager budgets for exploration and development, he said.

Now that the majors are getting back into the competition, Wicklund said, "over time and at a measured pace...we will see increasing rig utilization and day rates across the worldwide floating rig fleet."

Companies that stand to benefit most from the increase, Wicklund said, include:

� Diamond Offshore Drilling Inc., with the largest exposure�80% of its fleet�to the mid-water market.

� Transocean Sedco Forex Inc.�one of the premier deepwater drilling contractors, with about 70% of its floater fleet in the mid-water category.

� Atwood Oceanics Inc.�a small, primarily international company with four mid-water semis.

Analysts at Simmons & Co. see drilling contractors with shallow-water jack up fleets poised for an increase in day rates for their rigs beginning in August. Deepwater drillers are also expected to reap greater rewards.

Among the jack up contractors, Wicklund expects Rowan and Global Marine Inc. to benefit most because of their exposure to the natural gas play in the US gulf.

Simmons analysts also expect the small and large-capital oil field service companies to show healthy earnings growth as exploration and production spending increases in the last half of this year.

More in Production Operations