Navigating the most severe downturn in decades

Schlumberger is navigating through the current downturn by balancing its margin and market share, stated Patrick Schorn, President Operations, Schlumberger while speaking in the 5th Annual Ultimate Energy Conference, New York, held in December 2015. Excerpts from his presentation:

It is clear that the current downturn is driven by supply, due to high levels of marketed supply from Middle Eastern OPEC together with a dramatic increase in production from unconventional resources in North America. This combination has outstripped growth in demand and raised stocks to record levels, driving prices significantly lower and cutting industry investment to unsustainable levels that are already leading to flattening production. Once a second year of falling investment takes hold, we expect flattening production to become falling production as decline rates dominate.

There is however one major difference between the crash of 1986, and that of today. Thirty years ago, the rapid development of new sources of conventional oil production in the North Sea, Mexico and Alaska led to OPEC spare capacity of more than 10 million bbl/d. Today, spare capacity is about 3 million bbl/d as marketed supply reduces available spare capacity.

In spite of a very different crude oil supply mix with the world’s largest consumer now capable of meeting its needs to a much greater extent than at any time in the past 30 years, we believe that two consecutive years of reducing investment will lay the foundations for a faster recovery than some observers are suggesting. Service companies have typically assigned technical assets to individual operating locations whose activity levels can vary considerably. Asset utilization has varied as activity rises and falls, and projects accelerate and decelerate. This has often resulted in asset underutilization that is reflected in higher than necessary capital investment and in higher depreciation.

By increasing asset utilization, we can improve capital efficiency. As part of the transformation programme, we have reassigned equipment from locations to Areas to give flexibility to move equipment more easily to meet changing activity, and to idle equipment when necessary.

This translates to lower capital investment as a percentage of revenue without slowing delivery of new technologies into the marketplace. It takes time for such actions to show up in the numbers, but our 2015 estimates already point to lowering capex, with lower depreciation to follow.

Improving capital efficiency also permits us to manage idle assets centrally. This is the case for our pressure pumping fleet, which is tracked and idled accordingly to keep only the right number in the field to match activity. We have also expanded idle asset programmes to other business lines, including Drilling & Measurements, Coiled Tubing and Wireline.

As part of the transformation programme and the continued decline of market conditions, we have initiated a restructuring of our global manufacturing and distribution network. This will result in a charge in the fourth quarter. Additionally, we will be conducting an asset impairment test in the fourth quarter.

A second transformation initiative is reliability, where we are already halfway to our tenfold reduction goal. Approximately 25 per cent of our issues stem from product reliability. Here, we have reduced our non-productive time rate by 80 per cent, but the next challenge is to reduce process reliability.

Last year we focused on the importance of procedures to improve the consistency of our performance. This initiative uses standard work instructions, or checklists, to improve reliability regardless of operating environment. Within our Wireline product line we have already introduced standard instructions covering 135 distinct services.

Looking now at workforce productivity, we have already made considerable progress through multiskilling where field crews can perform services from multiple product lines in addition to making greater use of remote operations centers.

In Mexico, the combination of multiskilled crews and remote centers enabled well site supervisors to run directional drilling tools on location, allowing the directional drillers to move from the rig site to a remote command center where they can oversee multiple rigs simultaneously. Since the start of this initiative, more than 180 wells have been drilled in this way and rig crews have been reduced by an average of 35 per cent.

Both international and national oil companies have been among the early adopters of the multiskilled approach. As we gain better understanding of the value that this approach brings, we are able to engage with customers to adapt contract terms to reflect the value achieved.

A third initiative in crew modularity assigns crews to specific types of operation that they can perform in an approach to increase efficiency through specialization. In reducing support costs, our experience has highlighted the potential of the improvements possible. There are two components.

First, when we acquired Smith International in 2010, we established a complete shared-service organization. This began an extensive programme to streamline internal support processes and control addition of support staff more rigidly. As a result, our support organization has actually decreased in size during the years of growth.

Second, our early reaction to the current downturn has enabled us to reduce both direct and support headcount. This has been enabled by the agility of our field management team underpinned by their confidence in the deployment of the transformation program. As a result, while revenue grew by a factor of nearly four between 2004 and the peak in 2014, we were able to limit field and support headcount growth to factors of approximately three and two respectively.

Another key transformation initiative has been to reduce working capital, as a percentage of revenue, by 25 per cent. Progress has been made more difficult by the downturn in which some companies’ budget reductions are translating to late payments and increased DSO. This has recently increased our working capital relative to revenue, thereby slowing progress towards our goal even though working capital performance remains better that the previous years’ averages.

There are, however, a number of things that we do control. Centralizing assets, for example, also centralizes maintenance, which has a direct influence on the level of inventory that we need to carry.

In a similar manner, the efficiency gains and the experience acquired in supply chain logistics have enabled introduction of worldwide distribution centers that deliver required inventory using the “just-in-time” model of other high-technology industries. Our transformation is a long-term programme. Each individual initiative brings benefits over time, and each brings learning experiences that are leveraged by those that follow.

