Fracking Discounts Seen Cutting Profits by $3 Billion

Updated on

Oilfield contractors hired to drill wells and fracture rock to raise crude and natural gas to the surface will have to lower prices by as much as 20 percent to help keep their cash-strapped customers working.

Ultimately, that could carve out more than $3 billion from the 2015 earnings outlined by analysts for the world’s four biggest oil-service companies -- Schlumberger Ltd., Halliburton Co., Baker Hughes Inc. and Weatherford International Plc.

The potential losses loom just as the service providers were looking ahead to higher rates after a glut in pressure-pumping gear dragged prices down in past years. Now, crude oil prices that have fallen more than 40 percent since June are squeezing them once again.

As they look for ways to cut costs, oil producers will be pushing for discounts wherever they can find them.

“They’re already going to confront significant cash-flow pressures with the decline in oil prices,” Bill Herbert, an analyst at Simmons & Co. in Houston, said in a phone interview. “They’re going to need all the help they can get.”

The price cuts may begin to take shape as early as this month, Herbert said. Hydraulic fracturing, in which high-pressure streams of water, sand and chemicals are used to crack rock underground to allow oil and gas to flow, may see the biggest chunk of pricing discounts because it’s the largest part of the cost of drilling a new well.

Earnings estimates for service companies that have been cut since last week will continue to be revised lower as analysts don’t usually reduce their forecasts in one go when the outlook for an industry worsens, James Wicklund, an analyst at Credit Suisse in Dallas, said by phone. “We’ve just gotten started.”

Profit Loss

Lower prices and lost business will probably reduce about $14.5 billion of net income estimated for the big four service companies in 2015 by as much as 25 percent, or about $3.6 billion, Wicklund said. Jeff Tillery, an analyst at Tudor Pickering Holt & Co. predicts roughly the same.

After two years of declining service prices, providers were finally able to stop the slide this year and start pushing rates back up to help compensate for their own rising costs for fracking materials such as sand.

Dave Lesar, chief executive officer of Halliburton, the top provider of fracking work, declared less than two months ago that better days were ahead.

“This quarter things are clearly accelerating out of that turn and we do not see momentum slowing any time soon,” Lesar told analysts and investors Oct. 20 on a conference call.

Budget Decisions

Now, Halliburton is waiting on some customers, who are deferring their budget decisions until the first quarter next year, said Scott Danby, a manager of investor relations at the Houston-based company.

Chevron Corp. is delaying its 2015 spending plan until early next year, spokesman Kurt Glaubitz said today by phone. ConocoPhillips will reduce next year’s spending budget by 20 percent to $13.5 billion, the company said yesterday.

Halliburton will still look to keep its equipment busy during the downturn, Danby said.

“You do want to keep your equipment working if possible at a reasonable price,” Danby said, without citing specific prices.

WuenFung Hor, a spokeswoman at Weatherford, didn’t return phone and e-mail messages seeking comment. Melanie Kania, a spokeswoman at Baker Hughes, and Joao Felix, a spokesman at Schlumberger, declined to comment.

Fracking Price

Prices for fracking may drop as much as 15 to 20 percent if the price of West Texas Intermediate oil remains below $70 a barrel, said Luke Lemoine, an analyst at Capital One Southcoast. The U.S. benchmark closed at $63.05 a barrel yesterday, the lowest settlement since July 16, 2009. It rose 0.8 percent to $63.58 at 12:17 p.m. in New York.

Prices for oilfield work will fall partly because the service providers seek to gain market share so that they’re in a better position when the market recovers.

“Market share is the king,” Thomas Patterson, chief executive officer at Basic Energy Services Inc., a provider of drilling services, told analysts and investors Dec. 3 at an energy conference in New York. “That’s the one thing you can’t give up.”

Patterson said he’s watching out for the smaller “mom-and-pops” who are just trying to survive.

“If it gets ugly, we’ll get ugly with it,” he said. “Although, we can hold our breath longer than they can.”

Service Margins

The service companies will also continue to work at lower prices to avoid idling equipment only to have to spend money to get it running again when demand improves.

That’s where the land-rig contractors may absorb some of the pain being felt by producers. With margins close to 50 percent for some, they have more room to give back pricing to their customers, Credit Suisse’s Wicklund said. The most expensive U.S. land rigs that charge a day rate of $26,000 can have $14,000 a day in cash margin, he said

“You’ve got $14,000 to play with,” Wicklund said. “So at what price are you willing to keep your rig working? Anything above cash flow.”

Oilfield contractors hold two of the top four spots among companies in the Standard & Poor’s 500 Index with the highest analysts’ target prices relative to their current share price, data compile by Bloomberg show. Nabors Industries Ltd. is priced by analysts 98 percent higher than yesterday’s close, while Halliburton is 64 percent higher.

Analysts at Tudor Pickering Holt & Co. said yesterday they lowered their 2015 projections for the oil-service industry again and Lemoine said last week he was in a “rinse and repeat exercise” to bring estimates down again.

‘More Realistic’

“We’ve been consistently more realistic, if not pessimistic, than the oil-service management teams since mid-August,” Simmons’s Herbert said. “The industry has been way too optimistic for too long, in the face of mounting evidence that 2015 was going to be a year of duress.”

Based on a projected 25 percent drop in exploration and production spending forecast by several analysts, the U.S. onshore industry will have to cope with about 400 rigs cut from current activity by next year, in addition to about 200 new rigs rolling out in 2015 that may not have work. Currently, there are 1,848 land rigs operating in the U.S, according to a Dec. 5 statement from Baker Hughes Inc.

“You have almost a 600 rig-count swing,” Lemoine said. “If you look at it that way, it really paints a pretty nasty picture.”

Before it's here, it's on the Bloomberg Terminal. LEARN MORE