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.”

Paal Kibsgaard

North America investment increasing, but ROW underinvesting

“Turning next to the business outlook. We maintain our constructive view of the oil market, and we made further inventory growth in the second quarter, driven by the OPEC and non-OPEC production cuts put in place in January. At present, the region in the world showing clear signs of increased E&P investments in 2017 is North America land, although investment levels in the Middle East and Russia are also expected to remain resilient this year. However, for the rest of the world, which still make up more than 50 million barrels per day of oil production, we are heading towards a third year of significant underinvestment, which increases the likelihood of a medium-term supply deficit as produced reserves are not replaced in sufficient volume.”

Depletion is rapidly accelerating

“In particular, the market continues to focus on headline decline numbers that suggest that production is holding up well, while a closer examination of the underlying data clearly shows that the rate of depletion of proved undeveloped reserves is rapidly accelerating in several key non-OPEC countries.”

Biggest underinvestment is in exploration

“The current level of underinvestments is most visible in exploration, where the record-low investments, including both drilling and seismic, led to a total amount of industry discoveries of less than 5 billion barrels in 2016 versus a produced volume of over 30 billion barrels, dropping the industry-wide reserves-to-replacement ratio to 32%.”

Reached bottom internationally, but only flat underlying activity

“Internationally, as I said earlier, we have reached bottom in all markets. But for the second quarter, we only see, at this stage, flat underlying activity in Q2. So the – really, the only growth that we are going to see in the second quarter is going to be limited to the seasonal recovery in the North Sea, Russia and China.”

Schlumberger’s (SLB) CEO Paal Kibsgaard on Q4 2016 Results

North America revenue up 4% sequentially

“In North America, overall revenue increased 4% sequentially driven by an improving land business in the US and Western Canada as drilling and completions activity increased and service pricing started to recover. In terms of technology, we saw the strongest growth on land in pressure pumping, followed by directional drilling, drill bits and drilling fluids as well as ESP, PCP and [rodless] product line.”

Moving into the recovery part of the cycle

“As we now move into the recovery part of the cycle, I would like to turn to the developing macro-environment and what this means for our business. First of all we maintain our constructive view of the oil market as supply and demand continued to tighten in the fourth quarter as demonstrated by the OECD oil stocks, which declined for the fourth month in a row in November. This tightening is partly driven by strong demand where the reporting agencies revised their global demand growth figures upwards in the fourth quarter, and now stand at around 1.5 million barrels per day in 2016 and between 1.3 and 1.6 million barrels per day in 2017.”

North America operators have plenty of access to funding, will lead the recovery

“As the up-cycle begins, 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 a full cycle return. E&P spending surveys currently indicate that 2017 North America E&P investments will increase by around 30% led by the Permian basin, which should lead to both higher activity and a long overdue recovery in service industry pricing”

International recovery will be slower

” In the international markets, the recovery will start slower driven by the constraints of the international E&P industry where the various operator groups determine their investment levels based on full cycle returns and their available free cash flow. At current oil price levels this will result in the third successive year of lower Capex spend, which will further weaken the state of the international production base.”

Trends can only be positive in deep water

“Next, our international business is currently like a highly compressed coil spring. Activity levels in key market segments such as exploration and deep water are at record lows and although we do not expect a dramatic short term recovery the trends can only be positive from this point on”

2017 isi the start of a new multiyear cycle with pending supply shortage

“I think the key here is that we look at 2017 as a starting point of a new multiyear cycle, where the main challenge is actually going to be reverse the effect of several years of Global E&P underinvestment and then try to mitigate the pending supply shortage that we see unfolding. But the only way to achieve this is through broad-based increase in global E&P investments as North America and non-conventional production is not going to be able to address this pending supply issues by itself.”

Facing pricing is moving, but need more

“On the fracing side, yes pricing is moving now, we need significantly more pricing before we are getting into I would say a sustainable operating environment, but that trend has been kicked off, we are actively high grading our contract portfolio, and we have active pricing discussions I would say with all customers at this stage, so that process has started and will continue in the coming quarters.”

