This Oil CEO Sees Uncertainty Ahead

A few months ago, the 2019 outlook for the oil market among service company CEOs was decidedly bullish. Clay Williams, the CEO of oilfield equipment giant National Oilwell Varco (NYSE:NOV), was among those oil bulls. He stated in his company's third-quarter earnings report in late October that "we believe the industry is poised to achieve higher levels of activity in 2019." Others echoed those comments with similarly optimistic tones that higher oil prices throughout most of 2018 would give oil companies the confidence to spend more money in the coming year.

Fast forward roughly 90 days, and the outlook has changed significantly. That's clear from the comments of National Oilwell Varco's CEO on the company's fourth-quarter conference call, in which he gave a glimpse of what he sees ahead.

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Addressing the elephant in the room

Williams started his comments by stating that

Before diving deeper into our fourth quarter results, I want to tackle the question that is on everybody's mind, the outlook for the coming year...but to state the obvious here up front, the outlook is significantly more opaque than it was just 90 days ago. Oil prices declined sharply through the fourth quarter before recovering modestly in recent weeks, aided by the OPEC and Russia production curtailment announcements.

National Oilwell Varco's CEO noted that oil prices have been excruciatingly volatile over the past few months. Oil peaked in early October at slightly more than $86 a barrel for Brent (the global benchmark price) and $76 a barrel for the U.S. benchmark WTI. They would go on to crash roughly 40% from their peaks by the end of December, putting Brent in the low $50s and WTI in the mid $40s. Both, however, have since rebounded off those lows, with WTI recently in the low $50s and Brent about $10 a barrel higher, as production cuts by OPEC, Russia, and Canada have helped start draining off some of the excess inventory that had built up during the fourth quarter.

What this means for 2019

That uptick in the oil market since the start of 2019 helped frame Williams' outlook for what he expects going forward. He stated that

In our view, stability at levels above $50 per barrel for WTI can help maintain oil field activity near current levels in North America or at least help minimize activity declines, while also continuing to incentivize the recovery in international and offshore markets. We believe this provides a plausible backdrop for a scenario where prospects and activity can brighten for NOV throughout the year, particularly if oil prices demonstrate an upward bias from here.

Williams believes that the oil market's recent bounce back above $50 a barrel for WTI is crucial because it will prevent most drillers from cutting spending, since many based their budgets on the cash flows they could produce at $50 a barrel. Meanwhile, with Brent even higher, it should incentivize those companies with international operations to spend more money outside of the U.S. so that they can capture higher oil prices. That leads National Oilwell Varco to believe that 2019 could end up being a solid year for the oilfield services industry, especially if the efforts of OPEC and Russia continue working and push crude prices even higher.

Image source: Getty Images.

"However," Williams continued, "we're managing to the reality that the lingering effects of WTI hitting a 17-month low in December will negatively impact our business, particularly in the first quarter." He noted that some customers pulled orders ahead during the fourth quarter because they appeared as if they "wanted to get equipment into their operations in advance of looming CapEx budget cuts for 2019, and want to report lower CapEx in 2019." That leads him to believe that the first quarter will be a weaker one for his company, since not only did some customers pull orders forward, but NOV also experienced a slowdown in ordering late in the year "as our customers watched oil prices melt down and grew more cautious."

Because of that caution, Williams concluded his view on what's ahead in the oil market by saying that

As we look forward into 2019, candidly, none of us know precisely yet the impact of the sharp oil price downturn. Having been through a few downturns, there's typically a 3- or 4-month lag before there's a meaningful response, but it inevitably moves directionally with oil prices. And as our oil-field service customers look to their E&P customers' spending plans for clues as what to invest in, in equipment sets, their mood is very cautious as well.

While many large oil companies have recently reaffirmed their 2019 capital budgets, some smaller ones have started hitting the brakes. WPX Energy (NYSE:WPX), for example, slashed its 2019 spending plan amid the slump in oil prices. WPX Energy had expected to spend between $1.45 billion and $1.65 billion this year and had identified another $250 million to $350 million of additional opportunities it was pursuing. However, with oil prices crashing in recent months, WPX Energy reduced its budget 23% to a range of $1.1 billion to $1.275 billion. It's likely that more drillers will join WPX Energy and tap the brakes to better align spending with anticipated cash flows at lower oil prices, which could impact the oilfield service industry in the first half of 2019.

Expect a bumpy ride for oilfield service stocks

The slump in oil prices during the last few months of 2018 will undoubtedly have an impact on near-term spending in the industry, which will hurt the demand for equipment and services. What's not clear is if the more recent bounceback in oil prices came quickly enough to mute the impact and if crude will continue its upward trend. That uncertainty on the overall direction of the oil market makes oilfield service stocks like National Oilwell Varco less appealing at the moment.