Drilling Shifts From Gas Toward Liquids-Rich Areas - Philip H. Weiss - Argus Research Company

67 WALL STREET, New York - March 5, 2012 - The Wall Street Transcript has just published its Oil & Gas: Drilling Equipment and Services Report offering a timely review of the sector to serious investors and industry executives. This Oil & Gas: Drilling Equipment and Services Report feature contains expert industry commentary through in-depth interviews with public company CEOs, Equity Analysts and Money Managers. The full issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.

Topics covered: Strong Demand for Higher-Specification Rigs - Drilling Shift From Gas to Liquids - Offshore Deepwater Oil Discoveries - Shale Drilling Dynamics

Companies include: Aker Kvaerner (AKSO.OL); Cameron International (CAM); Anadarko (APC) and many more.

In the following brief excerpt from the Oil & Gas: Drilling Equipment and Services Report, interviewees discuss the outlook for the sector and for investors.

PHILIP H. WEISS is a Senior Analyst covering the energy sector at Argus Research Company. Prior to joining Argus, he worked as a Senior Institutional Writer for T. Rowe Price, where he wrote commentary for investment strategies and white papers on investment-related topics. Mr. Weiss also worked as a Writer, Analyst and Co-Portfolio Manager for The Motley Fool's Cash-King Portfolio and Rule Maker Portfolio. There, Mr. Weiss wrote mainly company-focused reports and columns discussing accounting, financial and earnings manipulation. He began his career with Deloitte & Touche LLP, where he specialized in international tax research and planning. Subsequently, he worked for Fortune 500 firms in the health care and business-to-business industries. Mr. Weiss holds a B.S. from Rutgers University. He is a CFA Charterholder, a CPA in New Jersey and a member of the Baltimore Security Analysts Society.

TWST: Would you comment on the headlines about drilling activity and gas prices being down, and there were some about cutbacks as well. What do they mean for the drilling equipment companies?

Mr. Weiss: I think to a large extent - at least if we think about the U.S. first, because that's where the cutbacks are - it means we're having a shift more than anything else, so that a lot of the rigs and a lot of the service personnel that were doing gas-centric activity are now moving more and more towards liquids. There is this whole push to liquids - rush to liquids, however you want to characterize it - going on. And so that's what's happening, is that resources are being reallocated more towards the liquids-rich activity and away from the dry gas basins.

TWST: How has this shift affected pricing?

Mr. Weiss: What it's done is, I think, if we think about the rig fleet, a lot of it is old, a lot of it was built in the 1970s and 1980s, so what we have is, in the second half of last year, we probably had about 200 rigs that were retired, and those were rigs that could only drill vertically. They didn't have - they weren't electric rigs, they didn't have the right configuration to be drilling in the horizontal shale plays. So those rigs were retired or not going to work, and so what happens is the high-end rigs that could do the drilling that we need today, there are some of those being built. The prices on those have gone up from where they were. Right now, there may not be a lot more room for them, for the pricing to go up, but certainly there's not a surplus of them either. If we think about a company like Helmerich & Payne (HP) and their order book, they are right now, they can build four rigs a month, and they have basically filled all their slots for the rest of the year with orders. I mean, they got customers that are willing to wait into the end of this year, or maybe even into 2013 to get their rigs.

TWST: What's going on from a technology point of view? Is there anything new coming along that's going to change the industry much?

Mr. Weiss: From a technology point of view, I think the biggest thing that I see is just the increased use of enhanced oil-recovery techniques, and things like that, that help us get more out of the wells. So if you think about the typical well, hardly we've recovered 30% to 35% of the resource, and so now we have places where we're pushing to 40% or 45%. Or if you think about some of the unconventional gas wells or shale wells, recovery factors start out really well, and it's easier to ramp them up. So I think part of it is learning - to me, right now - as much as it is technology. So in other words, we have to learn what's the optimal way to drill this well, what's the optimal depth, what's the optimal length, what's the optimal number of frac stages and things like that are all becoming increasingly important, and we don't have all that information.I think that Schlumberger (SLB) is, kind of, characterizes drilling into almost like you're drilling blindly, and with more knowledge and as time goes, we'll get better and better at what we're doing, and I think that's still what's going on. So you have companies like Exxon (XOM) that are taking it really slow, and then you have some of the pure E&Ps that are taking it much faster because they need the cash flow. They are not as financially strong as a company like Exxon, but they're really eager to get what they can so that they can make sure they can stay afloat.

TWST: What's going on offshore?

Mr. Weiss: What's going on on offshore is, I think the deepwater is a really exciting place. I think there's lots of potential in deepwater. We're finding new basins there. It's not just the Gulf of Mexico; it's not just Brazil. We have West Africa, we have North Africa, we have in Asia the number of basins in which we're able to search and that we are finding oil is increasing - or gas in Mozambique and in Israel. We've found big supplies in natural gas, and also Southern Australia. So there was a recent announcement in Angola and North Africa which was more oil base, so they're refining oil and gas in places that traditionally we did, and there is the thought, if you go back to kind of when the world really began before the tectonic plate shifted, Brazil and Africa were next to each other, and there has been a view that some companies have taken that whatever we have found in Brazil was likely to be found off the coast of West Africa, and we're starting to see that is the case. In Ghana, we've had some things with Anadarko (APC) and Tullow Oil (TLW.L) with the Jubilee and some other prospects, and even the recent announcements that we had just in the last week or two about Angola made it sound very similar to some of the presalt stuff that we've seen in Brazil. So I think that the deepwater is a really exciting place and there's a lot of potential. We're having rigs being built, and what we're finding too is that in light - the one negative for this space I think is in the post-Macondo world where rigs are having to be updated and pass higher standards in order to go to work. A lot of them are getting new blowout preventers and other equipment is being updated, but some rigs are having a tougher time - some of the older rigs. And so that I think a company like National Oilwell Varco (NOV) was poised to benefit because I think we're in kind of the middle innings of a new build cycle where companies like Noble (NE) had been building some rigs on spec. There's other companies that are building rigs too, but then companies like Transocean (RIG) really aren't building right now. But I think that there's a lot of opportunity for growth in the offshore space, even the jackup market has become much stronger that it was.

TWST: Why is the jackup market strong at this point?

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