Scott Rowe

There was a substantial issue with deep water drilling costs even before the price of oil came down

Yes. I think everybody knows that there is massive cost inflation in Deepwater projects, all through, basically from 2009 through 2013, and the industry became incredibly challenged in 2013 and 2014, so even before oil price collapse there is a massive cost issue. And I think operators across the world and both small and large, you really started to attack this problem in late 2013. And what I’ve seen in our discussions with our customers is there has been substantial movement here. And so, obviously it starts with the drilling rigs and the drilling contractors. I think everybody knows the status there and the oversupply has driven costs down substantially.

Schlumberger NV (SLB) Paal Kibsgaard on Q2 2016 Results

We have now reached the bottom of the cycle

“. In the second quarter, market condition worsened further in most parts of our global operations. But in spite of the continuing operational and commercial headwinds, we have now reached the bottom of the cycle.”

The cost of production per barrel has fallen significantly but there has been no major step change in underlying drivers of cost

“The operators have reacted to this crisis by initiating a massive reduction in oilfield activity and by sending unsustainable pricing shock throughout the entire oil industry supply chain. In addition, there is currently also a widespread high-grading of activity taking place in the industry aimed at maximizing short-term production and cash flow. Adding up all of this, the current cost per barrel for the oil producers now appears to be significantly lower than what was the case seven quarters ago. However, this should not be confused with a permanent improvement in the underlying industry performance as there has been little to no fundamental change in technology, quality or efficiency, no major step change in industry collaboration and no general transformation of the industry business model.”

The decline in cost has been a redistribution of profit away from servicers

“What has taken place over the past 21 months is, instead, a redistribution of the profit and cash flow shortfall from previously sitting mostly with the oil producers to now representing an unsustainable burden for the supplier industry even after a massive reduction of costs and capacity.”

We are heading toward significant global supply deficit

” assuming that we continue to see a steady growth in demand, we are heading towards a significant global supply deficit as the E&P spend rate now is down by more than 50%”

The market is underestimating the pricing power of servicers, which will further depress supply growth

“In addition, the market is also underestimating the potential reaction from the supplier industry, which has temporarily accepted financially unviable contracts to support the operators and to keep their options open as the downturn has deepened and extended into uncharted territory. This is seen by the service industry profit levels and also from their ballooning receivables balances caused by operators who are unable or unwilling to provide timely payments. It also means that, inevitably, service industry pricing has to recover and as it does, this will consume a large part of the E&P investment increases intended for additional activity which will further amplify the pending oil supply deficit.”

We have reached a bottom but the pickup will be slow and steady

“Well, that’s quite a broad question, Jim, but I would say that we are clear that we have reached the bottom of activity in North America land, and that activity will increase not in a V shape dramatic fashion but I think there will be a steady increase in rig counts and associated frac activity, both from the rigs as from wells coming out of the DUC inventory. Now again, I think the activity will be more slow and steady”

Schlumberger NV (SLB) Paal Kibsgaard on Q1 2016 Results

The industry is displaying signs of a full scale cash crisis

“Activity fell sharply in the first quarter, as the industry displayed clear signs of facing a full-scale cash crisis. We experienced activity reductions worldwide, with the rate of disruption reaching unprecedented levels.”

2016 reductions are higher than expected

“The start of a new year and a new budget cycle represented a further fall in customer E&P spend, and we expect continued weakening in the second quarter given the magnitude and erratic nature of the ongoing activity disruptions. This outlook is backed by the latest 2016 E&P spending surveys, which indicate sharper falls than earlier figures. Global spending reductions in 2016 are now approaching 25%, corresponding to a fall of 40% to 50% in North America and around 20% in the international markets.”

Expect conditions to worsen further in 2Q

” we expect market conditions to worsen further in the second quarter, as customers continue to reduce activity. Excluding the additional revenue from Cameron, this market outlook together with our decision to reduce activity in Venezuela could lead to a sequential percentage fall in revenue for the second quarter, similar to what we saw in Q1. ”

View of oil markets remains unchanged though. Steady tightening of supply and demand balance

“Our overall view of the oil markets, however, remains unchanged, where a steady tightening of the supply and demand balance is taking place. The latest reports confirm that 2016 demand growth remains solid, while OPEC production levels have been largely flat since the mid of 2015. Production in North America continues to fall as decline rates are becoming more pronounced, while the mature non-OPEC production is now falling in a number of regions.”

