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The Oil Services Industry Hydrocarbon Basics

Crude oil and natural gas are naturally occurring substances present in rock amidst the

earth's crust. The origin of oil and gas is organic material - the remains of plants and

animals - compressed in sedimentary rock such as sandstone, limestone and shale.

Sedimentary rock is a product of sediment deposits in ancient oceans and other bodies of

water. As layers of sediment were deposited on the ocean floor, decaying remains of plants

and animals were integrated into the forming rock. This organic material eventually

transformed into oil and gas after being exposed to a specific temperature and pressure

range deep within the earth's crust.

Because oil and gas are less dense than water, which occurs in huge quantities in the

earth's subsurface, oil and gas migrate through relatively porous sedimentary source rock

toward the earth's surface. When the hydrocarbons are trapped beneath relatively less

porous cap rock, an oil and gas reservoir is formed. These reservoirs, which are simply

layers of rock containing relatively large quantities of oil and gas, are our source for crude

oil and gas.

In order to bring the hydrocarbons to the surface, a well must be drilled through the cap

rock and into the reservoir. Drilling rigs work in a similar fashion as a hand drill; a drill bit is

attached to a series of drill pipes and the whole thing is rotated to make a well in the rock.

Once the drill bit reaches the reservoir, a productive oil or gas well can be completed and

the hydrocarbons can be pumped to the surface. When the drilling activity does not find

commercially viable quantities of hydrocarbons, the well is classified as a "dry hole". Dry

holes are typically plugged and abandoned.

Exploration

Exploration and production (E&P) companies focus on finding hydrocarbon reservoirs,

drilling oil and gas wells and producing and selling these materials to be later refined into

products such as gasoline. This activity is usually referred to as upstream oil and gas

activity. Today, there are hundreds of public E&P companies listed on U.S. stock exchanges.

Virtually all cash flow and income statement line items of E&P companies are directly

attached to oil and gas production; therefore, investors should develop an understanding of

basic production terminology when assessing E&P stocks.

Oil and gas wells can generally be classified into two different types - exploratory wells and

development wells. Sometimes known as a wildcat well, exploratory wells are those drilled

to find new reservoirs (places where hydrocarbons haven't been found in the past). Wells

drilled into the known extent of a producing reservoir are known as development wells.

Exploratory wells are much riskier endeavors than development wells. However, similar to

the world of equity investing, the extra risk often correlates to extra potential reward.

Drilling an exploratory well can sometimes result in the discovery of a large new reservoir or

oil and gas field. Most E&P companies will drill a combination of exploratory wells and

development wells in the course of any given exploration program. The approach is similar

to building a diversified portfolio of stocks.

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Production and Reserves Production

Oil Production Metrics

Exploration and production companies measure oil production in terms of barrels. A barrel,

usually abbreviated as "bbl", is 42 U.S. gallons. Companies often describe production in

terms of bbl per day or bbl per quarter. A common methodology in the oil patch is to use a

prefix of "m" to indicate 1,000 and a prefix of "mm" to indicate 1 million. Therefore, one

thousand barrels is commonly denoted as "mbbl" and one million barrels is denoted as

"mmbbl". For example, when an E&P company reports production of 7 mbbl per day, it is

referring to 7,000 barrels of oil per day.

Gas Production Metrics

Production of gas is described in terms of standard cubic feet, which is a measure of

quantity of gas at 60 degrees Fahrenheit and 14.65 pounds per square inch of pressure.

Similar to the convention for oil, the term "mmcf" means 1 million cubic feet of gas. One

billion cubic feet is denoted as "Bcf" and one trillion cubic feet is denoted as "Tcf". Note that

gas market prices are sold on the New York Mercantile Exchange futures market in terms of

million British thermal units, or "mmbtu", which is roughly equivalent to 970 cubic feet of

gas. Investors frequently think of an mcf of gas as being equivalent to one mmbtu.

