In the trial of strength in global oil markets, it is the North American producers that are flinching first.
The fall in the internationally traded crude price of more than 55 per cent since last June has put oil-producing companies and countries everywhere under pressure.
In the past week, though, there has been a clear message in results from Schlumberger, Halliburton and Baker Hughes, the three largest international service companies that support oil and gas producers with activities such as drilling, completing and analysing wells. All three say activity is dropping off much more sharply in North America than in the rest of the world.
The oil price has been falling so fast that forecasting is difficult. As Paal Kibsgaard, Schlumberger’s chief executive, put it on the call with analysts to discuss the company’s fourth-quarter results last Friday: “We have a very significant lack of visibility. The way we are going about managing . . . is quarter by quarter now.”
The oil majors begin reporting fourth-quarter results next week, starting with Royal Dutch Shell and ConocoPhillips, and are expected to give substantive updates on how they are responding to the fall by cutting capital expenditure. However, initial indications are that spending by Schlumberger’s customers, which include both the majors and smaller companies, is dropping by 25-30 per in North America compared with 10-15 per cent in the rest of the world.
The message was similar from Halliburton on Tuesday. Dave Lesar, its chief executive, talked about a 25-30 per cent fall in the US and predicted a period of “volatility and pain for a few quarters”.
By contrast, he said, the Middle East and Asia appeared the company’s “most resilient” markets and were expected to be its best performers this year.
Baker Hughes, which last November accepted a $27.9bn takeover bid from Halliburton, also said it was seeing the sharpest slowdown in the US and Canada. Martin Craighead, chief executive, said that in past downturns the number of oil rigs working in North America had fallen by 40-60 per cent in the first 12 months. Numbers in the rest of the world “don’t tend to fall as sharply”.
Data published by Baker Hughes show a 15 per cent drop in the number of rigs drilling for oil in the US from October to January. But there was a drop of just one oil rig in Saudi Arabia, from 67 in October to 66 in December.
A survey of oil companies’ capital spending intentions published by Barclays earlier this month painted a similar picture.
State-controlled national oil companies planned to cut by an average of just 1 per cent, it found, with spending rising in the Middle East. Budgets for North America were expected to be cut by 14.1 per cent, but the survey was conducted last month on the basis of a $65 per barrel price for US crude this year. If the price stays below $50, Barclays said, the drop in spending was likely to be 30 per cent or more.
The faster downturn in the North American industry is in part explained by the higher costs of US and Canadian shale production compared with oil from the Middle East. The median North American shale development last year needed a US crude price of $57 a barrel to break even, according to IHS, the research company. The price now is below $48.
Other oil regions, including Canada’s oil sands and Brazil’s deep water, also have high costs, but there are particular features of US shale that mean it reacts faster.
First, the individual investments are small, making it more flexible. A typical well in the Bakken shale of North Dakota might cost $8m, compared with multiple billions for a project in deep water or the oil sands, meaning that spending can be ramped up and down more quickly.
Second, the small and medium-sized companies that have led the US shale boom have been running large cash deficits and relying on constant inflows of debt and equity capital to finance their spending. Their share prices have fallen sharply and raising fresh capital is much tougher than it was a year ago.
Third, the production decline rates for shale wells are much steeper than for conventional oil: daily output can fall 65 per cent in the first year. A typical Bakken well in its first year will produce more than half the oil it will ever yield. So if you believe prices are going to rebound, it makes sense to wait.
As Patrick Pouyanné, chief executive of Total, put it in Davos on Wednesday: “I can come back in one year when prices come back.”
Because of those steep decline rates, US oil production is expected to respond within months to the slowdown in drilling.
Mr Kibsgaard of Schlumberger says the “strong growth momentum” in the US industry means the general expectation is for a slowdown in growth and a levelling off in production rather than an absolute decline.
So long as global demand continues to grow, though, that could be enough to drive a recovery in crude prices. If that happens, many analysts expect the US shale industry to rebound as well.
“The Saudis are realistic: they know they can’t kill the US shale oil industry,” says David Goldwyn, a former US state department official who is now an energy consultant. “Low prices might slow its growth for a while, but as soon as prices recover, the US industry will come back.”
Push for savings drives job cuts in US sector
A critical issue for the future of the US shale industry is how far it can drive down costs to improve cash flow and profitability, writes Ed Crooks in New York.
This push for savings goes a long way to explaining why oil services companies are starting to cut thousands of jobs.
Paal Kibsgaard, Schlumberger’s chief executive, said the company was already seeing “pricing pressures” in North America for the hydraulic fracturing — or “fracking” — and drilling services used by the shale industry.
“We are actively working with our customers in all basins to help lower their overall drilling and completion costs,” he said.
Martin Craighead, chief executive of Baker Hughes, said it had already started “serious discussions” with customers about the prices of pressure pumping services used for fracking.
He added the company expected a “double hit” from lower activity and lower prices.
Baker Hughes plans to cut 7,000 jobs — or 12 per cent of its workforce — and Schlumberger 9,000, while Halliburton said it was making reductions “in line” with its competitors, without giving a number.
However, the companies are suggesting there are limits to how far their prices can fall.
Dave Lesar, chief executive of Halliburton, pictured, said he expected pricing concessions to be “less severe” than in previous cycles, because the upturn had not lasted long enough for profit margins to reach historically strong levels.
It would take a couple of quarters, he suggested, for the balance of slowing activity and falling prices to play out, and for the market to reach “some sort of equilibrium”.
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