As our second quarter 2013 earnings season winds down, investors should be aware of an industry that continues to show growth and prosperity. The oil and gas equipment and services industry continues to grow as certain macro oil-industry changes, increase the demand for these types of companies. Offshore oil exploration and drilling continues to grow and the demands for companies that provide support services like National Oilwell (NOV) have prospered because of it.
National Oilwell recently reported a profitable quarter as the company earned net income of $531 million or $1.24 per share. This is better than the first quarter when it recorded $502 million/$1.17, respectively. The thing that grabbed my attention was the backlog in the company's Rig Technology segment. At the end of June, the backlog reached a level of $13.95 billion because of the strong demand for oilfield equipment. Orders for new floaters and jack ups were strong, but floating production equipment doubled from the first quarter. This backlog is up eight percent from the first quarter and has climbed 24% year-over-year.
It appears the offshore drilling industry continues to prosper and continues to demand floating rates. The company sold eight floating rig packages in the second quarter after selling eight in the first quarter and is projecting the same amount the third quarter of this year. Successful exploration should also be a catalyst for the FSPO (Floating Production, Storage and Offtake-for offshore oil extraction) segment of the business.
Prosperity Brings Problems
While this is good news, it also poses demand problems. Even though the rig technology posted a sequential revenue gain of eight percent, the company was concerned because margins were not up to par. As demand grows, so does congestion from accelerated delivery schedules on many of the projects. These "tighter delivery schedules" were the reason for increases in manufacturing and other costs associated with installation.
In its recent quarterly report (2Q 2013), National Oilwell stated that ongoing installation and commissioning jobs doubled over a ten-quarter period from 2008. Since 2012, the same type of jobs doubled in merely three quarters. The same type of accelerated demand exists for contracting to deliver drill ships. Projects that were expected to take 36 months or more are now targeted at 26 to 30 months.
These decelerating delivery schedules are driving freight prices and personnel costs much higher. Along with new technical class requirements and rig designs, project costs have come in much higher than anticipated for the company.
While National Oilwell addresses the "problems that prosperity brings" it looks like the demand for oil and gas equipment and service providers will continue to be strong because the request for Deepwater rigs continues to grow.
Gulf of Mexico Demand Growth for Deepwater Rigs
Three years ago the BP disaster in the Gulf of Mexico threatened to eliminate drilling in that region, but deepwater drilling in the Gulf has made a strong comeback. In fact, this region may be one of the catalysts to moving our nation toward energy independence.
The "Oil and Gas Service" industry continues to prosper because of this. Forty rigs are under contract in the Gulf which is only five less than forecasted before the BP (BP) disaster. This number could double by 2017. According to the International Strategy and Investment Group, drilling in the Gulf could reach up to 70 rigs by 2015.
It appears that this region will continue to be a "revenue generator" for companies like National Oilwell and Transocean for a long time. Wood McKenzie, an energy consulting firm, made this observation:
"The deep-water Gulf of Mexico will remain an attractive region and will be a vibrant hub in the long term, with more than $70 billion to be spent on exploration in the region by 2030 - more than all the other key deep-water provinces combined."
Exploration Success Beyond the Gulf
Since the last half of 2012 the demand for deepwater and ultra-deepwater rigs has blossomed and the success of exploration has extended beyond the deepwater "Golden Triangle" region. There are other regions around the world like East Africa, the Black Sea and the Far East. Oil continues to become increasingly more difficult to find onshore and in shallow waters and because of this the oil and gas companies continue to move offshore into deeper water. Deep and ultra-deepwater discoveries tend to take up the highest percentage of drilling place.
Operators are looking for longer contracts of 10 years or more now. Petrobas will deploy 40 ultra-deepwater rigs off the coast of Brazil between 2013 and 2015 with the number to increase to 75 by 2020.
Seadrill (SDRL) believes we are in a long-term cycle of rig construction because there has been significant success in exploration and lower construction costs.
Transocean (RIG) is another company that continues to prosper from the "rig boom" and is part of a very closely related industry - oil and gas drilling and exploration. Just to show you the enormity that exists in this industry, Transocean placed an order last year for four newly built ultra-deepwater drill ships that will be contracted to Royal Dutch Shell (RDS.A). The company's ultra-deepwater rigs are utilized at a rate of about 94% and with a daily rate of half a million dollars. As the Gulf of Mexico grows, so will the company. Presently this region accounts for about 20% of the company's revenues. Beyond the Gulf, the company has doubled its rigs in the African region in the last four years.
Investors should take a look at this industry. Offshore oil exploration and drilling will continue to grow and companies that support oil and gas exploration companies will continue to prosper because of it. National Oilwell is one company in this industry but there are larger name companies that may be more recognizable such as: Schumberger (SLB), Halliburton (HAL) and Baker Hughes Inc. (BHI). This is a good industry for investors to explore.
Author's note: information and figures on National Oilwell was taken from its 2Q 2013 conference call that may be found here.