E&P companies often describe their production in units of barrels of oil equivalent (BOE). In

calculating BOE, companies usually convert gas production into oil equivalent production

using an energy equivalent basis. In this basis, one BOE has the energy equivalent of 6,040

cubic feet of gas - or roughly one bbl to 6 mcf. Oil quantity can be converted into gas

quantity in a similar fashion and gas producers often refer to production in terms of gas

equivalency using the term "mcfe". Note that the energy conversion basis often is not

reflected in the respective market prices of oil and gas.

Investors are wise to carefully consider an E&P's production trend before investing in its

stock. E&Ps usually report several production figures, such as average daily production rate,

total production for the period, and the exit production rate in every earnings press release

and every financial filing. Like the analysis of any company, investors want to see

production (and therefore profit potential) increasing over time without corresponding

material increases in new debt and equity securities. The combination of those factors, with

all other things being equal, is what drives earnings per share growth for an E&P.

Reserves

E&P companies report their oil and gas reserves - the quantity of oil and gas they own that

is still in reservoirs in the ground - in the same bbl and mcf terms as above. Reserves are

often used to value E&P companies and make predictions for their revenue and earnings.

Note that reserves' values are not GAAP figures and they are not directly booked into a

company's financial statements.

Because new reserves are the primary source of future revenue, E&P companies spend a lot

of time and effort in finding new petroleum reserves. If an E&P company stops exploring, it

will generate revenue from a finite and depleting quantity of petroleum and, therefore,

revenue will naturally decline over time. As a result, E&P companies can only maintain or

grow a revenue base by acquiring or finding new reserves.

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Drilling and Service Background

E&P companies do not usually own their own drilling equipment or employ drilling rig staff.

Instead, they hire contract drilling companies like Grey Wolf Inc. or Nabors Industries Ltd.

to drill wells for them. Contract drilling companies generally make a living based on the

amount of time they work for the E&P companies. Drilling companies do not generate

revenue in a way that is tied directly to oil and gas production as is the case of E&P

companies.

Once a well is drilled, there are many activities involved with generating and maintaining its

production over time. These activities, such as well logging, cementing, casing, perforating,

fracturing and maintenance are collectively referred to as well servicing. As is the case for

drilling, there are many public companies, like Halliburton Company and Schlumberger, that

are involved with well-service activity. Revenue of service companies is tied to the level of

activity in the oil and gas industry, sometimes measured by the "rig count" or the number

of rigs working in the United States at any given point in time.

Upstream and Downstream processes

There are two major sectors within the oil industry, upstream and downstream. Upstream,

is the process of extracting the oil and refining it. Downstream, is the commercial side of

the business, such as gas stations or the delivery of oil for heat.

Oil Drilling and Services

Oil drilling and services is broken into two major areas: drilling and oilfield services.

Drilling - Drilling companies physically drill and pump oil out of the ground. The

drilling industry has always been classified as highly skilled. The people with the

skills and expertise to operate drilling equipment are in high demand, which means

that for an oil company to have these people on staff all the time can cost a lot. For

this reason, most drilling companies are simply contractors who are hired by oil and

gas producers for a specified period of time.

In the drilling industry, there are several different types of rigs, each with a

specialized purpose. Some of these include:

o Land Rigs - Drilling depths ranges from 5,000 to 30,000 feet.

o Submersible Rigs - Used for ocean, lake and swamp drilling. The bottom

part of these rigs are submerged to the sea's floor and the platform is on top

of the water.

o Jack-ups - this type of rig has three legs and a triangular platform which is

jacked-up above the highest anticipated waves.

o Drill Ships - These look like tankers/ships, but they travel the oceans in

search of oil in extremely deep water.

Oilfield Services - Oilfield service companies assist the drilling companies in setting

up oil and gas wells. In general these companies manufacture, repair and maintain

equipment used in oil extraction and transport. More specifically, these services can

include:

o Seismic Testing - This involves mapping the geological structure beneath

the surface.

o Transport Services - Both land and water rigs need to be moved around at

some point in time.

