As stated in my article from a few days ago, International oil Exploration & Production's spending is expected to rebound in 2011 after declining by 15% in 2009 and slowly turning around in 2010. Most analysts now expect spending to increase into the double digits this year.
An exploration upcycle is now brewing in many parts of the world. It is also very clear now that the trend toward smaller and more complex reservoirs coupled with an aging resource base and high decline curves is driving an increase in the required amount of exploration work necessary to maintain and support global production, and will likely drive a large increase in seismic spending.
Brief Introduction of Seismic Industry
Seismic imaging has resided at the core of the oil and gas industry since its infancy. This technology has been heavily utilized to create images of the earth’s substructure in order find hydrocarbons and to target drilling activities.
Seismic data are produced when sensors or listening devices on the earth’s surface measure how long it takes for sound waves (vibrations) to echo off of rock layers in the subsurface. The data is then processed using advanced algorithms and workflows that geophysicists use to create images of the subsurface. These images can depict the structure, lithology, and fluid content of subsurface horizons and the images can highlight the most promising places to drill for oil and natural gas.
The use of seismic data significantly reduces the likelihood of an oil and gas company drilling a dry hole. Seismic services also assist E&Ps in designing well plans and determining the best means of extracting hydocarbons.
Usually, large oil & gas companies engage a seismic acquisition company to prepare the site, coordinate the logistics, and acquire the data. So when oil E&P is picking up, those companies that provide seismic data and imaging services will benefit first.
Global Geophysical Services (NYSE: GGS)
In the Seismic industry, I find Global Geophysical Services particularly interesting. The company is the fifth-largest land seismic contractor globally based on 2009 revenue data, and has a solid geographic footprint. The company has completed surveys in the majority of the world’s major oil and gas basins, including Mexico, Colombia, Argentina, Chile, Peru, Georgia, Uganda, Algeria, Iraq, Oman and India. Global focuses on the high-end of the market (high resolution, 3D/4D seismic) and has industry-leading margins for its onshore seismic data acquisition services. The company also provides data processing through its wholly owned subsidiary, Weinman Geosciences which focuses on the processing and re-processing of high-density data.
Global focuses on the high end of seismic acquisition services (high-resolution, 3D/4D) through a fleet of approximately 150,000 channels. Global is an early adopter of new technologies and was the contractor selected for the first commercial survey of FireFly, a Full-Wave cableless land acquisition solution.
Global Geophysical was founded in 2003. The company launched its first land and marine crews in 2005. Global also established a volume purchasing agreement with Sercel in 2005. In 2006, the company received its first round of outside investor sponsorship from Kelso & Company ($50 million) which provided Global with a solid base of capital to further expand its operations and geographic reach.
In 2006 the company was selected as the contractor to perform the first commercial survey utilizing FireFly, Geophysical’s cableless imaging solution. In 2007, Global was selected on a high-resolution project in Oman over Schlumberger’s Western Geco.
In 2008, the company expanded its offering to include data processing services with the acquisition of Weinman GeoSciences for roughly $22 million. In April 2010, the company went public at NYSE.
Since 2005 the company has completed surveys in the Bakken shale, the Fayetteville shale, the Marcellus shale, the Green River basin, the Haynesville shale, the Anadarko basin, the East Texas bossier, the Eagle Ford shale, and the Barnett shale.
As the U.S. domestic market has undergone a significant shift from drilling in conventional to unconventional reservoirs. This is primarily due to higher initial production rates in shale plays and better economics. The increase in unconventional drilling in the U.S. is best measured by the ramp in the horizontal/directional drilling rig count. Since bottoming in mid-2009, the horizontal/directional rig count has increased by 87%, compared with a 52% increase in vertical drilling activity.
Increased drilling activity in shale plays is resulting in higher demand for seismic. Seismic is particularly useful in shale wells due to the need to understand complex natural fracture patterns.
As a percentage of the total cost of drilling and completing a well, seismic is relatively inexpensive, particularly if completed using a multi-client model. This is especially true in challenging environments where the cost of completing an acquisition can be much higher. For example, the average shale well costs between $16,000 and $55,000 per acre to drill and complete, compared with the cost of a multi-client seismic acquisition which is typically around $200 per acre.
The company’s 3Q 2010 earnings report was disappointing due to the weather troubles that impaired South Texas operations. However, this is just a one-time event. I think at current level, GGS is still a potential value play with hidden earnings power because the whole oil sector is in the early stage of an up cycle. As E&P is picking up, GGS will post tremendous growth of earnings and we will see much higher price level.
Actually, in recent conference calls, GGS noted supply/demand tightness for U.S. land seismic and, for itself, can “see” 6-8 quarters of U.S. strength given M-C backlog (70% of which is oil-based). Latin America is healthy (including Brazil entry), which helps offset the underutilized Eastern Hemisphere.
Valuation of GGS is very attractive: GGS currently trades at 1.5x Price to Sales ratio. vs. closest peer CGG Veritas at 1.75x and Petroleum Geo Services, a Norway company, at 2.80x.
I believe with better outlook of 2011, this stock has at least 50% upside potential.
Disclosure: I am long GGS.