Schlumberger saw its debt rating downgraded by S&P due to the unfolding slowdown in drilling by U.S. shale companies.
The largest oilfield service company in the world has seen its earnings hit as the shale industry goes through a soft patch. S&P cut Schlumberger's debt rating to A+, down from AA-. Meanwhile, Halliburton saw its outlook downgraded from "stable" to "negative."
"Oilfield services companies will no longer be able to generate the high operating margins they did in 2014," Carin Dehne-Kiley, an analyst at S&P, wrote in a report. "The oilfield services industry has fundamentally changed due to permanent efficiency and productivity gains realized by E&P companies as well as investor sentiment calling for E&P companies to live within cash flow and limit production growth."
The sharp fall in oil prices late last year, which stretched into the first quarter of 2019, led to a rapid erosion in the U.S. rig count. The oil rig count fell by 5 to 797 for the week ending on May 24. The rebound in oil prices this year has not led to a corresponding bounce back in the rig count.
Shale companies have pulled back, making modest spending cuts amid the soft patch. Moreover, the U.S-China trade war may have killed off yet another rally, with gloom spreading across the industry. Another lengthy downturn would likely deepen the modest austerity measures implemented by shale producers, which would further weigh down the oilfield services sector.
Lower drilling activity translates into less interest in the variety of services that Schlumberger offers. A depressed market for equipment, labor and other services means that companies like Schlumberger have less leverage in pricing negotiations with oil producers. Several years on from the massive oil market bust in 2014, Schlumberger has been trying to claw back the steep discounts it was forced to offer to producers.
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The company struck a slightly optimistic tone when it reported first quarter earnings in April, a time that coincided with the most recent upswing in prices. Drilling began to pick up around the world and Schlumberger argued that heavy investment is needed on an ongoing basis simply to offset conventional decline.
Still, when it came to U.S. shale, Schlumberger's chief executive was more pessimistic. "In North America land, the higher cost of capital, lower borrowing capacity and investors looking for increased returns suggest that future E&P investments will likely be at levels dictated by free cash flow. We, therefore, see land E&P investment in North America down 10% in 2019," CEO Paal Kibsgaard said on an earnings call.
He went on to add: "In addition to the lower investments, increasing technical challenges from well interference, step out from core acreage and limited further growth in lateral length and proppant per stage, points to a more moderate growth rate in the U.S. shale oil production in the coming years."
Schlumberger's share price is down 45 percent from a year ago, and is back down to where it was at the start of the year when Brent was trading in the mid-$50s and WTI was in the mid-$40s. Halliburton has seen its stock plunge by more than half over the last 12 months, and it is down by about 20 percent in the month of May alone. Related: The U.S. Is Losing The Nuclear Race To Russia And China
U.S. oil production still sits at record levels, but growth has seemingly plateaued.
Looking out over the next few years, there are worrying signs for the likes of Schlumberger and Halliburton. Through 2022, the offshore oil market for services will grow at a very strong annual rate of 7 percent, according to Rystad Energy. More spending and exploration should offset the lull in the shale patch.
However, beyond 2022, growth slows to just 3 percent, Rystad predicts. The current upswing in offshore activity could lead to another glut. The current wave of spending over 2018-2019 may translate into 5 million barrels of oil equivalent per day (boe/d) of new supply, an amount that could set off another downturn. "Higher oil prices were a primary cause of the recent upstream spending spree and - in keeping with the cyclical nature of this industry - the added production from those investments will soon help to put downward pressure on oil prices, which in turn will undermine field sanctioning activity post-2020," Audun Martinsen, Head of Oilfield Service Research, said in a statement.
In other words, credit rating agencies are taking a dimmer view of oilfield services giants during a period that is supposed to be relatively strong.
By Nick Cunningham of Oilprice.com
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Nick Cunningham is an independent journalist, covering oil and gas, energy and environmental policy, and international politics. He is based in Portland, Oregon. More