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o Directional Services - Believe it or not, all oil wells are not drilled straight

down, some oil services companies specialize in drilling angled or horizontal

holes.

The energy industry is not any different than most commodity-based industries as it faces

long periods of boom and bust. Drilling and other service firms are highly dependent on the

price and demand for petroleum. These firms are some of the first to feel the effects of

increased or decreased spending. If oil prices rise, it takes time for petroleum companies to

size up land, setup rigs, take out the oil, transport it and refine it before the oil company

sees any profit. On the other hand, oil services and drilling companies are the first on the

scene when companies decide to start exploring.

Analysis

Because all hydrocarbon production declines over time, E&P companies must drill new wells

in order to grow revenue and earnings. Therefore, a key analytical consideration is the

company's drilling program. Investors should read about what the E&P has been doing and

what it plans to do in its drilling program to understand where revenue and earnings growth

could come from.

There are a lot of factors to consider - the oil vs. gas mix, the drilling cost of each well, the

company's working interest (essentially the ownership percentage of the well) and the mix

of development and exploratory wells to name a few. The better the E&P is at increasing

production in a cost effective way, the greater the potential return on equity for

shareholders.

Analysts usually consider the company's overall drilling success rate, or the percentage of

all wells drilled that resulted in economic production. If the company plans to drill the same

type of wells (and in similar geographic locations) in the future as it has in the past, the

past drilling success rate can be somewhat of an indicator of future success. If the analyst is

confident that the drilling program will be successful, he or she will have confidence in the

company's ability to increase production and cash flows in the future.

Oil Refining

Background

Oil refining is the process that takes us from crude oil to refined finished products. Before

petroleum or crude oil can be used, it is sent to a refinery where it is physically, thermally

and chemically separated into fractions and then converted into finished products. About

90% of these products are fuels such as gasoline, aviation fuels, distillate and residual oil,

liquefied petroleum gas (LPG), coke (not the refreshment) and kerosene. Refineries also

produce non-fuel products, including petrochemicals, asphalt, road oil, lubricants, solvents

and wax. Petrochemicals (ethylene, propylene, benzene and others) are shipped to chemical

plants, where they are used to manufacture chemicals and plastics.

In general, the role of the oil refiner is to use these processes to transform low-valued

feedstock into higher-valued, refined petroleum products. Refining and distribution

represents the "downstream" piece of the oil value chain, where crude oil that has

been located and extracted is refined for consumer use and shipped to airports, power

plants, and, of course, gas stations, where it is ultimately consumed by end users.[3] Oil

refining can either be part and parcel of an integrated oil & gas operation like Exxon Mobil

(XOM) or Chevron Corporation (CVX), or can occur independently.

Refineries come with a high price tag, they typically cost billions of dollars to build and

millions to maintain. Facilities can be as large as several hundred footballs fields and

workers may use bicycles to move around the massive complexes. In addition to their large

size, refineries run 24 hours a day every day of the year.

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Analysis

The refining business is not quite as fragmented as the drilling and services industry. This

sector is dominated by a small handful of large players. In fact, much of the energy industry

is ruled by large, integrated oil companies. Integrated refers to the fact that many of these

companies look after all factors of production, refining and marketing. For the most part,

refining is a slow and stable business. The large amounts of capital investment means that

very few companies can afford to enter this business.

Key Ratios/Terms

BTUs: Short for "British Thermal Units." This is the amount of heat required to increase the

temperature of one pound of water by one degree Fahrenheit. Different fuels have different

heating values; by quoting the price per BTU it is easier to compare different types of

energy.

Dayrates: Oil and gas drillers usually charge oil producers on a daily work rate. These rates

vary depending on the location, the type of rig and the market conditions. There are plenty

of research firms that publish this information. Higher dayrates are great for drilling

companies, but for refiners and distribution companies this means lower margins unless

energy prices are rising at the same rate.

