SLB (SLB) — Q2 2017 Earnings Call Transcript

Thank you. Hello, and welcome to the Schlumberger Limited second quarter 2017 results conference call. Today’s call is being hosted from Paris, France, following the Schlumberger Limited board meeting. Joining us on the call are Paal Kibsgaard, Chairman and Chief Executive Officer, Simon Ayat, Chief Financial Officer and Patrick Schorn, Executive Vice-President New Ventures. We will, as usual, first go through our prepared remarks, after which we will open up for questions. By way of an agenda, Simon Ayat will first present comments on our second quarter financial performance before Patrick Schorn reviews our results by geography, which may include a discussion on Schlumberger production management. Paal will close our remarks with an updated yield of the industry macro. However, before we begin I would like to remind the participants that some of the statements we’ll be making today are forward-looking. These matters involve risks and uncertainties that could cause our results to differ materially from those projected in these statements. I therefore refer you to our latest 10-K and other SEC filings. Our comments today may also include non-GAAP financial measures. Additional details and reconciliations to the most directly comparable GAAP financial measures can be found in our second quarter press release, which is on our website. With that, I hand the call over to Simon Ayat.

Thank you, Simon. Ladies and gentlemen, thank you for participating in this conference call. Second quarter earnings per share, excluding charges and credits, was $0.35. This represents an increase of $0.10 sequentially and $0.12 when compared to the same quarter last year. During the current quarter, we recorded $0.40 of charges. This primarily relates to Cameron merger and integration charges as well as a financing agreement we entered into with our primary customer in Venezuela. We received an interest-bearing promissory note in exchange for $700 million of receivables. The accounting rules required us to record this note at its estimated fair value on the date of the exchange which resulted in a charge. Our second quarter revenue of $7.5 billion increased 8% sequentially, largely driven by the production group as a result of strong pressure pumping activity in North America land. Pretax operating margin only increased 175 basis points to 12.7%. Highlights by product group were as follows: Second quarter Reservoir Characterization revenue of $1.8 billion increased 9% sequentially, primarily due to higher international activities across its product lines beyond the seasonal rebounds in Russia and the Caspian and the North Sea region. Margins of 17% were essentially flat. Drilling Group revenue of $2.1 billion increased 6% sequentially, while margin increased 278 basis points to 14.3%. These increases were driven by strong directional drilling activity in U.S. land combined with the seasonal increases internationally. Production Group revenue of $2.5 billion increased 14% sequentially, while margin expanded by 382 basis points to 8.9%. These results were driven by strong pressure pumping activity and the pricing recovery in North America land. The Cameron Group revenue of $1.3 billion increased 3% sequentially. This increase was largely driven by higher sales in surface systems across all areas and increased valve and measurement activity in North America. Margins increased 61 basis points to 13.8% as OneSubsea margins exceeded 20% for the fourth straight quarter as a result of strong project execution. The book-to-bill ratio for our long-cycle businesses increased to 1.1 in the first quarter. This marks the first time these businesses have been above 1 since the fourth quarter of 2013. The book-to-bill ratio for our long-cycle businesses decreased to 0.8 in the Q2. Now turning to Schlumberger as a whole, the effective tax rate excluding charges and credits was 18.9% in the second quarter compared to 15.3% in the previous quarter. This increase was primarily driven by the increased earnings in North America. The ETR will continue to be very sensitive to the geographic mix of earnings between North America and the rest of the world. We expect the ETR will increase next quarter as North America continues to represent an increasing proportion of our earnings. In the second quarter, we generated $858 million of cash flow from operations. Working capital consumed approximately $550 million of cash during the quarter, partially reflecting the growth in activity in addition to increased investments in preparation for growth. Working capital also reflected the payment of $90 million in severance during the quarter. We remained very confident in our ability to deliver on our free cash flow target for the year driven by a very strong performance in the second half of the year. Our net debt increased $1.2 billion during the quarter to $12.6 billion. We ended the quarter with total cash and investments of $6.2 billion. During the quarter, we spent $398 million to repurchase 5.5 million shares at an average price of $72.34. We started off the second quarter with a higher rate of share repurchases but reduced considerably as we progressed on the EDC discussions, which will be 100% cash transactions. Paul will comment further on the EDC transaction. Other significant liquidity events during the quarter included $500 million on CapEx and investments of approximately $180 million in SPM projects. During the quarter, we also made $697 million of dividend payments. Full year 2017 CapEx, excluding SPM and multi-client investments, is still expected to be approximately $2.2 billion. And now I will turn the conference call over to Patrick.

