Schlumberger Digs Deeper

Will a pricey bid help the oil-field giant keep its lead?

For more than 50 years, Schlumberger Inc. has been a giant of the oil patch. Back in the 1920s, the New York-based company created the oil-services industry when it used electrical resistance to detect oil deep underground. And for decades after, it spent millions to ensure that it was the first to introduce any new technology.

So with consolidation rapidly cutting the number of rivals even as an offshore drilling boom has Big Oil soaking up more services than ever, you'd think Schlumberger would be enjoying heady days. But it's not. Instead, the $11 billion company is facing its toughest competitive situation in years: Not only is it falling behind nimbler competitors more willing to form alliances to expand across the globe, but customers and former executives say it is also losing its once undisputed technological lead. Though the company's surprise $3.4 billion deal for Camco International Inc. on June 19--its largest buy in 14 years--will help, Schlumberger still has a tough road ahead. "[It] is in a dogfight here to maintain superiority," says Standard & Poor's analyst Norman Rosenberg.

SMART WELLS. Indeed, though it remains a critical oil-field supplier and a fierce competitor, Schlumberger risks becoming just one of the pack. When Dallas-based rival Halliburton Co. completes its acquisition of Dresser Industries Inc. in September, it will eclipse Schlumberger to become, with $17 billion in sales, the largest services company. Houston-based Baker Hughes Inc., long a distant third, is growing too. "It used to be we had a philosophy to give Schlumberger the real tough jobs," says Chevron USA Production Co. Vice-President Bruce W. Reynolds. "Right now, we could go to any of those companies."

Schlumberger declined to speak to BUSINESS WEEK on the record for this story, but a top-level executive did respond to written questions on the condition that his name not be used. He denies Schlumberger is falling behind. "We have nothing to feel bad about," he says.

Perhaps, but bigger rivals are only the beginning of Schlumberger's problems. After a four-year oil-services boom, analysts now predict that the big oil companies will chop exploration and production budgets 15% next year. That could slow Schlumberger's earnings growth to 13%, to $1.6 billion this year, from a 20% gain last year, estimates First Call Corp.

More worrying, customers and former executives say, is that Schlumberger is losing its pivotal technology edge. "We look at service, technology, safety, and price," says Lavele L. Frantz, Phillips Petroleum Co.'s vice-president for drilling, production, and technology. "They just have not been the winners of those competitive bid situations."

One area that's particularly critical: the ability to build so-called smart wells, which can be monitored and controlled remotely. Oil companies have begun to install these high-tech wells, which are expected to become the norm. Already, rival Halliburton has sold 13 to Amoco Corp. But customers and investors say Schlumberger doesn't have the technology to build them. "There's no doubt when you look at its suite of products, they were lacking," says Ken Miller, executive vice-president of Cambridge Investments Ltd., an energy hedge fund.

Worse, the smart wells pose a daunting challenge to Schlumberger's oldest and most profitable oil-field division: Wireline & Testing. The unit drops electrical sensors into wells to measure pressures, temperature, and volume. Today, Schlumberger controls 65% of the $4 billion market for wirelines; the unit accounted for roughly 30% of the company's $1.3 billion in 1997 profits. But smart wells are now able to perform those tasks as well as wirelines.

The Schlumberger executive denies the company is lagging. Asked about smart wells and other new developments, he cited tools such as magnetic-resonance sensors, which Schlumberger has spent 25 years developing. It is "way ahead of the competition technically," he says.

SINKING STOCK. Yet the stiffer competition is clearly forcing Schlumberger, which had long preferred to solve its research and development challenges internally, to look outside for help. Analysts say that's why it has turned to Camco--which specializes in a new class of tools needed to complete smart wells. But if the bid makes strategic sense, it came late in the industry consolidation. And its high price tag spurred a sell-off that sank Schlumberger's stock to 65 5/8 on July 13--its low for the year.

Moreover, if the Camco deal solves one problem, it could easily open others. For starters, Schlumberger has had a poor track record managing big acquisitions, and it has tended to buy at the peak of its cycle. Camco also marks a return to heavy manufacturing, hardly Schlumberger's forte. Its sole other manufacturing unit--Measurement & Systems, which makes electrical and gas meters--has long underperformed.

Most seriously, says Steven Mele, a former Schlumberger executive now with Standard Chartered Bank, a key reorganization that CEO Euan Baird launched early this year may distract the company as it absorbs Camco. With its federation of highly autonomous product and service companies, Schlumberger has proved ill-equipped to meet customers' increasing demand that suppliers act as general contractors. Rather than simply selling standardized equipment needed for a given task, the oil companies want Schlumberger and its rivals to provide a customized bundle of products and services for each project. Baird has announced a series of changes--including retraining 65,000 employees--intended to instill a more cooperative culture.

Despite Baird's many challenges, investors are hardly writing off the company. It continues to boast operating margins of 17%--the best in oil services. And even after the recent stock fall, it enjoys a price to earnings ratio of 24--50% higher than the industry average. "I wouldn't bet against Schlumberger," says Zia Mian, vice-president and senior energy analyst at Northern Trust Co., which manages funds holding Schlumberger stock. Still, as it struggles to maintain its traditional lead, it's Schlumberger's turn to play catch-up.