Schlumberger 2Q17 Earnings Call Notes

Paul Kibsgaard

Sustained demand growth provides foundation

“let’s turn to the oil market where a sustained growth and demand continues to provide a much needed foundation for the outlook leaving little reason for concern over this part of the oil market equation.”

Third year of global under investment

“The supply side however is far more complex with market nervousness and investors speculation generally overshadowing facts and physical fundamentals leading to unpredictable movement in oil prices inspite of a third year of global under investment”

OPEC countries are acting to support prices

“The OPEC Gulf countries and Russia which combine make or close to 40% of global oil production remain fully committed to sound and consistent stewardship of their resource base. This is reflected in a steady increase in oil selectivity over the past three years as the world’s best well at economics easily absorbed the significant drop in oil prices.

These countries are also actively supporting the rebalancing of the global oil market by taking a procative role in moderating the current production levels. The other two blocks of supply are currently pursuing diametrically post directions to both investments and resource management driven by the respective stakeholders.

But production from US companies is enabled by investors who are pushing marginal projects

“The production level from the U.S. land E&P companies which currently represent around 8% of global oil supply is largely driven by the U.S. equity investors who are encouraging, enabling and rewarding short term production growth inspite of marginal project economics.

The fast barrels from U.S. land are facilitated by a factory approach to both drilling and production and supported by a rapidly scalable supplier industry with a low barrier to entry. In this market the pursuit of equity appreciation outweighs the lack of free cash flow, net income and return on capital employed for both E&P companies and the service industry.

And although the fast barrels from U.S. land have already cooled the oil price sentiments as well as the evaluation of the equity investments themselves, this has yet to limit the investment appetite for additional production growth.”

IOCs are tapering

“The last book of producers making up the rest of the world today represents over 50% of global oil production and covers a broad and diverse group of IOCs, NOCs, and independent operators. In aggregate, this group is for the third successive year highly focussed on meeting the cash return expectations of their shareholders whether these are equity investors or governance. The operators meet these requirements by striving to keep production flat by producing their existing outlets part of their normal and by limiting investments to what provides short term contributions to production at the expense of increasing deflection rates. These producers have also benefited from a production tailwind of 500,000 barrels to 700,000 barrels per day in each of the past three years coming from new projects where the majority of the investments were made in previous years. And with a low rate of new projects being sanctioned since 2014 this tailwind will taper off in the coming years.”

On balance the supply and demand dynamics should balance

“So, how does this supply and demand situation translate into the current status of the oil market? Following the extension of the OPEC and non-OPEC production cuts agreed in late May, the oil markets and also included, we are expecting to see clear reductions in global inventory levels in the second quarter leading to a more positive sentiments in the oil market. Instead, oil prices and market sentiments became unexpectedly more negative driven largely by fear of oversupply from the growing production from U.S. land where investments and activity is booming. ”

US investors have spooked the oil markets

“What we are currently witnessing is that the U.S. equity investors and E&P companies have spooked the oil market investors into believing that the fast barrels from U.S. land will flood the markets and leave inventory levels elevated for the foreseeable future. Therefore their pursuit of short term equity returns from the U.S. land E&P stocks is actually preventing the recovery of the oil market and sending oil prices further down thereby eliminating any equity appreciation that the investments set out to create in the first place.”

US industry will be more strained in this environment

“the fact that the industry in North America land continues to operate way beyond cash flow. I think that’s going to be challenged if oil prices stay where it is. So that could mean for sure that the growth rate would slow. I don’t think you’ll see a significant reduction in activity, but I think the growth rate might slow. So I think there is still going to be possibilities both to land and potentially raise more equity, but in the event we continue at the current oil prices. I think the industry is going to be a bit more strain than what we have seen in 2017.”