Thank you, Simon. Looking at activity geographically, we had a very strong quarter in North America with revenue growing 18% sequentially driven by increased activity from the unconventional basin in U.S. lands. Rapid deployment of our ideal hydraulic fracturing capacity and continued growth in our drilling-related product lines all contributed to a 42% sequential revenue growth in U.S. lands. Hydraulic fracturing revenue increased by 68% sequentially, significantly outperforming the 23% increase in the land rig count. We remain sold out for several of our key directional technologies as our customers continue to move towards more complex well profiles with longer laterals. Despite the significant costs associated with reactivating equipment and infrastructure as well as adding people, all of our U.S. product lines were profitable in the second quarter. This was driven by increases in product and service pricing, improved operational efficiency, proactive supply chain management, and the growing impact of our vertical integration investments around sand production and distribution. Cameron also contributed to our strong financial performance with higher product sales in wells and measurements and increased activity for our service systems product line. While we saw sequential revenue reductions from the U.S. Gulf of Mexico and seasonally in Western Canada. Looking forward, we expect U.S. land activity to remain strong throughout the second half of the year with our frac calendar already fully booked well into Q4 and the high demand for our drilling services expected to continue. We are also on track to complete the OneStim joint venture during the second half of the year, which will provide us with additional hydraulic horsepower capacity as well as a full suite of multi-stage completion technology. Internationally, revenue increased 4% sequentially driven by growth in all geographical areas. In most geo markets, growth went well beyond the seasonal recovery from the winter slowdown. Europe’s CIS and Africa revenue increased 6% sequentially, driven by strong growth in the Russia and CIS region where we saw the start of the summer drilling campaigns in Sakhalin together with continued strong activity in Western Siberia. North Sea activity was strong in both the U.K. and Norway as rig count increased and summer exploration work began. While the rig count stabilized in Sub-Sahara and Africa as activity started to recover on land and with early signs of customers preparing to resume activity on key offshore projects. Revenue in Latin American increased 9% sequentially driven by solid activity and sales in Mexico and increased exploration and development work in Colombia. Argentina revenue was also higher on increased unconventional land development while activity in Brazil and Venezuela remained weak. Ecuador revenue was also somewhat lower sequentially, however, with the cooperation of Petroamazonas, Shushufindi production has now turned around and started to recover towards the end of the quarter. In the Middle East and Asia, revenue increased 1% sequentially as activity in Egypt, Iraq, and the UAE remained solid. We also saw seasonal rebounds in activity in China driven by higher sales of completion products and services as well as our SPM gas project in the Indiscernible fields, while drilling activity and product sales also grew in Vietnam and Thailand. Next, I would like to provide an update on our SPM business and the rationale behind our ongoing investment program. Today, most of the work we undertake for our customers continues to be contracted as individual products and services, and we do not see this changing in the foreseeable future. However, building on our broad technology offering and deep domain expertise, we have over time also established significant project management and integration capabilities which we offer to our customers through more collaborative and commercially aligned business models. The SPM business model represents the ultimate alignment with our customers as we take on full field management of their assets risking the value of our product and services and sometimes cash and where we get paid a share of the value we generate from incremental production. Our first SPM project started in 2004, after which we have gradually expanded this business to each day we manage 15 projects in 7 countries. In 2016, our SPM business generated $1.4 billion in revenue and has over the period from 2011 to 2016 delivered a return on capital employed which is around 700 basis points higher than the rest of our business. The SPM business therefore represents the highest multiple we can get on our technical capabilities and in addition these long-term projects have provided a welcome full cycle baseline of activity, revenue, and returns. Over the past three years, we have seen a surge in SPM opportunities from both existing and new customers which we have decided to proactively pursue. This is by no means a desire to change the face of our company which will continue to be focused on market leadership in each individual product line, but instead SPM can create a baseline of activity to support our presence in the different geographies. We remain confident that despite our drive to expand our SPM business which has a different contract structure compared to our traditional business, we are not significantly changing the risk profile of the company. That is because the biggest risk we continue to face as an oil field products and services company remains the cyclical nature of our industry. The SPM business although different in nature and contractual structure will in fact help dampen the impact of these cycles, provided the projects we invest in have the necessary full cycle robustness which of course remains a key selection criterion in all our evaluations. Through our ongoing investment program, we expect to double SPM revenue over the next two years and over time make SPM equivalent in size to one of our existing four groups. In terms of financials, we have made a total capital investment of $4.3 billion in SPM projects since 2012 which represents less than 10% of our cash flow from operations over the same period. Our SPM investments are currently being amortized at an annual rate of approximately $450 million and the amortization schedules are periodically reviewed and adjusted to match project life and economics. The current investment in SPM projects on our balance sheet is $2.6 billion. In the last 12 months we have announced future multiyear investment plans of $390 million with YPF in Argentina and $700 million with FIRST E&P and NNPC in Nigeria. In addition, we have started off smaller projects with SM Energy in the Powder River Basin in the U.S. and with Indiscernible in Western Canada. Going forward, we will through a newly established venture fund look to access an increasing amount of external funding for our SPM business through the refinancing of existing projects where today we carry 100% of the project funding and by inviting financial investors to take a share in our upcoming projects. So in summary, our SPM investment program is focused on establishing a full cycle activity revenue and financial baseline in many of the countries we operate in as well as on continuously providing accretive returns when compared to our base business. I will now turn the call back over to Paal.

