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Halliburton Company: Our Customers Will Soon Face a Drill or Die Future

Oil-field service kingpin Schlumberger sees two clear trends emerging : Oil prices will rebound in 2016, but oil-field service activity will not. That's largely due to Schlumberger's view that drillers will begin to hoard cash when oil prices rebound and, in doing so, will push back the oil-field service activity rebound until 2017. That said, Halliburton made it clear that it sees something entirely different , which is that oil and gas activity will rebound right alongside oil prices. That's because it believes that if its customers don't drill, then they'd have to dismantle the growth-focused companies they've spent billions to build.

Drill or die

CEO Dave Lesar elaborated on this view during the company's third-quarter conference call after an analyst asked if $60 oil would be enough to drive a recovery in drilling activity. In response, Lesar said:

I think you can ... argue all the macroeconomics, where is the breakeven price point. [But] I think there's really actually a different way you need to think about the customer base in North America, especially the independent customer base. And that's essentially with the high decline curves that exist on these unconventional plays, they are really in drill or die mode. So if you go a year without drilling a well, and your production starts to turnover, you are going to have to start drilling or you are going to have to take your infrastructure apart that you've built up as a company.

Lesar believes that drillers are being conservative right now, but they can't remain this conservative forever because shale production declines steeply if not enough wells are drilled. A company like EXCO Resources is a perfect example of this. Over the past year, EXCO Resources' production has declined 6% largely due to the fact that it isn't completing enough wells to keep production flat. It's a target that will become even harder to hit after the company recently slashed its capital expenditures spending by $100 million to just $70 million through the first six months of next year. That spending rate is insufficient for the long term, suggesting that if EXCO Resources doesn't start to drill more wells, its production will trail off quite steeply.

Once production starts to meaningfully decline it makes the infrastructure these companies built up, such as future drilling inventory or long-term, fee-based takeaway contracts with midstream companies, much less valuable to that company. Given this backdrop, Lesar continued by saying:

So I think that as we get to the end of the year, if these guys have money, they are going to drill it up, and that's just the fact that it is. Now, if oil is at $60, I think the banks will be more comfortable with extending lines of credit with the debt positions that are there, but I think that the real key is going to be the production declines you see, and when these companies get to the point where they have to start drilling or they have to start dismantling their companies, and they are not going to want to do that.

In other words, in order to keep their companies intact, Lesar believes that drillers would, contrary to what Schlumberger thinks, drill instead of using that cash for other options such as paying down debt. He also believes that banks will be lenient, especially if oil is north of $60 a barrel by the end of next year, which isn't all that of a stretch given how lenient banks have been during the downturn . Given that leniency, drillers won't need to reduce leverage just to appease the banks.

Investor takeaway

Because so many shale producers are in a drill-or-die mode hoarding cash is not an option. That's why Halliburton expects them to reinvest any excess into new wells because the current investment rate isn't going to keep production flat forever. Not only that, but a lot of producers have assets -- such as land and infrastructure -- that would need to be dismantled if not used because the internal value would erode away and that's not something producers would want to see if they have the money to prevent that from happening.

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The article Halliburton Company: Our Customers Will Soon Face a Drill or Die Future originally appeared on Fool.com.

Matt DiLallo has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Halliburton. Try any of our Foolish newsletter services free for 30 days . We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy .

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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