How to Profit From the Oil Exploration Boom

Oil companies are set to spend $1 trillion on oil exploration during 2017 -- here are three ways to play the trend.

Rupert Hargreaves
Rupert Hargreaves
Jul 18, 2014 at 2:41PM
Energy, Materials, and Utilities

According to current figures, the amount spent on oil exploration is heading to a record $1 trillion by 2017. However, despite this lofty figure, top players are actually struggling to find enough conventional oil. What's more, majors are coming under pressure from investors to cut spending and boost profits, as well as replace declining onshore and offshore oil deposits.

It is generally becoming harder to find conventional oil reserves in size, with only a few mega oil fields discovered during the past few decades. According to insiders today we consume 33 billion barrels of oil per year and are discovering 10 billion-20 billion barrels at most.

But oil companies are still under pressure to increase reserves, and this is what's driving higher levels of exploration spending. Exploration and production spending has risen four-fold since 2000, despite the lack of discoveries, mainly due to a rise in material and services prices.

Great news for some
All in all, this is great news for oil service companies. The rising demand for oil, lack of conventional discoveries and rising service prices, puts service companies like Schlumberger (NYSE:SLB), Halliburton (NYSE:HAL), and Weatherford International (NYSE:WTI) in a great position to profit.

Schlumberger's management believes that the company is in a perfect position to ride this wave of capital spending. Indeed, management recently told investors that they believe the company has potential to drive earnings per share up to $9 to $10 by 2017. This is a lofty target, the figure is almost 85% above the figure reported for 2013, a compounded annual growth rate of 17%-20% until 2017.

The company hopes to achieve this through revenue growth, profit margin expansion, and share repurchases. Further, management is predicting a rise in return on capital employed from 16% to more than 20% over the period; around 75% of earnings will be converted into free cash flow.

Actually, these lofty forecasts are behind the $168 price target recent placed on the company's shares by analysts at Morgan Stanley. You can read about how analysts arrived at this lofty price target here.

Huge new markets
Hal has not issued such lofty earnings guidance as Schlumberger. That's not to say that Halliburton won't see its earnings rocket over the next few years. Halliburton recently impressed the market with the revelation that it was forming a joint venture with PT Energy Group, focused on hydraulic fracturing and production enhancement services in Xinjiang, China. 

This is Halliburton's first joint venture for hydraulic fracturing services in China and a potentially game-changing deal for the company. SPT Energy Group has been working within the Xinjiang region of China for more than two decades. The company's key asset/development is the Tarim oilfield, which Halliburton and SPT have been working on together for the past seven years.

Over the next decade the Tarim oilfield will see explosive growth. Estimates predict that by 2025 total production from the field is expected to jump to 50 million tons, while total throughout Xinjiang province is expected to reach 100 million tons, one third of China's total oil and gas output -- a huge deal for Halliburton.

Turnaround play
Then there's Weatherford, a restructuring play that has just offloaded its Venezuelan land rig operations to Russia's Rosneft for $500 million in cash. This is yet another disposal in Weatherford's long-term restructuring and rebuilding plan after the company fell afoul of its own ambitions by expanding too fast.

Over ten years the company made more than 100 debt-funded acquisitions, which it is now being forced to offload in order to pay down debt. Weatherford is planning $500 million to $1 billion of asset sales this year as well as laying off 10% of its work force. More detail on Weatherford's comeback plans can be found here.

The bottom line
So all in all, Weatherford, Halliburton, and Schlumberger are all in the perfect position to profit over the next three years as oil exploration surges. The rise in spending should help accelerate Weatherford's recovery, while Halliburton will profit from its exposure to China and Schlumberger will benefit from its global footprint and reputation.

Oil services have been a profitable area to be invested in over the last few years, and it looks as if this is set to continue.