Meterage: Another type of contract that differs from dayrates is one based on how deep

the rig drills. These are called meterage, or footage, contracts. These are less desirable

because the depth of the oil deposits are unpredictable; it's really a gamble on the driller's part.

Downstream: Refers to oil and gas operations after the production phase and through to

the point of sale, whether at the gas pump or the home heating oil truck

Upstream: The grass roots of the oil business, upstream refers to the exploration and

production of oil and gas. Many analysts look at upstream expenditures from previous

quarters to estimate future industry trends. For example, a decline in upstream

expenditures usually trickles down to other areas such as transportation and marketing.

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Oil Field Services Companies Oil field service companies like Houston-based Baker Hughes, National Oilwell Varco and

Schlumberger are experiencing increasing demand and solid financial performance because of

strong oil prices, rising exploration and production and interest in shale plays.

A report from IHS (NYSE: IHS), an analysis and information firm, said these companies are

benefiting from the rush to access oil and gas from shale and from strong demand in Latin America,

South America, the Middle East and West Africa.

Here is a listing of some of the top industry Oil field service companies in the world and their market

position:

1) Schlumberger Limited (NYSE: SLB) is the world's largest oilfield services company.

Schlumberger employs over 115,000 people of more than 140 nationalities working in

approximately 85 countries. Its principal offices are in Houston, Paris, and the Hague.

Services

Schlumberger supplies the petroleum industry with services such as seismic acquisition

and processing, formation evaluation, well testing anddirectional drilling, well cementing

and stimulation, artificial lift, well completions and consulting, and software and

information management. The company is also involved in

the groundwater extraction and carbon capture and storage industries.

Industry Profile Key people: CEO: Paal Kibsgaard, CFO: Simon Ayat Products: Oilfield services Revenue: US$39.54 Billion (FY 2011) Operating income: US$6.34 Billion (FY 2011) Net income: US$5.01 Billion (FY 2011) Employees: 115,000+ Website: www.slb.com

2) Saipem S.p.A. is an Italian oil and gas industry contractor. It is a subsidiary of Italian energy company Eni, which owns approximately 43% of Saipem's shares. Saipem has contracted for designing and constructing several pipelines, including Blue Stream, Greenstream, Nord Stream and South Stream.

Services Engineering and construction for offshore and onshore projects; drilling rig, drillship and FPSO operation

Industry Profile Industry: Oilfield services Headquarters: Milan, Italy Key people: Pietro Franco Tali (CEO), Marco Mangiagalli (Chairman) Revenue: €11.18 billion (2010) Operating income: €1.319 billion (2010) Profit: €844 million (2010)[1] Total assets: €15.03 billion (end 2010) Total equity: €4.154 billion (end 2010) Employees: 39,250 (end 2010) Parent: Eni Website: www.saipem.it

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3) Transocean Ltd. (NYSE: RIG) is one of the world's largest offshore drilling contractors. The

company rents floating mobile drill rigs, along with the equipment and personnel for operations, to oil and gas companies at an average daily rate of US$282,700 (2010). Transocean's day rates extend as high as US$650,000 for its deep-water drillships, which house dual activityderricks and can drill in ultra-deep ocean depths of 10,000 ft (3,000 m). Transocean employs more than 18,000 people worldwide and has a fleet of 135 offshore drilling units and two ultra-deepwater units under construction, as of December 2011. The company is based in Vernier, Switzerland, near Geneva, and has offices in 20 countries, including Switzerland, the United States, Norway, Scotland, Brazil, Indonesia and Malaysia. The firm owns nearly half of the 50 or so deepwater platforms in the world

Services

Lease and operation of semi-submersible and jack-up drilling rigs and drillships

Industry Profile Type: Publicly traded limited company Traded as: SIX: RIGN, NYSE: RIG Industry: Oilfield services & equipment Headquarters: Vernier, Geneva, Switzerland Key people: Robert Rose (Chairman), Steven Newman (President and CEO) Revenue: US $9.576 billion (2010)[1] Operating income: US $1.866 billion (2010) Profit: US $961 million (2010)[1] Total assets: US $36.81 billion (end 2010) Total equity: US $21.38 billion (end 2010) Employees: 18,050 (end 2010) Website: www.deepwater.com

