Rarity sometimes breeds more rarity.
The latest source of the shortage comes from the petroleum service industry, which has fewer equipment and fewer employees after years of austerity. Meanwhile, oil and gas prices are near multi-year highs. The top three repairers — Halliburton,
Schlumberger SLB -1.31%
and Baker Hughes BKR 0.14%
– said in their earnings calls this week that they are negotiating price increases with their customers accordingly. Higher labor costs, stretched supply chains and inflation are also fueling these price increases.
That’s not such a bad thing for the three companies, all of which had to deal with price cuts last year. But, as with many businesses, it is not free from short term hitches. Hurricane Ida, which slashed production in the Gulf of Mexico, slashed their overall third quarter revenue and all three fell short of top expectations for the quarter. Baker Hughes in particular has had a difficult time; its digital solutions division has been hit by shortages of electrical components around semiconductors, boards and displays. Since Tuesday, when the first of the three oil service giants reported profit, Halliburton and Baker Hughes shares have lost 1.7% and 8.4% respectively. Schlumberger shares edged down 0.6%.
Equipment supplies are tight enough and oil and natural gas prices high enough that some customers are bidding for services earlier than usual. It is difficult to say to what extent the rush will affect energy prices. From a directional standpoint, however, the equipment shortage isn’t likely to improve anytime soon. Service companies tightened their belts earlier than their customers and now all plan to continue their spending discipline. Halliburton’s capital budget today is about a quarter of what it was seven years ago, the last time Brent crude prices hit $ 85. It plans to keep capital spending capped at 5-6% of income. While the services market is tight today with global producers pumping five million barrels of oil less per day than in 2019, the situation is not going to improve next year as oil production is expected to exceed pre-pandemic levels.
Despite the short-term setbacks, a tight market with growing demand is a great place for service companies. The Organization of the Petroleum Exporting Countries and the International Energy Agency expect demand for petroleum to increase at least until the 2030s. This petroleum must be extracted somewhere in the world, even though American drillers maintain discipline. Barring a sudden discord among OPEC + members or sudden drilling activity from major U.S. producers, prices appear likely to stay above pre-pandemic levels.
International service companies are in a strong negotiating position, and they are already lighter and more profitable than they were before the pandemic. The shock of 2020 forced them to learn new skills such as remote monitoring for drilling. Schlumberger achieved higher net income in the third quarter than in the second quarter of 2019 on a 30% lower revenue basis.
Halliburton is already moving some equipment to more lucrative jobs overseas. Additionally, the company notes that the new fields are smaller and require more work to produce more barrels, which translates into more dollars. Repairers are also finding that they can get a pretty dime (“price pull,” as Halliburton puts it) for selling low-emission equipment, which will likely be in high demand for years to come. Baker Hughes’ digital solutions division appears well positioned to benefit from helping businesses monitor and manage emissions.
Despite the bullish outlook, shares of service companies look cheap. On average, their forward price / earnings ratio is 28% lower than their 10-year average. Their stock price has come out of a deep hole, but it’s still a good opportunity to get downstairs.
Write to Jinjoo Lee at [email protected]
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