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Oil, gas executives brace for turbulence as services activity plunged in Q3

Industry executives see difficulties looming as oilfield services sector companies continue to struggle amid tighter customer spending, even as oil and natural gas production continued to cruise higher.

In an energy survey conducted by the Federal Reserve Bank of Dallas released Sept. 25, the oil production index showed production climbing for the 12th consecutive quarter. The index is calculated by subtracting the percentage of respondents reporting a decrease from the percentage reporting an increase.

The oil production index was at 15.7 in the third quarter, down from the second-quarter reading of 17.4. The natural gas production index fell to 6.5 from 13.4, the survey showed. Although lower quarter over quarter, a positive index signals expansion, the Dallas Fed said.

Oilfield services sector companies operating in the Federal Reserve's 11th District, which includes Texas, southern New Mexico and northern Louisiana, saw a year-over-year decline in their business activity index to negative 21.8 from 6.6. The equipment utilization index fell by 27 points to negative 24, the lowest reading since 2016, according to the report, which surveyed 163 energy companies, including 55 oilfield services companies and 108 exploration and production companies.

Executive responses were overwhelmingly negative for the sector. More than 42% of participants reported a decrease in operating margins compared with the prior year, with the index for operating margins falling to negative 23 during the period. Year over year, the sector's employment index fell from 21.1 to negative 9.4, and the wages and benefits index slipped from 42.1 to 17.

Of the 55 services companies reporting, 32.7% said employment decreased, and 11.1% said wages were down quarter over quarter. The larger majority said there were no changes in employment or wages from the previous three-month period. Still, the employment index fell from 1.7 to negative 12.7 quarter over quarter, while the wages and benefits index fell to zero from 17.3.

"Uncertainty created by [explorations and production] companies' foggy outlook is creating significant challenges for oilfield services," a survey respondent from the oilfield services sector said.

As the services sector struggles, its efforts to improve operations and equipment is paying off for producers, which continue to see production gains despite overall activity contraction.

The business activity index — the survey's broadest measure of conditions facing 11th District energy companies — fell to negative 7.4 in the third quarter from negative 0.6 in the second quarter. The contraction in oilfield services primarily drove the decline as 38.8% of exploration and production companies responding to the survey said they saw an increase in business activity compared with the same quarter in 2018. The business activity index for exploration and production companies increased from 5.4 to 6.8 year over year.

However, near-term growth is expected to be limited by low crude oil and natural gas prices, according to 42% of the total survey respondents. "The overall industry conditions are not good. Prices are too soft and erratic, and costs are too high," one respondent from the exploration and production sector said.

The companies also said growth will be limited by a lack of access to capital markets. One respondent said, "Credit is tight for the industry. Banks have lowered their reserve-based lending leverage tests from 3.5–4.0x debt/EBITDA to 2.5–3.0x, and calculated it on both a 12-month trailing basis, as in the covenants and a latest-quarter annualized basis."

Another said, "Overall sentiment is very negative due to low natural gas prices and lack of available funding for oil and gas exploration. Investors have been hard hit by catastrophic declines in the price of oil and gas securities. Additionally, many oil shale projects are failing to meet production projections. Oil service companies have no pricing power [and are] delivering services at rock bottom levels. Further cost declines will not be forthcoming. It seems no one has any money for oil and gas projects. Lack of Wall Street participation in oil is very apparent."