Schlumberger Limited (NYSE:SLB) reached an inflection point in the third quarter as international revenues outpaced North American revenues for the first time since 2014. In fact, all regions around the world, including the U.S., are experiencing higher decline rates in production, especially in Venezuela and Iran, which are requiring E&Ps to increase investments. If, not, oil prices will continue to rise, which will benefit all energy companies, in theory.
Actually, that statement is not entirely accurate. The sad reality is that services players are seeing margins shrink from oversupply of certain services segments, even with higher oil prices, due to de-bundling by E&Ps. If more E&Ps bring pressure pumping services in-house, as well as sand and other services, companies like SLB could continue to see pressure on their stock prices as earnings suffer.
SLB should be somewhat insulated from these fears, however, since they have vertically integrated into services and have a dominant offshore business that is now offsetting weakness with their OneStim hydraulic fracturing business.
Rather than focusing on the obvious positives in their offshore business (listed above), for the purposes of this article, I'd like to comment on the viability of oilfield services players as an investment in general, and take a harder look at the sustainability of SLB's North American land business. Current indications are pointing to a bright future for SLB's hydraulic fracturing business, especially in frac sand, which should prompt investors to take long positions at these depressed levels. Let's see what the tea leaves are telling us.
Things aren't all that bad when a company reports revenues of $2.6 billion, and operating income of $1.2 billion (total, pretax). Yet, services players like SLB continue to get punished.
Onshore revenues struggled from temporary weakness in OneStim, but there was a lot to still be excited about in North America. Drilling revenue grew 5%, which outperformed the land rig count, and stages increased to a record level. Also, as longer laterals with precision placement continue to be adopted, rotary steerable systems will be in heavy demand, since they help steer around costly contours in the lateral.
These segments of SLB's land business were strong, and will continue to offset weakness in OneStim. Artificial lift sales are also offsetting OneStim, since more E&Ps are looking for ways to improve oil & gas flows. These onshore consolations, combined with SLB's improved offshore business, should make up for weakness in OneStim, and more than mark the bottom of SLB's stock price.
Now to the real story, SLB's hydraulic fracturing business with OneStim. This is obviously what the stock is being negatively hampered by, so let's address the elephant in the room.
SLB commented that they began the quarter by leveraging fleet additions. But, as activity weakened from delays in completions (due to full pipelines and maxed-out budgets), that suddenly left white spaces in the calendar for completion crews. This, in effect, pressured pricing, which then pressured margins and earnings.
However, while these delays are temporary, analysts can't help but to speculate and spread fear that E&Ps will keep undercutting services players, like SLB, through de-bundling. If more E&Ps train their own completion crews, which takes no barriers to entry, then obviously this could be a problem for pressure pumpers- but not SLB.
The reason why SLB is more immune to the de-bundling threat than other services players, like Halliburton (HAL), is due to their moves to become vertically integrated. Now, if an E&P wants to use their own completion crew, and avoid SLB, great. But, where are they going to get their frac sand from? Anyone can move a completion crew, but not anyone can move sand without logistics (which E&Ps and pressure pumpers don't have).
As is the case with most consumers, they would rather buy a wholesale-bundle price from one player rather than buy more expensive products/services individually from many different companies. The costs savings and supply chain efficiencies are greater for an E&P when bundling. Another caveat that analysts are missing is the fact that SLB has, both, Northern White sand supply and local brown, which they can sell individually to customers or as a bundled package with the rest of their services.
So, whether an E&P trains his own crew, or uses SLB's pressure pumping crews, sand and other services are needed just importantly, which is why it makes sense to get their needs from one place. Halliburton does not have this luxury, since they don't have their own sand. SLB is the only company out there that is vertically integrated in all aspects of oil & gas, which is why they should thrive while others like HAL lose out from de-bundling.
When decline rates become an issue and production growth slows, which SLB said is already the case, then E&Ps will need more technology to offset those declines.
This means more Northern White will be needed, since it is the lowest cost solution to improve decline rates. Resin coated sand and ceramic is too expensive. As a result, E&Ps who rushed to use brown could flip-flop and switch back to NW. SLB, in this case, would be immune to the pushback since they have both types of sand.
At any rate, SLB has the full suite of services to protect its market share, bundled or sold separately, even if trends change back to Northern White.
SLB has finally seen a rebound in offshore revenues, which should offset temporary weakness in North America with OneStim. This is the reason that services companies are being brutally sold-off. However, as offshore offsets onshore, SLB's vertical integration with sand and services should further offset onshore weakness while hurting competitors like HAL in the process. As a result, SLB is now placing immense pressure on services players who can’t bundle, and is poised for dominance in 2019 and beyond.
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Disclosure: I am/we are long HCLP. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.