Chesapeake Trouble, Credit Squeeze Could Hurt Oilfield Services Sector

Halliburton (NYSE:HAL) and Schlumberger (NYSE:SLB) are looking to offset the decline in shale gas exploration by pushing toward liquid rich plays, but more trouble may be brewing in the North American upstream sector. The recent news on the lack of disclosure on the part of Chesapeake CEO Aubrey McClendon could further hurt investor confidence in the sector, where small players are already facing issues in securing bank credit. ^[1] Banks are expected to lower lending to the gas exploration sector in the U.S. in light of weak natural gas prices in the market. Lower capital expenditure can directly hurt the revenues of oilfield services players.

We have a $42.93 price estimate for Halliburton, which is at a 30% premium to its current market price.

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Industry worries

Natural gas prices in the U.S. fell below $2 last month as excess production and mild winter resulted in high inventory levels. Companies reacted by cutting down on gas exploration projects and focusing on liquid rich plays. The change resulted in oilfield services players reporting slightly lower revenues and a drop in operating margins as industry capacity concentrated on liquid rich areas. However, the latest issue facing the oilfield services players is that smaller players may cut down further on plans, as banks rethink over lending to the industry. Larger players like Chesapeake, that directly tap into bond markets may not be impacted by such a move. ^[1] However, budget constraints on smaller explorers could significantly impact the sales outlook for Halliburton and its peers.

The recent news surfacing about the questionable practices of Chesapeake’s CEO could further darken the near-term prospects for the oilfield services industry. McClendon has been one of the foremost proponents of the shale exploration industry in the U.S. Chesapeake has already earned the scrutiny of its ‘aggressive financial risk profile’. ^[2]

The share price of the company has plummeted after the shortcomings in the company’s governance were made public. Chesapeake is already facing a $10 billion cash shortfall in financing its push into liquids this year. The latest developments could make it more difficult for the company to attract investors to fund this gap. Overall, lower capital spending could have an adverse impact on the performance of the oilfield services industry in North America.

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1. Insight: A credit crunch sequel for bruised natural gas companies, Reuters [↩] [↩]
2. Special Report: Energy giant hid behind shells in “land grab”, Reuters [↩]