Thank you, Patrick. So next, let’s turn to the oil market where sustained growth in demand continues to provide a much-needed foundation for the outlook, leaving little reason for concern over this part of the oil market equation. The supply side, however, is far more complex with market nervousness and investor speculation generally overshadowing facts and physical fundamentals, leading to unpredictable movements in oil prices despite a third year of global underinvestment. The status of the global oil supply is best described by splitting the production base into three main blocks: first, Russia and the OPEC Gulf countries; second, U.S. lands; and third, the rest of the world. The OPEC Gulf countries and Russia, which combine to make close to 40% of global oil production, remain fully committed to sound and consistent stewardship of their resource base. This is reflected in a steady increase in oil selectivity over the past three years as the world’s best well at economics easily absorbed the significant drop in oil prices. These countries are also actively supporting the rebalancing of the global oil market by taking a proactive role in moderating the current production levels. The other two blocks of supply are currently pursuing diametrically opposing directions in both investments and resource management driven by their respective stakeholders. The production level from the U.S. land E&P companies, which currently represent around 8% of global oil supply, is largely driven by U.S. equity investors who are encouraging, enabling, and rewarding short-term production growth despite marginal project economics. The fast barrels from U.S. land are facilitated by a factory approach to both drilling and production and supported by a rapidly scalable supplier industry with a low barrier to entry. In this market, the pursuit of equity appreciation outweighs the lack of free cash flow, net income, and return on capital employed for both E&P companies and the service industry. And although the fast barrels from U.S. land have already cooled oil price sentiments as well as the evaluation of the equity investments themselves, this has yet to limit the investment appetite for additional production growth. The last block of producers making up the rest of the world today represents over 50% of global oil production and covers a broad and diverse group of IOCs, NOCs, and independent operators. In aggregate, this group is for the third successive year highly focused on meeting cash return expectations of their shareholders, whether these are equity investors or governance. The operators meet these requirements by striving to keep production flat by producing their existing outlets as part of their normal operations and by limiting investments to what provides short-term contributions to production at the expense of increasing decline rates. These producers have also benefited from a production tailwind of 500,000 barrels to 700,000 barrels per day in each of the past three years coming from new projects where the majority of the investments were made in previous years. And with a low rate of new projects being sanctioned since 2014, this tailwind will taper off in the coming years. This harvesting approach is not uncommon for conventional oilfields that are in their last years of life prior to being shut in. However, this investment stewardship model is sustainable for a vast resource base that is both expected and required to provide a substantial part of global oil production for decades to come. Needless to say, the longer the current underinvestment continues, the more severe the cliff-like decline trend will likely be when the producers run out of short-term options to maintain production. And given the size of the production base, it would be difficult for the rest of the global producers to compensate for this pending supply challenge. So, how does this supply and demand situation translate into the current status of the oil market? Following the extension of the OPEC and non-OPEC production cuts agreed in late May, the oil markets were expecting to see clear reductions in global inventory levels in the second quarter leading to a more positive sentiment in the oil market. Instead, oil prices and market sentiments became unexpectedly more negative, driven largely by fear of oversupply from the growing production from U.S. land where investments and activity are booming. This increasingly negative sentiment is reflected in the oil market's interpretation of the latest industry data points. First, the fact that oil inventories are coming down much slower than expected is currently a major concern for the market, although inventories are still coming down, and the draws are expected to accelerate in the second half of this year. And second, the fact that production from Libya and Nigeria has increased in recent months is also a major concern for the market even though these countries were excluded from the production cuts because their production levels were low at the time of the agreement. What we are currently witnessing is that the U.S. equity investors and E&P companies have spooked oil market investors into believing that the fast barrels from U.S. land will flood the markets and leave inventory levels elevated for the foreseeable future. Therefore, their