Outlook for Oilfield Services Firms Remains Bullish

Oilfield services companies have had an excellent run over the past year, with shares of Halliburton (HAL 0.34%), Schlumberger (SLB -0.89%), and Baker Hughes (BHI) posting significant gains. Oilfield services companies have benefited from higher capital spending from oil and gas companies. More importantly, the outlook remains bullish even though U.S. and European majors plan to reduce capital spending.

Excellent run
Over the past year, shares of Halliburton have gained nearly 48%. Schlumberger has gained over 30%, while Baker Hughes is up more than 41%. All three stocks have posted significant gains so far this year, easily outperforming the S&P 500. The strong performance of oilfield services companies does not come as a surprise as they have benefited from higher capital spending from oil companies.

In 2013, Halliburton delivered record annual revenue of $29.4 billion, up 3% from the previous year. Baker Hughes also reported record revenue for 2013. Martin Craighead, Chairman and CEO of Baker Hughes, noted that the record revenue in 2013 was driven largely by the Eastern Hemisphere where the company's operations grew 14% compared to 2012. Baker Hughes' Middle East/Asia Pacific segment registered a 24% increase in revenue in 2013. Schlumberger's 2013 revenue also benefited from strong performance in the Middle East and Asia Pacific.

The key question is whether oilfield services firms can continue their excellent run, especially as Western oil majors are now planning to cut capital spending.

Outlook bullish
Lower capital spending could have a negative impact on oilfield services firms' performance, however, as the 2013 results show. The main growth driver for these companies is the Middle East and Asia, and the performance here is expected to remain strong.

In a report on the oilfield services industry, Barclays Capital had noted global exploration and production spending is expected to increase by around 6.1% to a record $723 billion in 2014. According to Barclays, a major part of the spending growth is likely to come from national oil companies in the Middle East and Latin America. This was also noted by Halliburton CEO Dave Lesar in a conference call in January. Lesar said that with the contracts Halliburton has in hand, the company is planning on low double-digit revenue growth for the Eastern Hemisphere led by Saudi Arabia, Iraq, China and Australia. Lesar also expects Eastern Hemisphere margins to improve.

Certainly, the near-term outlook for oilfield services firms remains bullish.

Shale development in China could be another key growth driver
Another key growth driver for oilfield services companies going forward could be shale gas development in China. As I noted in a previous article, China is trying to cut down its coal consumption as it looks to tackle its pollution problems. The country has been looking to increase natural gas' share in the energy mix. However, China has to import expensive LNG at the moment to meet its needs. But that could change as the country has potentially the largest shale gas reserves in the world. So far though, the country has failed to tap into its vast shale gas reserves.

In 2013, China's shale gas production was just 200 million cubic meters, accounting for 0.2% of the country's total natural gas production. Still, China has set itself an ambitious target of producing 6.5 billion cubic meters by 2015. The country's state-owned oil and gas majors have been looking to boost capacity and could possibly meet or even surpass those targets. However, even after doing that, shale gas would account for a fraction of China's natural gas consumption.

Also, developing shale gas in China is much more difficult than in the U.S. due to geology and difficult terrain. This is where major oilfield services firms from the U.S. can come into play. In fact, oilfield services companies are already looking at this area seriously. In July last year, Schlumberger opened a reservoir laboratory in China to provide rock analysis services to support expanding exploration activity in unconventional shale plays. Halliburton has formed a strategic alliance with SPT Energy Group in China.

Given this scenario, the outlook for U.S. oilfield services is robust in the long term as well.