It took us seven years to realize the full benefits of the transformation of our engineering and manufacturing organization, a change that began in 2007. Armed with the experience we have gained in this and other components of the program as well as through each successful deployment, we are more and more confident in our ability to accelerate individual programs within our overall transformation programme.

If I were to describe overall progress I would say that we are close to halfway towards our goals. The transformation programme is also focused on the delivery of new technologies and business models that involve greater integration. Within these areas, we expect activities with increasing integration to exceed 30 per cent of revenue at increased profitability, and new technologies at premium pricing to contribute more than 25 per cent of our revenue by 2017.

Integration revenue is increasing as customers seek new ways of working as their own resources become stretched. Lump-sum turnkey work, for example is growing, and we are also working on a number of new SPM-type opportunities. New technology sales have been robust, and their resilience underpins our belief in the value of technology in improving efficiency, and increasing reliability.

As one example, the third quarter saw total BroadBand pressure pumping stage count reach almost 12,000, and pass the milestone of generating more than $1 billion in cumulative revenue since its introduction in late 2013. This performance is more than three times the success of HiWAY flow channel fracturing technology, which already represented a step change in new product introduction.

In other fields, the GeoSphere well placement service has been used to land an increasing number of deviated and extended-reach wells more accurately in the reservoir. We have completed more than 400 runs with the technology, demand is growing and pricing remains at a premium. In completions, where the unique Manara intelligent completions system has met considerable success, further sales have been made as the benefits of the technology become more apparent. And in unconventional resource development, we have set more than 1,000 of the highly versatile Infinity dissolvable plugs that decrease the time and cost required to complete such wells.

Let’s see how transformation program initiatives bring value to customers through an actual example. The Ivar Aasen field was discovered in 2008 in the North Sea in 112m of water and is operated by Det Norske. In discussing how we could best meet the customer’s needs, we chose to propose service delivery based on an integrated model that can assign human resources and skills within a dedicated project organization to deploy the best available technology through established workflows and processes.

In working well ahead of the project start date, it became much easier to integrate services and optimize the resources needed between the rig, the shore base in Trondheim, and the remote operations center in Stavanger. A unique collaboration model based on the colocation of Det Norske and Schlumberger project teams will enable a highly efficient approach to staffing levels through multiskilling, and an open reception to new fit-for-purpose technologies.

Among these, GeoSphere reservoir mapping technology has provided accurate well placement to increase footage in the payzone and mitigate drilling risks while a dedicated M-I SWACO laboratory helped ensure that drilling and completion fluids were compatible with the formations encountered.

Coupled with excellence in execution, the project yielded two of the fastest drilled and quickest completed wells in the public Rushmore database. On the faster of the two wells, the total saving enabled by this innovative approach and backed by the transformation program led to an almost halving of the time taken to drill and complete the well compared to the AFE budget.

Let’s now turn to our current outlook for both North America and the international Areas. In the US, the land rig count that breached 900 on $60-dollar WTI at the end of the second quarter quickly declined to a new low as commodity prices fell significantly lower. We now believe that a bottom well below the current low 700s is likely before the downturn ends with a 10-12 per cent decline by the end of the fourth quarter.

In this market, our approach has been to concentrate activity in core areas and for key customers while stacking equipment rather than operate at a loss. However, when we have decided to pursue work at less-than-commercial prices, we have viewed it as an investment decision, rather than as an attempt to simply buy share.

This has led us to move equipment and crews from basin to basin as we balance market share with margin and pursue new technology opportunities. We believe that this balance has helped ensure our strength in overall profitability in the North American market while continuing to maintain our overall infrastructure and long-term service capacity. In addition, we expect to be able to keep our margins above those of previous downturns.

In the current market, however, we also expect year-end product, software and multiclient sales to be weak and unable to offset seasonal weaknesses as we enter winter in the northern hemisphere. It has also become clear that any recovery in activity has been pushed out in time, although light tight oil production in North America is clearly on the decline.

There is a considerable inventory of drilled but uncompleted wells in unconventional resource basins that can rapidly be brought on production. As the price of WTI rises, these will be completed to add production before any significant rise in drilling activity is required.

We do not therefore expect to see any meaningful increase in service pricing traction until the vast pool of idle service company assets has been considerably reduced. Turning now to the international Areas, we have not been immune to significant pricing discussions with our customers, although when these have led to significant reductions we have generally been able to offset them to a certain degree through actions on cost management or through transformation initiatives.

As we approach the end of the year, we expect that year-end sales of completion products, software licenses and multiclient seismic data sets in all Areas will be weaker than usual and will fail to offset seasonally lower activity as the northern hemisphere winter sets in. Among the individual Areas, activity in the Middle East and in Russia remains robust, particularly in Saudi Arabia, the United Arab Emirates and Kuwait but operations in these and other Areas are challenged by significant pricing concessions, a changing revenue mix, and project delays that are combining to drive both revenue and margin lower.

In these markets our overall approach continues to focus on strong customer service and operational integrity, while driving to link further rounds of pricing concessions to ways of working with customers to find more efficient ways of operating in order to lower total cost. At the same time, the benefits of the transformation programme are enabling us to protect margin performance.

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