2016 to be brutal. Then, dreams of “potential spike in oil prices”
An engineer in the oil industry, who’d sold his house in Houston and bailed out after finding work in another state, just told me this:
A young civil engineer that I am working with is looking for more permanent, stable work. He talked with a head hunter today. The head hunter suggested that the young engineer stay where he is. He said he had 30,000 resumes in his database of engineers who were looking for work right now. Just amazing. I don’t know how many engineers there are in Houston. 200,000? 300,000?
I then called a friend of mine who works for Jacobs. Well, he no longer works there. He was laid off. A very seasoned engineer. He said he was glad I left Houston and that things were looking grim. Fluor and Technip had also laid off a lot of engineers. He said he heard that Fluor, which goes after megaprojects, had laid off 30 Process Engineers – which is what I am.
This is a bad indication. We are the first line of engineers on a project. Then, as the project moves forward, instrument, estimating, electrical, and structural engineers are brought on. If process engineers (chemical engineers) aren’t being used, that means there are fewer projects coming up to keep them busy.
So what happened to the hopes for a recovery?
Three months ago, Paal Kibsgaard, CEO of oil-field services giant Schlumberger, figured the oil industry in the US had bottomed out. But on Friday during the earnings call, he changed his tune.
The business environment “clearly got worsened in the third quarter,” he said. It’s going to get even worse in the US in the fourth quarter. And 2016 is going to be very tough. He doesn’t see a recovery until 2017.
As other players in the sector, Schlumberger was hit hard: global revenues dropped 33% year-over year; in North America, revenues plunged 47%, “as customer budget cuts and service pricing erosion impacted results,” he said, “still in the midst of what may well turn out to be the most severe downturn in several decades….”
So, in this worsening environment, the company will “take further action”:
- M&A, funded by Schlumberger’s free cash flow – more than $1.7 billion in the third quarter, Kibsgaard pointed out.
- And layoffs. To account for this “further round of capacity and overhead reductions” and “additional headcount reductions,” there will be another routine one-time restructuring charge in the fourth quarter.
He sees “two clear trends”: First, fears in the global oil market of reduced growth in China coinciding with fears of additional oil exports by Iran. And second, “additional reductions in activity and further pressure on service pricing.”
Oil and gas drillers, a year into the oil bust, are “now exhausting available cash flow.” So they’re cutting their exploration and production budgets for 2016 even further – the second year in a row of cuts, “which is the first time since the 1986 downturn…”
Most of the small companies are free-cash-flow negative. They are under significant financial stress, and maybe some of them will go bankrupt in the coming quarters or in the coming year.
But there is still massive overcapacity and even these small companies that go bankrupt will likely be picked up by other investors, and their assets will be returned back into the market. So, I think the overcapacity is going to be with the industry for quite a considerable amount of time.
Now there are new hopes.
He hopes for a “tightening of the supply and demand balance,” as global demand is growing gradually while the draconian cutbacks in investments will eventually “start to take full effect” on oil production. But this isn’t going to happen right away; drillers are taking “more short-term actions to maximize production” – despite the cutback in investment – “which might actually have a negative impact on a long-term recovery.”
I think there is only a limited period that this can be done. While the various players exhaust these type of opportunities, if investments aren’t increased, I think you will see a further acceleration of the drop in production.
As this plays out over time, it is expected to bring up oil prices. But even if prices rise next year, he sees the “increasing likelihood of a timing gap between higher oil prices and a subsequent increase in investment in drilling:
So I think the market is probably overestimating how quickly the industry can respond, whether it’s in North America or internationally. Now, four quarters into very low oil prices, the financial strength of many of our customers has significantly weakened and their appetite to invest is also a bit down. Any improvement in oil prices, I think, is going to go towards strengthening their balance sheet. And then the oil companies will likely assess how sustainable these increases in oil prices are before they start investing.
This creates a delay between higher oil prices and the decision to increase drilling budgets. Once the decision is made to increase budgets, “there is going to be a further delay” before these increased budgets translate into more drilling. And then there’s another delay between more drilling and higher production, he said.
“So I think the market is underestimating how long this period is going to take,” he said. And if this plays out as he envisions, and if drilling doesn’t pick up in time, “we even have an increasing chance of a potential spike in oil prices.”
That’s precisely what everyone has been dreaming about. And they’ve been dreaming about it with regards to US natural gas ever since its price collapsed in 2009.
Now Moody’s, after removing the beaten down energy sector from the equation, comes out and frets about the overall US economy. Read… Moody’s Warns “of Jarring Slowdown” in Jobs, Jumps on Recession Bandwagon