Zacks

Somber Near-Term Outlook for Oil & Gas Equipment Industry

Zacks Equity Research

In This Article:

The Zacks Oil and Gas-Mechanical and Equipment industry comprises companies that provide necessary oilfield equipment, including production machinery, pumps, valves, along with several other drilling appliances like drilling rigs and rig components, to exploration and production companies. These help the upstream players in the extraction of oil from fields, both onshore and offshore.

Let’s take a look at the industry’s three major themes:

  • The oil and gas equipment industry is heavily reliant upon production companies’ capital spending, which is in turn influenced by oil and gas prices. Higher commodity prices boost the spending levels of upstream players, as they can derive more value for their products. Generally, when oil drilling and production becomes profitable for the exploration companies on the back of commodity price uptick, the demand for equipment providers increases and their business prospects also improve. Conversely, if crude prices tumble, the oilfield equipments industry is likely to be one of the first ones to feel the pinch. Notably, oil prices have been dipping into bear-market territory of late, after touching multi-year highs of more than $76 a barrel in early October. Since then, the commodity has plunged more than 30% on fears of oversupply and weakening oil demand. Renewed concerns over economic slowdown and U.S.-China trade tiff may further weaken oil prices. Amid the growing crisis, most of the energy companies are forced to slash their capex in 2019, which may spell further trouble for the oil equipment industry.

  • Oil equipment providers suffered the most during the three-year oil slump since mid 2014, as the top line of the companies belonging to this industry dwindled much quicker than upstream players, courtesy of producers limiting their purchases. However, it’s not just about the commodity prices. Despite crude being on an upward trajectory for most part of 2018 and shale producers reaping profits, the situation has not translated into a rosier scenario for equipment suppliers due to various factors. Notably, during the crude downturn, the upstream players invested in cost-cutting measures to keep drilling activities economical in the low-price environment. Investments in technological advancements, involving pad drilling and rig mobility, have led to efficiency gains for producers but softened revenues for oil equipment companies. Moreover, infrastructural bottlenecks in North America (which accounts for around 40% of the oilfield equipment market) and Canada are contracting drilling activities and hurting equipment providers. Cost inflation, along with labor and equipment shortages are further worsening matters for the oil equipment industry.

  • Oilfield equipment providers are capital-intensive companies and are reeling under heavy debt burden along with lower cash flows. During the downturn, demand for equipment reduced sharply, with various assets getting impaired and debt ratios escalating. In fact, it is likely to become difficult for these companies to repay their long-term debts, unless they witness a surge in cash flows. The staggering debt levels will certainly weigh on their near-term credit quality. Financially distressed companies certainly face various limitations, and are more susceptible to volatility as well as sudden economic changes. Needless to say, while the large-cap firms are more poised to regain their credit strength, the smaller rivals are likely to go through a rougher patch. Another thing worth noticing here is the fact that while the oilfield equipment providers focusing on onshore development may get some relief from the boost in drilling activities, those supplying equipments for the offshore markets will be the worst sufferers.

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