Non-OPEC supply is now clearly in decline

“you look at non-OPEC production outside of North America, it is very clear that it’s now in full decline. If you look at non-OPEC production overall, it drops by 930,000 barrels over the course of Q1. ”

There need to be significant increases in E&P investment to meet growing demand

“I think we will need significant increases in E&P investment. There’s no way you can get around that. But if you look at the current state of the industry today and you look forward to 2017, there are limited sources of short-term supply that can be brought to the market.”

There’s still a lot of equipment capacity in NA that will keep oil service pricing down even when oil prices rebound

” I think when activity starts to increase, most of this equipment through some maintenance investment can be brought back in. And that’s why I still believe there’s a large capacity overhang in North America land. And with the current depressed service pricing, we need significant pricing increases to get back in to generate profits in North America land. And that’s why I don’t think that pricing traction is going to be significant in the short term, and that’s why also I think the earnings contributions from North America land is going to be a bit out in time.”

Have cut workforce by 42k people since the peak in 2014

“we reported at the end of Q4 95,000 people, and we reported 93,000 people at this stage, which indicates that we let go another 2,000 people during Q1. We actually released another 8,000 people during the first quarter. So we have now reduced our workforce by around 42,000 people from the peak in 2014.”

Cutting people in the field, but giving leave of absence to preserve operational expertise

” we are obviously right-sizing field capacity continuously. This capacity, we can build back relatively quickly, probably within 12 months. But even in the field capacity, we have introduced a program called intent of leave of absence. And here for our senior field engineers and for key operational people, we are giving them basically half an annual salary, paid 20% up front when they take this leave of absence, and 30% of the salary is paid when they return back after 12 months. And we have several batches of this incentivized leave of absence where we can call people back in the coming 12 to 18 months. So that’s a key part of how we preserve some of our core operational expertise.”

Combining hardware with sensors and software is the future for the industry

” I think the overall concept I think is widely accepted. This whole focus on total system innovation going forward, combining hardware with sensors, instrumentation, and software controls, this is the way of the future for the industry.”

Our industry is now in its deepest financial crisis on record

” our industry is now in the deepest financial crisis on record, with profitability and cash flow at unsustainable levels for most oil and gas operators. This has created an equally dramatic situation for the service industry. Each successive quarter for the past 18 months has brought increasing cost in E&P spend that have led to falling activity and lower demand for oilfield products and services. This is the toughest environment we have seen for 30 years, and it is likely to get even tougher before the market turns.”

Paal Kibsgaard

Annual budgets were exhausted well before the half way point of the quarter

“For many of our customers, available cash and annual budgets were exhausted well before the half way point over the fourth quarter, leading to unscheduled and abrupt activity cancellations, creating an operating environment that is increasingly complex to navigate and where the traditional year-end product and multiclient seismic sales were largely muted.”

We still believe the underlying balance of supply and demand continues to tighten

” we still believe that the underlying balance of supply and demand continues to tighten, driven by both solid growth in demand and by weakening supply as the dramatic cuts in E&P investments are starting to take effect. In North America, our shale oil production is declining more or less as we expected and was in December below the levels from one year ago.”

We have gotten the low hanging fruit of cost cuts but now we’re getting to a deeper part of the transformation

“I think it’s fair to say, like you say that a lot of the low hanging fruits we’ve already picked, but we’re now getting into the deeper part of the transformation where we’re making significant structural changes to how we go about doing our work and conducting our business. ”

$5B of FCF in this environment is not bad

“2015 was another solid year. It was not perfect. There were several things that I think we could have done better, but $5 billion of free cash flow in this environment is not bad. “\

Don’t think that 2017 will be worse, but not ready to say we’re troughing in 2016

“I think it’s too early to say Jim, but I’m — I don’t currently think that 2017 is going to be worse. I think — but with that said, I’m still not ready to say that we are troughing in 2016. I’ll be focusing in on executing basically quarter-by-quarter. I’m still optimistic, and I would hope that 2016 is the trough, but I’m not ready to rule on it yet.”

2016 will be another challenging year

“2016 will be another challenging year during which we will aim to continue to deliver superior financial results empowered with proceeding and capitalizing on the broad opportunity set the current market environment presents. “