The FY16-19 cycle can be characterized by continued efficiency capture and activity growth in US shale, with several key int’l ‘pockets’ supplementing the NAM-centric OFS recovery. The US accounted for nearly all global net oil growth over this timeframe. Into YE19 (prior to the acceleration of the global COVID-19 pandemic), the consensus view was that a returns-focused US shale complex would see growth moderate significantly, and that the next leg of OFS earnings recovery would be driven by FY20 capacity tightening in key E-Hemi and offshore geomarkets (despite 4Q19 shale softness, OFS equities OP energy/market on this constructive view). That playbook has since been thrown out given the current commodity tape, and while N-T oil supply trends matter little given the dual overhang of global economic shutdown & KSA OSPs, we still think it is important to monitor underlying production momentum (both in USL and abroad). While int’l activity & pricing had nearly turned the corner in
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Weekly OFS thoughts, including SLB’s Downturn Playbook, APY-ECL Deal Risk (proforma model), and the Dallas Fed Survey
To underscore the pessimism that has pervaded upstream energy is to beat a dead horse, but we wanted to flag yesterday’s 1Q20 Dallas Fed survey to juxtapose the commentary against the prior downturn. The fact that the wounds of ’15-’16 are relatively fresh is both the basis of more apocalyptic commentary (vs. 2015), and a driver of a more proactive OFS response. In recent days/weeks, we’ve asked the question “how much is left to cut across OFS?” (particularly in USL). While the near-term outlook remains opaque, we do believe that OFS (in aggregate through FY20/21) could outperform what may prove to be the more precipitous activity decline in FY15/16 (in terms of rev decline & incremental margins). Within, we compare responses now vs. those in the 1H15 KC Fed Surveys, to illustrate some interesting differences in the way both OFS and its customers are approaching the current downturn in US shale.
This week, we caught up with another handful of mgmt/field contacts to get a real-time beat on the upstream fallout. Simply put, the fact that key, US-centric OFS withdrew guidance this late into the quarter underscores the sheer rate of degradation in activity, particularly juxtaposed against relatively upbeat Jan catchups & constructive messaging through (at least the early part of) earnings calls. Within, a summary chart tracking E&P budget cuts, and the drill/frac impact based on OFS/E&P alignment in FY19.
We caught up with SLB following its address this morning (03/24/20). While investors are (understandably) more focused more on the dividend, we see SLB’s NAM downsizing, and pushback against E&P price gouging, as perhaps the biggest takeaway in this early downturn messaging. This is a significant strategic departure for SLB in the modern era, as the company had gained NAM share in each of the two prior downcycles (’08-’09 & ’15-’16) culminating in an aggressive ‘double down’ on USL from FY17-18 (during which prior leadership greatly expanded the shale offering). Sure, there are plenty of smaller peers to now absorb the pricing blow, but none with the bal sheet longevity (and R&E firepower) to meaningfully lower the shale cost curve. We are confident that HAL will remain similarly stout in the face of 20-25% pricing asks.
APY has significantly underperformed OFS YTD. This morning (3/24/20), APY provided a business update (link) in response to a weakening global upstream market. In addition to the $65M of ann ops savings (~575bps on FY19 rev), APY will reduce its capex/ESP spend by $50M from FY19 levels (a 65% reduction Y/Y). In total, the ops restructuring could improve APY FY20 FCF conversion (% rev) by ~750bps vs. our model, using FY15 decrementals as a downturn baseline. APY is down 90% YTD (vs. WR OFS -67%) and represents a clear “dislocation opportunity” within OFS for those L-T investors that are comfortable with 1) ECL deal close (target 2Q20), and 2) interim volatility as USL OFS finds a new level. Maintain Peer Perform and YE20 PT of $5, as 2020 choppiness in USL will have an outsized impact on APY standalone.
This COVID-19 & KSA price war driven collapse is a sinister combination of two overhangs, seemingly a combination of the ’08-’09 &’15-’16 downturns. Many oilfield families have been/will be impacted, and our thoughts go out to those in the industry.
Weekly OFS thoughts, including the Wolfe Energy oil mark-to-market and OFS sector update (estimate, PT & rating changes).
The past week has been a confusing one for energy (and the broader market). This week, Sam Margolin updated the Wolfe oil deck & IOC ests/sensitivities following the recent crude collapse, and Josh Silverstein updated ests across his E&P coverage. Armed with a slightly better visibility into the producer capex response (with the bulk of E&Ps having slashed budgets/growth targets), we are also updating our beleaguered OFS coverage. We are lowering estimates & YE20 price targets, and changing ratings in response the swift O&G deterioration.
Lot of head scratching around Saudi’s decision to engage Russia in the price war, and clearly no one person has all the right answers on the geopolitics at play. From conversations with investors over the past several days, it stands to reason that Russia will be solid in the face of KSA OSPs and raised production. Saudi, and the GCC broadly, are the bigger question mark given that most countries don’t fiscally break even at current crude levels, and civil unrest is a potential theme. For OFS, the upside risk from here is 1) Coronavirus begins to dissipate (new cases decelerate) over the summer, and 2) KSA/Russia (perhaps supported by other GCC members) return to the table. SLB is the play on heightened Russia/KSA output (NESR also a winner in KSA), while BKR is the relative nat gas vs. oil play. Not much in NAM will work unless #1 and #2 are achieved above. TS (which quietly overtook HAL in terms of mkt cap) is globally diversified with decent BS/yield.
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