Helmerich & Payne's FlexRigs Provide an Opportunity in U.S. Shale Plays

| About: Helmerich & (HP)

Shale drilling for oil has become an evolution of sorts. Not too long ago we were unable to tap the vast resources in shale plays. Many thought it was near impossible until natural gas drillers began producing from such wells. Now horizontal shale drilling is on the tip of every oil investor's tongue. If we aren't hearing about Brigham (BEXP) breaking a new record for initial flow rates in the Bakken, we are hearing about horizontals with unbelievable drilling lengths.

Its easy to play companies like EOG Resources (NYSE:EOG) or Kodiak Oil and Gas (NYSE:KOG), but there is definitely a revolution of sorts in the drilling industry. It is based upon Tier 1 drilling rigs and their ability to pull massive amounts of liquids from shale plays like the Eagle Ford or Bakken/Three Forks.

I have highlighted some of my ideas on Precision Drilling (NYSE:PDS) here, and also Halliburton (NYSE:HAL) here. Before I write about a company, I have one rule: The company has to be in a sector I believe will outpace the broader stock market. Helmerich & Payne (NYSE:HP) is in one of those sectors.

H&P will have 281 total rigs by 2012 estimates. Of those rigs, nine are offshore, and 23 are international land. H&P has 249 rigs in the United States, with 13 new FlexRigs scheduled to be completed sometime this year. Of the 249 U.S. rigs, H&P has 211 FlexRigs and 38 mobile and conventional rigs.

Since 1997, H&P has steadily increased its rig fleet. In 1997, H&P had 77 rigs. By 2004, it had 130 rigs, and in 2010 H&P had 257 rigs. It is estimated the rig count will increase to 281 by 2012.

More importantly, H&P owned more international rigs in 1997 then they have working now. H&P has stated there has been a marked increase for its rigs to drill for oil and natural gas liquids. Due to the complexity of United State's oil shales, there has been an increase in horizontal or directional drilling. In 2006, 31% of all domestic rigs were drilling horizontally or directionally, and by this month that number has increased to 56%. This is remarkable when considering the increase in overall rigs in the United States. In 2005, there were less than 200 rigs running in the U.S. Now there are a little more than 750.

H&P's 236 U.S. land rigs are 77% AC-driven, FlexRig 3 and 4 models. Some 16% are conventional rigs and 7% are FlexRig 1 and 2 models. The total available U.S. land fleet has over 2500 rigs. Of those, 72% are refurbished rigs, built between 1940 and 1982. While 16% are AC-driven new builds, 12% are other new builds. Only rigs of at least 600 hp are used in these numbers (numbers are from rig data, Smith Bits and other corporate filings).

If these numbers are broken down by rig type, H&P has 76% AC-driven, 20% SCR rigs, and 4% mechanical. The total U.S. fleet is 53% mechanical, 31% SCR rigs, and 16% AC-driven rigs. If these rigs are compared on the basis of utilization, we see why AC-driven rigs are so important. H&P's AC-driven rigs are being utilized just under full capacity. Its SCR rigs have a utilization of 45% and the mechanical rigs have no utilization. The whole U.S. fleet sees utilization of a little over 90% for AC-driven rigs, close to 70% SCR rigs, and around 50% mechanical rigs.

H&P's fleet is contracted in varied locations through the United States. These locations are:

  • Eagle Ford - 41 rigs

  • Cana Woodford - 24 rigs

  • Haynesville Shale - 23 rigs

  • Permian Basin 23 - rigs

  • Bakken Shale 22 - rigs

  • Marcellus Shale - 13 rigs

  • Barnett Shale - 12 rigs

  • Piceance Basin - 10 rigs

  • Granite Wash - 9 rigs

Other unconventional plays have smaller numbers of these rigs and conventional rigs were not figured into this information.

H&P has also been increasing market share. In 2001, with reference to the lower 48 states, H&P had roughly 4% of this market. This placed it third behind Nabors (NYSE:NBR) and Patterson-UTI Energy (NASDAQ:PTEN). By February of this year, that number has increased to 11% and now H&P is in first place with respect to this demographic.

H&P has also consistently beat the competition with respect to margins. This is explained by its high specification land rigs, as the company sees more need to do to unconventional oil plays. Estimated margins give H&P roughly $3000 more per day. H&P also carries a utilization premium. Of its U.S. land fleet, 199 of the 236 rigs are contracted for 84% utilization. Of its nine offshore rigs, seven are contracted for 78%. The remaining 23 international land rigs have 16 contracted for 70% utilization. The 13 FlexRigs under construction are already contracted.

Currently, H&P has 129 rigs contracted and 69 in the spot market. This number under contract will decrease significantly, so H&P can garner higher prices for its rigs. As of the second quarter of this year, H&P will have 128 rigs under contract. By the second quarter of next year, that number decreases to 78 and by the third quarter of 2013 the number goes to 55. This means that over half of the contracted fleet will be able to sign new contracts that will be significantly higher in price.

Since March of 2010, H&P has announced the construction of 31 new FlexRigs, all of which are signed to lucrative long term deals. Thirteen of these rigs are still in construction and scheduled to be completed sometime this year. It seems much of the demand for these rigs are centered in more difficult horizontal shale plays like the Bakken and Eagle Ford. Demand for these rigs will continue as they not only provide larger margins for H&P, but also produce more oil over the lifetime of the well. They also provide increased safety while increasing production efficiency.

In summary, H&P may be the company to benefit most from the new unconventional oil plays. Strong oil prices allow for more complex oil drilling, and have been the reason for the shift to oil and natural gas liquids. H&P has a large inventory of Tier 1 rigs suited for these plays. Older conventional equipment has become dated and is not suited for the current U.S. market. Drilling complexities, better efficiencies, strong operational performance and a new focus on safety should provide an optimal situation for H&P investors.

H&P estimates it will see quarterly average rig revenue increase from $400 to $500 per day from the first quarter to the second quarter of 2011. As its high end FlexRigs return from Mexico, higher margins will be seen. Not only is H&P in a good sector, but the company seems to be positioned well, to garner higher rates and stay busy through the U.S. oil boom.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.