Schlumberger Chairman and CEO Andrew Gould addressed the oil and gas investment community at the 34th Annual Howard Weil Energy Conference on March 20, 2006 in New Orleans, Louisiana, USA.
Good morning Ladies and Gentlemen. First let me thank Jeff Parker and Bill Sanchez of Howard Weil for the invitation to be here. I think it very appropriate that they have decided not to move this conference. No industry suffered more than ours in last year's hurricane season, and no city suffered more than New Orleans. It is therefore only right that this conference show its solidarity.
It may have been a warm winter in the north east of the USA this year partly because the mass of Arctic air seems to have slipped to the Russian side of the North Pole. Here is a Russian rig on the right bank of the river Ob at Nefteyugans. The abnormally low temperatures, -51?in the photograph, suspended all operations in parts of Western Siberia for about three weeks in January.
At this conference last year, I presented a summary of some of the challenges facing the growth in supply. I discussed the beginnings of the supply-side response and outlined that I felt that there was, and is, no quick fix to the energy supply picture. Since then I have seen nothing that makes me change that view. But before commenting on these in the context of 2006, I would like to review some relevant facts from 2005.
Despite high prices overall, world demand for oil grew by 1.3%. Economies in the OECD countries proved remarkably resilient to high oil prices while demand in those countries that are rapidly industrializing was not sufficiently elastic to price to be seriously reduced. Governments everywhere recognized the need for energy conservation but in general do not yet seem ready to assume the political consequences of serious energy conservation policies. Overall, world supply of oil also grew by 1.3%, or 1.1 mbpd. Supply from the OPEC countries grew by 3% while non-OPEC production was flat. This lack of growth in non-OPEC production can perhaps be seen as an endorsement of the secular trend towards larger increments of future production coming from the Eastern Hemisphere and in particular from Middle East OPEC.
This simple summary hides a myriad of dramatic events梑oth positive and negative. The effects of Katrina and Rita removed five mobile drilling units from the fleet in addition to more than 150 mboe of oil and gas from the US system. Russian production growth slowed dramatically following the stupendous gains of the last five years. Internal issues and the end of the easy gains from the older fields in Western Siberia were the principal reasons. There was no improvement in production from Iraq. And as the year went on there were increasing signs of physical constraints on growth in upstream activity of which one example was the shortage of offshore rigs in mature areas such as the North Sea. In addition, the lack of skilled professionals became even more acute and inflationary pressure on wages began to seriously bite.
On a more positive note, Saudi Arabia announced massive investment in new production capacity for both oil and gas, accompanied by a huge increase in active rigs. Seismic activity increased across the world in dramatic proportions梐nd is set to continue at even higher levels throughout 2006. Renewed exploration efforts were underway in North Africa, the US and Russian Artic, deepwater India and Malaysia, the Norwegian Arctic Sea and West Africa. Around the world governments have understood that re-investment in energy and energy infrastructure has become an urgent priority if we are to avoid the energy shortages that hamper economic growth.
Finally, and as I turn towards 2006 and Schlumberger, it is worth noting that the percentage increase in E&P spending announced in the brokerage surveys, which are forcibly incomplete by the way, is the highest to be announced at the beginning of any year in the past three梐ll of which have been years of substantial increases to which significant revisions were made during the course of the year.
In 2006 I do not think that we will not see any significant change to the overall growth pattern we experienced in 2005, although there may be some temporary slowing in gas activity in North America following the mild winter. I would now like to share some concrete examples of how this growth is manifesting itself before trying to draw some conclusions.
Russia will remain the fastest growing area and Schlumberger will benefit from an additional five months of revenue from PetroAlliance. The fastest growing technologies in Russia will no longer be in pressure pumping as we will see increasing competition as well as the growing success of horizontal side tracking as an alternative reservoir drainage technology. As a result, we expect demand for Drilling & Measurements services and for IPM-type (Integrated Project Management) work to grow the fastest. In addition we expect the growth that we are seeing in exploration and greenfield work to continue.
I was recently in Tyumen to open our electric submersible pump facility. This plant has the capacity to assemble 800 strings a year梤epresenting 5% of the Russian market. Parts are currently imported from elsewhere, but as we qualify Russian suppliers these pumps will become increasingly manufactured from Russian components. Elsewhere in Russia, we produce perforating equipment and build elements of our fracturing fleets. On the same trip I laid the foundation stone of the Schlumberger Russia training center, which will be partly operational by the end of this year. By 2008, this center will be able to provide 2,800 man-years of training to personnel in Russia and in the Russian-speaking republics of the Caspian and Central Asia. With such unmatched presence and infrastructure we expect our 2006 revenues in Russia alone to exceed $1.0 billion.