4) Baker Hughes is one of the world's largest oilfield services companies. Baker Hughes provides the world's oil & gas industry with products and services for drilling, formation evaluation, completion, production and reservoir consulting. Baker Hughes operates in over 90 countries worldwide mainly based in countries with a mature petroleum industry as is the case with most oil & gas service companies. Baker Hughes has its headquarters in the America Tower in the American General Center in Neartown, Houston.

Services Oil Field Servicing Equipment such as products and services for drilling, formation evaluation, completion, production and reservoir consulting.

Type: Public Traded as: NYSE: BHI, S&P 500 Component Industry: Oil and Gas Headquarters: American General Center, Houston, Texas, U.S. Key people: Mr. Martin S. Craighead (Chairman) & (CEO) Revenue: $ 19.8 billion (FY 2011) Operating income: $ 2.6 billion (FY 2011) Net income: $ 1.7 billion (FY 2011) Total assets: $ 24.8 billion (FY 2011) Total equity: $ 15.9 billion (FY 2011) Website: www.bakerhughes.com

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5) Fluor Corporation (NYSE: FLR) is a professional services company providing engineering, procurement, construction and maintenance, as well as project management services on a global basis.

Services primarily serves of upstream oil and gas production, refining of downstream, petrochemical, and chemicals.

Industry Profile Type: Public Traded as: NYSE: FLR, S&P 500 Component Industry: Oil Servicing, Construction, Global Services, Power, Government, Industrial

and Infrastructure Headquarters: Irving, Texas, United States Key people: David T. Seaton, (Chairman and Chief Executive Officer), D. Michael Steuert,

(Chief Financial Officer) Revenue: $22 Billion USD (2008) Operating income: $1.059 Billion (2008) Net income: $720 million USD (2008) Employees: 43,087 (2011) Website: www.fluor.com

6) Weatherford International is one of the largest international oil and natural gas service companies. The company provides products and services for drilling, evaluation, completion, production and intervention of oil and natural gas wells, along with pipeline construction and commissioning. Headquartered in Switzerland, Weatherford currently operates in more than 100

countries across the globe and employs more than 58,000 people.[2]

The company has a

substantial presence in the Middle East

Services As an oil and natural gas drilling services company, Weatherford produces a variety of products and services for the oil and gas industry. These include drilling services, electronic well measurement and monitoring, completion, production, and evaluation products and services. In particular, the company has developed directional drilling services that can extend through miles of bedrock with great precision, and tubular running services that are used on almost half of the world’s deepwater drilling projects. The company has more sand screen systems installed worldwide than any other company, and production optimization systems in more than 100,000 wells around the world. Additionally, Weatherford is the industry’s only provider of all forms of artificial lift. Weatherford also offers intervention, completion, and decommissioning services for well owners, in addition to pipeline precommission, commissioning operations, and one of the worlds diverse fleets of inline inspection tools.

Industry Profile

Type: Public Traded as: NYSE: WFT, Euronext: WFT, SIX: WFT Industry: Oilfield services & equipment Headquarters: Geneva, Switzerland (incorporation), Houston, Texas (operational) Key people: Chairman & CEO: Bernard Duroc-Danner Products: Diversified Oilfield Services Revenue: $12.99 billion USD (2011) Operating income: $10.49 billion USD (2011) Net income: $198.5 million USD (2011) Employees: 58,000 (2011) Website: www.weatherford.com

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7) Petrofac (LSE: PFC) is an international provider of integrated facilities services to the oil, gas and energy production and processing industries. It is registered in Jersey (number 81792), with its main corporate office in Jermyn Street, London. In addition it has major offices in Aberdeen, Chennai, Mumbai, and Sharjah, and a further 20 offices in various countries. It is quoted on the London Stock Exchange and is a constituent of the FTSE 100 Index.

