There is no better way to get a feel for the direction of the oil market than to listen in on the conference calls of major oil-services companies. With clients across the globe ranging from the giant national oil companies to the small mom-and-pop operations, they are well placed to take the pulse of the industry.
Also, for investors, it can be incredibly helpful to listen in on these calls to better understand their complex operations. Case in point: Baker Hughes, a GE Company (NYSE:BKR). (We'll refer to it as BHGE from here on out because, frankly, it's an awful name).
The merger of oil services firm Baker Hughes with General Electric's oil-field equipment and digital-services business has made one of the most complex oil-services firms, touching many more parts of the oil and gas value chain than its peers.
On BHGE's most recent conference call, CEO Lorenzo Simonelli highlighted some crucial things about both its business and the overall oil and gas market that investors should know. Here are three snippets that really stood out on the call.
1. BHGE is not affected by the shale slowdown like other companies
In the second half of the year, there was a noticeable slowdown in oil patch activity. Much of that was initially attributed to a lack of infrastructure. Pipelines in oil-producing regions such as the Permian Basin were filled to the brim, and production was outpacing the ability to move it to a refinery or an export facility.
Instead of fighting for pipeline space and taking a regional discount, many producers elected to stop completing wells. As a result, many oil services companies saw sharp declines in demand, especially for services related to fracking and completing wells. Oil services peer Halliburton admitted as much on its conference call, and frack sand producers reported sharp declines in sales prices.
When discussing this portion of the market, though, Simonelli explained that his company wasn't nearly as affected by this slowdown: "We see softness in frack-related completions activity as the North American pressure pumping market weakens into the fourth quarter. Outside of our minority investment in [pressure-pumping company] BJ Services, we are not materially impacted by the current challenges in the North American pressure pumping market."
Pressure pumping is the fracking portion of a shale well. Without much exposure to this particular portion of the U.S. onshore market, BHGE's results weren't nearly as affected as were others.
2. Even at today's prices, offshore is becoming competitive
Back when oil prices started slipping in 2014 from $100 a barrel, the assumption was that many offshore oil and gas developments would become uneconomical. That theory seemed to play out as many producers terminated contracts with rig companies and tabled many offshore development projects.
The thing is, those companies didn't abandon those developments entirely. Instead, many went back to the drawing board to see if they could produce from those fields for much less. According to Simonelli, those cost-saving efforts have really paid off, and many of those seemingly expensive offshore resources can be accessed at much lower prices today:
[W]e know our customers are still looking for a better and more sustainable economic model for offshore. The competition from shale and other sources of energy require higher certainty and low overall costs to make large capital-intensive offshore projects competitive in the long run.
The average break-even cost for unsanctioned deepwater wells is between $45 to $52 per barrel. While development break-even costs have come down significantly over the past couple of years, the industry itself has more to do. We need to continue to operate faster; reduce cost; and drive a better, sustainable economic model in our offshore. Our customers need it and expect it.
This statement goes to show that offshore oil and gas isn't going to completely disappear anytime soon. Break-even prices below $50 a barrel make many offshore projects competitive with most other oil sources today and will likely spur development.
3. LNG is a massive opportunity over the next few years
Liquefied natural gas (LNG) has been one of the fastest growing segments of the oil and gas industry over the past several years. In fact, the growth has exceeded expectations. Coming into 2018, there were concerns that too many LNG export facilities were becoming operational and there was going to be an oversupply. That hasn't been the case, though, as Simonelli explained that there was more pent-up demand for LNG than originally anticipated:
Global LNG demand has remained robust through 2018. Chinese imports are up 30%, and South Korea and India have both grown over 6% year over year. Given the strong global demand growth and current landed Asian spot prices over $10 [per million BTU], we are seeing more confidence from our customers to move ahead with their projects.
There are two significant factors driving LNG demand. The first is price. Although $10 per million BTU may sound absurd in the U.S., where shale gas has driven the cost for gas to less than a third of that price, in many Asian nations, that is well below what they were previously paying for gas or other energy sources.
The second is that natural gas is a cleaner energy source than coal, and it is relatively easy to switch from coal to gas for electricity generation. China specifically has made an effort to improve air quality in urban areas by switching electric power generation from coal to gas.
Because demand for LNG has been greater than initial forecasts, BHGE is expecting an additional 65 million tons of export capacity to be green-lighted by producers between now and 2020. For reference, total LNG trade in 2017 was 293 million tons.
Headwinds today, but catalysts tomorrow
Keep in mind that many of these comments were before this recent price crash for crude oil, so some of the things Simonelli said on the call may not hold as much water as they once did. Overall, though, oil demand is still increasing, and we will need to meet that demand with new supply regardless of price.
For oil services companies like BHGE and others, additional activity should help to boost revenue and increase margins, but wild price swings will likely keep any of these companies from making fat profits, as they did pre-2014.
The encouraging thing in these statements is that offshore and LNG are on the upswing. These segments are higher-price-tag businesses that require equipment and services BHGE provides. If the company can capture considerable business from these two segments, it should help the company close the profitability gap between it and its larger peers. The only way to do that, though, is for management to execute well over the next few years.