In the Middle East we are expecting a year of strong growth driven principally by the extraordinary ramp up of activity in Saudi Arabia where average rig count has increased from 49 in 2004 to nearly 70 in 2005. The projected average in 2006 is 100. Of these, 29 belong to the Arabian Drilling Company, a 35-year old joint venture of which Schlumberger owns 49%.
This dramatic increase in rig count will be focused on the goal of increasing Saudi Arabia oil production capacity as well as on exploration activity associated with the gas joint-venture projects. To support the business we expect to invest $100 million in Capex spend in 2006, almost four times the level in 2004 and we have authorized construction of two new operating bases to increase our service delivery capacity. In addition, our total headcount in Saudi Arabia, which has already increased by 20% in 2005, will increase by a similar amount in 2006. I can tell you that the atmosphere in the Kingdom is extraordinary and we are privileged that His Excellency Ali Naimi, The Minister of Petroleum and Minerals, will preside over the opening of our new research center in Dhahran next week.
In Algeria, the combination of the recent licensing rounds and a new exploration thrust from Sonatrach will lead to substantial activity increase in 2006. There will be a great deal of seismic activity indicating high levels of exploration drilling towards the end of 2006 and into 2007. Most contracts are already in place and the rigs are either in country or can be identified. In addition some major development projects will get under way and there will be sustained attempts to maintain and increase production from existing fields.
Schlumberger has been extremely successful in using IPM well construction services to assist new operators to adapt to Algeria. As an example of this, we are currently completing a multi-well development program in Algeria for Rosneft following an earlier successful exploration campaign conducted by IPM. Overall, we expect growth to be substantially in excess of 20%. Elsewhere in North Africa a very similar activity pattern will develop in Libya on an almost identical timeline.
If I have chosen these three examples it is not because I do not think there will be growth in the North Sea, or in other traditional areas. They are simply to show some of the markets that hold a long-term promise of sustained levels of new exploration and development activity. They are very different markets, but they have several things in common. For example, they offer the reserves to sustain long-term activity. Their activity levels are already increasing and they are primarily land markets where the logistical difficulty of rapidly ramping up activity is much simpler, less costly and much faster than doing so offshore. This brings me to a few comments on the challenges facing the service industry in 2006.
First, we do not see a shortage of land rigs although the number of new rigs being deployed will undoubtedly lead to a decline in drilling efficiency. On the other hand, offshore activity will undoubtedly be constrained by the lack of rig capacity which will delay projects into the 2007 to 2008 timeframe when new builds start to enter service. We also believe that some operators may delay projects rather than pay higher prices and that the lack of trained professionals will result in some reluctance to start new and complex projects. However, we do not think that this will greatly affect service industry growth rates. What is essential to the service industry in 2006 is the ability of an already-stretched supply chain to deliver the new equipment and products necessary to meet the increase in activity.
Second, the trend that we have seen towards exploration will continue to accelerate. This will affect the types of technology that will be used from our portfolio as well as the overall uptake of technology. The economics of sustained higher oil prices are making exploration plays that would have seemed impossible only three years ago very attractive. After all, who would have thought we would see such a dramatic recovery in the seismic industry, or that we would see as many as 230 rigs drilling for oil on land in the US?
Third, the industry will continue to struggle with the lack of trained professionals. As a result, systems for more effective use of the core of specialists that exists will become more and more prevalent. One example of this is the deployment of digital systems to allow experienced staff based in remote operations support centers to interface with a number of simultaneous operations. In addition, the use of IPM-type services for well construction and production management are in demand and will become even more so.
Fourth, services for non-conventional hydrocarbon recovery and production will become more and more important. As the quality of the type of hydrocarbon declines, the importance of technology in their recovery expands.
As my time is limited, I would like to deal briefly with the first three of these comments in the context of Schlumberger. The actual amount of new equipment that we can deliver in 2006 is largely fixed and can only be increased marginally. Most of our product lines, suppliers and subcontractors have already sold out for 2006 and much of 2007. Pumps, non-magnetic steel, machine-shop capacity, and certain electronic components will not be available in 2006 unless they have already been committed and new suppliers will not make a material difference in 2006.
At Schlumberger, we had made the key decisions on long lead-time materials and parts for 2006 by May 2005. We have expanded our own manufacturing capacity and extended our network of qualified subcontractors and in doing so, we have focused on Europe and the Far East to avoid over-usage of the Houston area. The financial risk of not acting early enough, compared to the potential revenue loss from not having enough equipment was an easy decision to take. As a result, we are going to be able to meet the 2006 Capex plan of $2.4 billion梐 figure that includes investment in the multiclient seismic library. There may be some slippage, and much cost inflation, but these factors will not materially affect our growth plan.
