Oil Service Stocks vs. Big Oil Stocks
January 17th, 2007
T. Boone Pickens knows oil better than most people out there, definitely better than me. However, his calling into CNBC seemed like a desperate attempt to influence oil prices.
I’m not a big fan of large oil companies as most of them have little or no organic production growth and they are completely at the mercy of oil prices, but I am getting 
interested in oil service stocks for several reasons:
Oil service stocks are not as sensitive to oil prices as long as prices stay about $30+, oil companies will be making holes in the ground at a nice pace.
- They are better businesses - oil companies need to spend billions of dollars just to replenish their reserves (maintenance capex), then they have to spend billions on top of that to grow sales - not great businesses. Oil service stocks are on the receiving side of this capex and have relatively small maintenance capex. If the industry’s growth slows down, oil companies will still be spending billions on capex to replenish dwindling reserves (good for oil services stocks), where oil service companies will see a tremendous increase in their free cash flows which means high dividends and share buybacks.
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4 Comments Add your own
1. Naum & Fanya | January 18th, 2007 at 8:50 pm
You are great, we agree with your every single word.
2. Philip Durell | January 19th, 2007 at 7:24 pm
Hi Vitaliy,
You make some good points and certainly O&G service companies make excellent investments, however these are just as cyclical as the companies that they serve. A comparison of Schlumberger and Exxon Mobil (to take two of the largest in each sector) over the last 5 years shows just how in step they are http://tinyurl.com/zgg7c
There is also a correlation between oil prices and the amount of drilling that is undertaken - Exxon can withstand troughs and drill right through but much of the drilling is funded by cash flows from production - the higher the price = more cash flow = more drilling. At $30 to $40 oil service companies would be hurting real bad which would be a great time to pick them up or add more if you buy at today’s prices.
Ultimately investment in O&G depends on your view of the long term trend in pricing for energy - I happen to subscribe to the view that we are in a long term increase due to the difficulty of replacing reserves & increasing worldwide demand. In the intervening time there will be great swings in short term pricing around a long term average increase that will outstrip GDP growth - other industries that fit this are homebuilding and healthcare imo. Industries that grow faster than GDP are interesting in themselves - finding the superior companies in those industries is the key - I’d be interested in your opinions on which oil service companies that you like best
Regards
Philip
3. Vitaliy | January 29th, 2007 at 3:34 am
Philip
You know that I respect your opinion, but I disagree. I believe at lower $35-40 oil prices oil companies will buy less of their stock back, but will be spending money on exploration at the same high rate.
Best,
Vitaliy
4. Stuart Hechinger | February 23rd, 2007 at 8:10 pm
Well if you look at the collaspe of the gas prices recently and what it has done to booking drill rigs it is expected to go down some 30% here in Canada and similarly affected stocks such as precision drilling trust and major drilling group presently as of Feb23/07 as oil has been going up in price to $60barrel these stocks have recovered. It is true around the time you wrote the article precesion drilling trust was appearing on value screens and mentioned as a takeover target as the trust market here is also being affected by new proposed tax rules effectively taxing away any tax benefits of being a trust. It is mainly the smaller companies that are cutting back on budgets while less of the majors and some of the majors such as Encana that have announced cutbacks with a gas bias. Gas is more sensitive to uneconominc drilling than oil and the margin is less than oil.
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