Schlumberger Limiteds CEO Calls the Bottom, but Still Sees Challenges Ahead

By Markets Fool.com

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Source: Flickr userJustin Vidamo.

The worst, it would appear, is over for the oil market. At least that's the conclusion one could draw after reading through comments made by Schlumberger Limited CEO Paal Kibsgaard on the company's second-quarter conference call. Here's a closer look at his comments on the company's current view of the oil market.

We can't see much, but what we see is positive
Kibsgaard started off his comments on the oil market by saying that, "visibility still remains limited, however, some tentative signs of change are emerging." He then spends some time going through those signs, first looking at the overall supply and demand picture in the oil market and then what that means for the industry.

In commenting on supply, Kibsgaard noted that,

[...] The global market share battle between OPEC and the high-cost producers is still playing out with the first signs of flattening North America production starting to show. Within OPEC, production in the second quarter was at the highest level in three years as marketed supply was again increased at the expense of lower core spare capacity, which in June dropped to 2.3 million barrels per day.

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He first notes that OPEC producers, namely Saudi Arabia, are currently pumping out oil at nearly max capacity. In fact, OPEC's spare capacity is down to just 2.3 million barrels per day, which is a concern because if there were to be a big supply disruption it could lead to short-term super spike in oil prices as OPEC wouldn't have the means to make up the difference.

Kibsgaard then turned to supply from the rest of the world noting that,

In addition to this, non-NAM (North America), non-OPEC production weakened in the first half of the year by 650,000 barrels per day driven by Brazil and Mexico with a further softening expected in the second half of the year as the lower investment levels in many regions start to take full effect.

In other words, oil supplies from around the world are falling with Brazil and Mexico pumping out much less oil than last year as a result of lower spending on new wells. This, combined with lower spending in the U.S. and Canada, is resulting in lower global oil production outside of what OPEC is supplying. Kibsgaard continues by pointing out that,

Against these supply figures, global oil demand growth continues to strengthen with the IEA having revised its 2015 estimate up to 1.4 million barrels per day during the second quarter. . (Emphasis added)

What he is pointing out is that while OPEC is pumping out as much oil as it can, the rest of the world is pulling back. At the same time global demand growth is accelerating, all of which suggests that the supply glut is nearing an end. In fact, he suggests that balance is just a couple of quarters away.

What this means for the oil industry
Kibsgaard then turns his attention to the oil industry and notes that so far spending on exploration and production is down 35% in North America. However, he then proclaimed that,

We do believe that the North American rig count has now reached bottom, but that we will only see a slow increase in drilling and completion activity in the second half of the year, which will not make any material dent in the massive overcapacity that has been created. This again means that there would be little to no improvement in pricing levels, and hence, the market will still remain very challenging for the foreseeable future.

What he's saying here is that the U.S. rig count has likely reached bottom, however, a recovery in drilling activity will be slow. Further, given the fact that there is so much idle drilling rig capacity, service pricing will remain weak for a while, which is a challenge for its business.

That being said, while the slow recovery will be a challenge to oilfield service companies like Schlumberger, he sees a much better outlook for oil and gas producers. He said that,

[...] However, we do expect that any improvement in oil prices in the second half of the year will potentially lead to increased investment levels in 2016 both for exploration and development-related activity.

In other words, he sees the potential for a second half rally in oil prices, which could lead to an increase in oil and gas drilling budgets as we head into 2016. That increase in spending and activity levels will eventually trickle down to Schlumberger via increased revenue and earnings.

Investor takeaway
Schlumberger's CEO is basically calling a bottom in the oil market. He believes that supply and demand will balance out in the second half of this year, which should lead to higher oil prices. Further, he also believes that the U.S. rig count has bottomed. However, he doesn't expect that to have much impact on activity levels this year. That said, he does believe that oil companies will boost their capex budgets next year, which will drive higher oilfield service volumes and could potentially lead to an acceleration in Schlumberger's revenue and earnings.

The article Schlumberger Limiteds CEO Calls the Bottom, but Still Sees Challenges Ahead originally appeared on Fool.com.

Matt DiLallo has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.