Many of you are familiar with this chart showing overall growth rates across the various oilfield service technologies. I would like you to think of this chart in the context of the activity pattern going forward. Growth rates over the past five years have favored the technologies used to increase production and recovery and technologies used in exploration, such as geophysical products and services, have lagged. With the shift towards more exploration, this picture is likely to begin to change. But I would like to add one other element before I discuss such technology in detail and that is the remarkable progress that has been made in drilling over the last ten years.
Today we can drill targets cost effectively that ten years ago would be unimaginable. Technology has extended the reach of horizontal wells to lengths of 10 miles梔ouble what was possible 10 years ago. Rotary-steerable systems, significantly improved measurements-while-drilling data rates and slimmer-diameter logging-while-drilling tools have all contributed to this. We can drill underbalanced, with casing, or with coil tubing. We can drill in extremes of pressure and temperature. We can hit a target the size of a tennis court from 10 miles away. In fact, drilling technology has almost outstripped our ability to identify suitable tennis courts.
As we enter a new exploration phase we know that infield exploration or enhancement of recovery from existing reservoirs will remain a key contributor to increasing production. We also know that accumulations of new oil in most of the accessible exploration areas will be smaller or more complex to recover. As a result, improved characterization of the reservoir will become more critical than ever before.
In this new exploration phase, I am very excited about several families of technology that Schlumberger has introduced, or is introducing because of the contribution they can make to reservoir characterization.
If we take them in order of their market introduction, Q* seismic is a huge improvement over all previous systems in the quality of seismic definition. Q-Technology* provides improved, low noise, repeatable seismic measurements that reveal subtle and complex details. Unlike standard techniques, it acquires data from every sensor digitally, avoiding conventional seismic signal averaging, and yielding information of much higher fidelity. Q also offers faster processing, enabling usable time-lapse surveys offshore and quasi real-time results on land. I抣l be returning to its commercial uptake in a few minutes.
In wireline logging technology we have just introduced a new family of open-hole measurements that represents the biggest change in measurement quality since we introduced the first imaging tools in the mid 1980s. The new services, known as the Scanner Family*, are not yet complete, and you will see further introductions in the near future.
Scanner services take reservoir evaluation to the next step梐 three-dimensional scan of the formation梥o giving customers a deeper understanding of reservoir rocks and fluids. The first three services to be introduced are the Rt Scanner* multi-array tri-axial induction tool; the Sonic Scanner* advanced acoustic scanning platform; and the MR Scanner* nuclear magnetic resonance tool. Scanner technologies see deep into the formation at simultaneous, multiple depths of investigation to locate and identify trapped fluids, understand rock stresses and long-term formation integrity, and quantify the impact of the drilling process. The result is increased certainty in reservoir modeling to allow considerable reduction in the risk associated with the development of smaller, or more complex reservoirs.
Well testing is another technology that is growing in importance with increased interest in exploration and the development of smaller or more complex accumulations. Due to cost and environmental pressures, customers in recent years have greatly reduced the number and duration of the flow tests they perform on exploration and delineation wells. While wireline formation testing tools have rendered the need for many tests obsolete, there is growing recognition that there is no substitute for flowing the reservoir to make a good estimation of long-term reservoir performance. Schlumberger testing revenues grew by more than 30% in 2005, and will see a similar rate of growth in 2006.
In 2005 we also introduced the Scope* series of measurement-while-drilling and logging-while-drilling services that dramatically improve drilling performance and well placement. They represent one more step in improving recovery from smaller and more complex reservoirs. Scope services set new standards for reliability and data quality, while quadrupling the data transmission rate over the industry standard. As part of the family we introduced the PeriScope* directional, deep electromagnetic imaging-while-drilling service that is revolutionizing well placement with its unsurpassed ability to see the reservoir as the well is being drilled. This technology enables formation and fluid boundaries up to 15 ft away from the tool to be continuously monitored so that horizontal and extended-reach wells can be drilled entirely within the reservoir sweet spot. From the very first field test, PeriScope customers have typically been able to eliminate sidetracks and enhance production.
Information solutions represent another area where new technology has made a dramatic difference. In late 2004 we introduced a game-changing geoscience software solution, under the Petrel* name, that has offered clients an unparalleled seismic-to-simulation workflow. This unique technology goes a long way in meeting the long-awaited goal of seamless interpretation integration between the major geoscience disciplines.
Customer response to this solution has been phenomenal, resulting in accelerated introduction to an increasing number of asset teams. No fewer than 80 companies have already adopted it as their standard within the last 18 months.
The Petrel workflow is based around a single, shared-earth model coupled with several ground breaking interpretational innovations. Its impact has been particularly visible on organizations looking for dramatic productivity gains and increased collaboration practices, at a time when access to skilled resources is a determining factor in the execution of exploration or development plans.