Services Oil Field Services (Petrochemicals)

Industry Profile Industry: Engineering, Procurement & Construction, Oil & Gas Headquarters: London, United Kingdom Key people: Norman Murray (Chairman), Ayman Asfari (Group CEO) Products: Petrochemicals Revenue: $5,800.7 million (2011) Operating income: $682.9 million (2011) Net income: $539.6 million (2011) Employees: 14,000 (2011) Website: www.petrofac.com

8) China Oilfield Services (COSL) (SEHK: 2883,SSE: 601808) is an oilfield service. It is a majority

owned subsidiary of Chinese state owned company CNOOC Group.[1]

It also has a listed sister

company in Hong Kong, CNOOC Limited.

Services Oil Field Services (Oil Exploration and Oil Drilling)

Industry Profile Type: State-owned enterprise Industry: Oil exploration and Oil drilling Headquarters: Beijing, China Key people: Fu Chengyu (Chairman) Parent: CNOOC Website: China Oilfield Services

9) Aker Solutions ASA (OSE: AKSO); a Norwegian oil services company headquartered in Oslo; is a global provider of products and services in engineering, construction, maintenance, modification and operation of new and existing oil and gas fields. The company, with roots back to 1841, was known as Aker Kværner prior to 2008.

Services Aker Solutions sells products and services that range from oil exploration, through development of new fields and platforms, to services aimed at prolonging the life of existing fields. The main offerings include: Engineering and MMO, Drilling Technologies, Process Systems, Mooring and Loading Systems, Subsea, Well Intervention Services

Industry Profile Traded as: OSE: AKSO Industry: Engineering and construction Headquarters: Oslo, Norway Key people: Øyvind Eriksen (Executive chairman), Leif Borge (President and CFO) Products: See products and services Revenue: NOK 36.47 billion (2011) Operating income: NOK 3.445 billion (2011) Profit: NOK 1.591 billion (2011) Total assets: NOK 34.11 billion (end 2011) Total equity: NOK 11.32 billion (end 2011) Owner(s): Aker Holding (40.1%) (as of 2012) Website www.akersolutions.com

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10) National Oilwell Varco (NOV) is a multinational corporation based in Greater

Sharpstown, Houston, Texas,[3][4]

which manufactures land-based and offshore oil drilling rigs as

well as all the major mechanical components for such rigs. The company also performs a number

of services for the oil industry such as well and pipeline inspections and is one of the market

leaders insupply chain management through their distribution network of over 700 locations. They

are a worldwide leader in the design, manufacture and sale of equipment and components used

in oil and gas drilling and production operations, the provision of oilfield services, and supply

chain integration services to the upstream oil and gas industry.

Products include all the heavy hardware for oil well drilling as well as drilling instrumentation and

controls and drilling power generation and control. Partial list of heavy hardware includes

topdrives, rotarys, drawworks, derricks, BOP's (blowout preventers), mud pumps, riser

equipment, and complete drilling rigs. Products also include instruments and controls required on

the rig floor for the drilling operation. This includes sophisticated electronics for precise

control. Cyberbase is a such sophisticated control system. Further, NOV produces control

electronics for power generation and control of drilling motors, and MCC's (motor control centers)

for AC motor control

Services

Oil Field Services and Equipment, Product and Services

Industry Profile Type: Public Traded as: NYSE: NOV, S&P 500 Component Industry: Oilfield Services & Equipment Headquarters: Houston, Texas Key people: Chairman of the Board, President and Chief Executive Officer: Pete Miller Products: Oil Field Products & Services Revenue: US$12.693 Billion (FY 2010) Operating income: US$2.447 Billion (FY 2010) Net income: US$1.667 Billion (FY 2010) Total assets: US$23.050 Billion (FY 2010) Total equity: US$15.748 Billion (FY 2010) Website: http://www.nov.com