Schlumberger, Thriving Overseas

Schlumberger (NYSE: SLB)

Key Takeaways:

  • Schlumberger reported another strong quarter relative to its peers, further testament to its sector-leading ability to innovate and execute, particularly in the reservoir characterization business.
  • The company’s WesternGeco unit continues to lead earnings and margin growth, thanks to rising demand for offshore seismic data outside of North America.
  • Overall, international operations remain the company’s bulwark, with profit margins at a three-year high.
  • North American operations remain a weak spot, as low natural gas prices keep demand for pressure-pumping services anemic and the market continues to experience excess hydraulic horsepower capacity.

Leading oil-field services provider Schlumberger reported third-quarter revenue growth of 1.5 percent and operating-income growth of 3 percent sequentially, building on a strong second quarter and continuing the company’s superior performance versus its peers. Profits from continuing operations rose 12.5 percent year over year.

Schlumberger performed particularly well outside of North America, as its reservoir characterization unit is operating on all cylinders internationally. Reservoir characterization revenue rose 4.8 percentage points sequentially to $2.9 billion, with pretax operating profit margins up 58 basis points to 28.8 percent — an impressive increase after a significant jump in the second quarter.

As opposed to actual drilling and production operations, reservoir characterization involves the early stages of an exploration and production company’s exploitation of new oil and gas fields. Schlumberger’s industry-leading technologies help clients find, measure and analyze their assets before committing to the enormous investment needed to get the oil and gas out of the ground. As exploration and production has increasingly moved to harder-to-reach areas – especially offshore, in deepwater areas – companies seem to be opting for Schlumberger’s expertise and technologies at the expense of some of its competitors, increasing the company’s dominance in this sector.

Within the reservoir characterization group, Schlumberger’s WesternGeco unit has posted especially strong results in recent quarters. The unit is a leader in offshore seismic analysis, using specialized equipment that bounces sound and pressure waves off the ocean floor and detects in minute detail the nature of the deepwater formations. WesternGeco then uses proprietary software to provide accurate analysis that is invaluable to exploration & production customers deciding if, where and when to drill.

In the third quarter, Schlumberger executives said, reservoir characterization service capacity remained tight, leading to continued pricing increases; prices are now about 15 percent higher than at year-end 2011. That’s a very good sign for future margin growth, particularly if crude oil prices rise over the next few quarters. WesternGeco’s capacity is almost entirely booked for the fourth quarter, with heavy demand in West Africa and South America and strong interest for North Sea activity next year.

To maintain its technological edge in reservoir characterization, Schlumberger continues to invest in research & development as well as maintaining a high-profile global presence, with 25 labs around the world. In the third quarter, for example, the company opened what it calls the Schlumberger China Petroleum Institute, housing more than 100 technical experts in Beijing to serve the fast-growing Chinese oil and gas industry.

The company also launched a new joint venture with the Chongqing Institute of Geology & Mineral Resources to provide a range of services for exploration and production companies working in the Chinese shale market. And Schlumberger execs said they are building two new seismic vessels and investing heavily in WesternGeco to continue to capitalize on the growing demand for hard-to-reach oil and gas.

Geographically, Schlumberger experienced strong demand for reservoir characterization and drilling services in sub-Saharan Africa and parts of Latin America, particularly Ecuador. In the Middle East and Asia, sales rose 7 percent sequentially thanks to strong demand for a range of services in Saudi Arabia, Oman, United Arab Emirates and Kuwait. Schlumberger also effectively doubled its drilling activity in Iraq and has reassumed its traditional market share and presence there. Growth prospects look strong in China, Australia and in Brazil, where the company has three additional deepwater rigs scheduled to launch operations in the fourth quarter.

While international margins improved 73 basis points to 21.5 percent, North America profit margins declined by 209 basis points to 18.6 percent. The continued weakness in North American hydraulic fracturing (fracking) caused Schlumberger to continue to shut down rigs and lay off workers, as the industry is still experiencing excess hydraulic horsepower capacity. To make matters worse, results from Canada were slacker than expected.

One North American bright spot: the Gulf of Mexico was somewhat stronger than expected, thanks to continued recovery from Hurricane Isaac, and management expressed optimism that seismic services will pick up there in the coming quarters.

Schlumberger also reiterated its commitment to expanding smaller contracts around the world, boosting revenue by cross-selling more services in countries where it already operates. As CEO Paal Kibsgaard explained on the call, “If you look at operations internationally today, we operate in over 80 countries and we have 17 product lines. But in 50 percent of these countries, we only have 50 percent of our product lines present. So I would say that we still have a lot of runway in terms of growth in per-market penetration.”

The Verdict

Schlumberger’s excellent third-quarter earnings report is further confirmation that this company has executed well in a less-than-optimum environment for energy services and is teed up for stronger growth as rising oil prices encourage investment in exploration & production, particularly in the international markets and in reservoir capacity services for difficult-to-reach oil and gas fields – a growth area in which Schlumberger excels.

The good news for investors is that Schlumberger continues to trade at reasonable valuation – in fact, its share price is attractive relative to its long-term prospects. Trading at around 15 times analysts’ consensus estimate for 2013, Schlumberger is a bargain. Buy Schlumberger up to 100.

 

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