Petrel will continue to evolve at a rapid pace and will receive significant investment to further impact exploration processes as well as to expand towards a full reservoir management solution.
We are very pleased with the acceptance of the many technology introductions we have made in the areas that I described. Their timing is fortuitous in that they coincide with a new exploration cycle, which will make their success that much faster. You will recall that I started this discussion on technology with this chart showing the relative growth rates by type of service over the last five years. These were heavily biased towards production but we feel that in the next five years some of this bias will shift towards exploration-related services.
I do not intend to deal at length with the much-publicized shortage of exploration and production professionals. Instead I would like to outline what I think will be one factor that will alleviate some of the experience gap that the industry will have to manage as a result of the large number of new recruits to the industry on top of a small number of experienced professionals.
We have all heard a lot over the past few years about the digital oilfield. We have heard ambitious claims for real-time reservoir management, not least from my own company and these ambitions will undoubtedly happen at some point in the future. In the meantime we have seen, and will continue to see what I call the digital enablement of the various data streams used in E&P operations, be they data for drilling, fracturing or production.
It is increasingly becoming the case that job execution can be, and in many cases is being, monitored remotely. This means that not only can the appropriate expertise be brought to the wellsite for better decision making through data links. It also means that operational expertise can be brought to the assistance of younger engineers by an experienced professional monitoring a number of jobs in real time and providing coaching and support where needed.
The final step, which is still some way away, will be that the professional may not systematically need to be at the wellsite. He may drill, log or perform many other tasks from his office in town. After all, if we can drill holes on Mars, there is no technical reason that this could not be made to happen. Today抯 engineers have grown up with video games and are not unsettled by managing complex processes through a keyboard or console.
One example is the growing use of drilling centers. Our own operations center in Aberdeen can monitor up to 28 concurrent drilling operations in the North Sea and a similar center exists in the Gulf of Mexico. While large customers may prefer to bring their own center in-house, independents will often prefer to rent a desk in a service company center. And in addition to drilling operations, wireline logging and well stimulation services can be handled in a similar manner.
Before reviewing our financial goals, I have a few words to say about WesternGeco.
Results have been strong across all business lines as exploration activity grew and Q-technology uptake increased. There have been strong signals in multiclient sales, in land crew activity and in repeat business and long-term contracts for surveys that use clearly differentiated Q technology. Backlog at $790 million, is at a new record level.
In 2005 we more than doubled Q revenue from $162 million to $399 million, which equals about 25% of our total acquisition and processing revenues and puts this technology firmly in line with our target for any new technology. These revenues were, and are being, generated at significantly differentiated pricing premiums over conventional 3D surveys. In order to meet demand for the technology we added a fifth Q vessel to the fleet in 2005, and will be commissioning a sixth in 2006.
Turning now to our financial goals, this table shows the evolution since 2002.
When we set our goals in June 2004 we said that we expected our compound annual growth rate to be in double digits through 2010. For the last two years we have averaged 19.5%, and we have already said that growth in 2006 will be very similar to that of 2005. Looking further ahead we see no slackening in activity much before 2010 given the industry context梬ith the usual proviso that any economic recession does not provoke a severe drop in demand. On this basis, I think it realistic to revise our expectations and say that we expect our top-line growth to average a figure in the mid to high teens for the period from 2004 to 2010.
Next, a word on our use of cash. Net debt has fallen to $532 million. This reduction was achieved without hampering the growth of the business. Our goal of a strong balance sheet with low leverage has been reached. In line with our strategy of not retaining more cash than we need to grow the business, we have already repurchased 12.79 million shares for a total of $932 million as part of the previously announced plan, which is expected to be completed by the end of this quarter. A new plan will be presented to the Board of Directors in April. Last January, the Board of Directors approved a 19% increase in the company dividend just 12 months after the previous 15% increase. The Board also approved a two-for-one stock split. These measures reflect our confidence that earnings have indeed advanced to new and sustainable levels.
Ladies and Gentlemen, I have explained why we consider this to be a highly favorable business climate that is likely to continue for a number of years. The world抯 requirements to renew and expand production capacity through stemming production decline, improving recovery factors and exploiting the extensive hydrocarbon reserves in the eastern hemisphere creates an environment in which Schlumberger will thrive.
Schlumberger is the leading provider of technology, project management and information solutions to the international E&P industry and has a clear record for growth, innovation and development. Our cultural breadth and technical depth is enormous. We have a strategy to expand our dominance through geographical growth, extending our technology portfolio and growing our project management business.
And we are determined to produce even more satisfactory financial results.
Thank you very much.
*Mark of Schlumberger