Do National Oil Companies Hold The Keys To Schlumberger’s Future?

National oil companies (NOCs) have been rising in prominence over the last decade, thanks to their growing geographical footprint, increasing capital budgets and expanding exploration and production activities. Considering their control over a bulk of the world’s oil reserves, these companies constitute a critical market for Schlumberger (NYSE: SLB), the worlds largest oil field service firm.

NOCs Are Becoming A Force To Reckon With

National oil companies are either partly or fully owned by national governments and include firms such as Saudi Aramco of Saudi Arabia, Petrobras of Brazil and Malaysia’s PETRONAS. Together, NOCs control about 85% of global proven oil reserves and produced about 55% of the world’s oil in 2010. ^[1] These firms are also increasing their international presence, operating beyond their domestic markets. For instance, Malaysia’s PETRONAS now has interests in over 35 countries.

NOCs are also playing a bigger role in new discoveries. About 32 of the 38 deepwater oil discoveries this year were done by independent and national oil companies. These firms have also been investing significantly in developing their capital assets. National Oil companies and independent oil producers together account for about 75% of capital spending in the oil industry. ^[2]

Growing Ties Between Oil Field Service Firms And NOCs

Many national oil companies require technical support and skilled manpower to aid them in their upstream activities, especially for more complex operations like unconventional plays and deepwater exploration. NOCs have traditionally partnered with big oil companies like BP and Chevron to assist them with these activities, but the deals were not particularly attractive to NOC’s because they often involved extending equity stakes in the projects in return for these services. This is where focus is shifting towards oil field service majors like Schlumberger who provide the technologies and services on a rate basis. The last few years have seen NOCs strengthening their ties with oil field services majors. Schlumberger’s share of revenues from National oil companies has doubled to about 32% since 2002, while its revenues from oil majors was down to about 20 percent from 33%. ^[3]

Schlumberger’s Competitive Advantage In Catering To NOCs

Scale and Geographic Reach: Schlumberger has good access to the international market, with operations in over 85 countries.  The firm derives over two-thirds of its revenues from operations outside the United States. In comparison, Halliburton (NYSE: HAL), its biggest competitor derived just about 40% of its revenues from international operations.

Technical Expertise And Ability To Provide Integrated Services:  With oil prices on the rise and reserves becoming increasingly difficult to access, technological capabilities are becoming paramount. Schlumberger invests about $1 billion in research and development every year, more than double of Halliburton’s spending and almost as much as Exxon Mobil in absolute terms, and almost five times as much as a percentage of revenues. Schlumberger can provide integrated services from seismic solutions used to locate oil reserves, to well completion and production services that span the entire life cycle of the reservoir. These integrated services are particularly attractive to large oil firms since they can potentially reduce management and logistics costs.

Relationships with National Oil Companies: Schlumberger has a good relationship with NOCs like Saudi Aramco and PETRONAS. Besides carrying out contract work for E&P activities, the firm has conducted joint research and development projects with these firms, and also plays a role in helping NOCs develop their talent pools by providing technical training.

Potential Threats

Rising Competition: Given the huge reserves that NOCs control and the potential that they hold to increase production, there is a lot of competition among international oil field service firms to win their business. Additionally, national oil field services companies (wholly or partly owned by NOCs) are also becoming stronger. These firms typically provide mature technologies at a low cost and have strong relationships with the NOCs. ((National Oil Companies Reshape The Playing Field, Bain & Company))

NOCs Are Improving Their Technical Capabilities:  NOCs have been rapidly increasing their research and development initiatives. For instance, Brazil’s Petrobras is investing significantly in developing its deepwater expertise as it seeks to leverage the countries vast offshore reserves. Over the last five years, NOCs have grown their research spending at twice the rate of global oil majors. ^[4] While this may not be a threat in the short run, in the long term it could possibly diminish the value added by firms Schlumberger.

We have a price estimate of about $86 for Schlumberger, which is around 20% ahead of the current market price.

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1. Energy In Brief, US EIA [↩]
2. Analysis: Oil service titans gaining power vs Big Oil, Reuters [↩]
3. ref 2 [↩]
4. ref 3 [↩]