pursuit of short-term equity returns from the U.S. land E&P stocks is actually preventing the recovery of the oil market and sending oil prices further down, thereby eliminating any equity appreciation that the investments set out to create in the first place. So what does this mean for the outlook for oil prices and E&P investments? The latest developments in the oil market have created more uncertainty around the shape and timing of the global industry recovery. However, the near to medium term market evolution will continue to be dictated by the following three factors: first, the moderation of the investment appetite towards the fast but marginal barrels from U.S. land leading to a stronger focus on E&P financial returns and the need to operate within free cash flow; second, the key OPEC and non-OPEC countries extending the production cuts beyond the current nine-month agreement; and third, the emerging trend of a gradual investment increase in the rest of the world, which will accelerate, develop, mitigate, or at least dampen the pending medium-term supply challenges. These three factors are somewhat interdependent, and forecasting the forward part from the current market situation is currently difficult given the unpredictable and at times irrational behavior of the broader oil market. Still, it remains clear to us that the current underinvestment in the rest of the world will increasingly create a mounting supply challenge over the coming years, which will require a significant increase and acceleration in global E&P spending. At present, we are seeing the first small signs of increasing investments in the rest of the world. However, the further evolution of this emerging trend will still be governed by the actions of the OPEC Gulf countries and Russia on one side and the U.S. equity investors and E&P companies on the other. New fund moderation from the U.S. producers combined with continued moderation from the OPEC Gulf countries and Russia should pave the way for a steady increase in oil prices. This in turn will provide an investment platform that will allow all three supplier groups to increase E&P spending to jointly help mitigate the pending supply issues. On the other hand, an absence of moderation from both sides could lead to further drops in oil prices, which in turn would both accelerate and amplify the pending supply issues. In this market, we continue to focus on serving our customers and driving our business forward by broadening our technology portfolio and increasing our addressable market by further streamlining our execution machine and by pursuing new and more collaborative ways of working with our customers. And in doing so, we are maintaining a balanced coverage of the global oil and gas industry allowing us to effectively address current and future customer activity. This includes U.S. land where we today are seeing strong growth in both activity and service pricing. The OPEC Gulf countries and Russia continue to see strong activity and broad uptake of our entire technology offering, as well as the rest of the world, which in spite of record low activity levels still represent over 50% of global oil production and will at some stage need to return to considerably higher investment levels even to just uphold current production. As part of our global focus, we yesterday announced our intention to acquire a majority stake in the Eurasia drilling company in Russia. This extends the success of the long-term relationship we have enjoyed with EDC through this strategic alliance we signed in 2011, which has enabled the deployment of a broad range of our drilling and well engineering services to our customers in Russian land. The pending EDC transaction together with our recent investment in a land rig manufacturing facility in Kaliningrad will further broaden our present infrastructure and capabilities used to serve the conventional Russian land drilling market. In Western Siberia, the land drilling contractors continue to have the leading role in providing integrated drilling services through turnkey models. As the uptake of horizontal drilling continues to increase, the deployment of integrated drilling systems through the EDC platform, including our rig of the future, will allow us to bring new levels of drilling efficiency to our existing and new customers in this large market. So, we are pleased to have reached this agreement with the EDC shareholders and we are already well advanced in preparing the regulatory filings required to complete this transaction. That concludes our prepared remarks. We will now open up for questions.

Hey, good morning, Paal.

Good morning, James.

So, thanks for the bit of your macro thoughts here. I wanted to dig in a little bit deeper on those macro thoughts in the oil markets. We’ve seen a tremendous slowdown in equity issuance from the E&P industry in the U.S., which I know has been kind of a thorn in the side, if you will, of the oil markets, and then of course you're talking somewhat about a pickup internationally that’s coming somewhat sooner than we would have expected. How does this all play out? Do you think that investors, as you talk to investors and certainly as you look at the market, do you think that the whole, I guess, forgive the phrase, shale game of share has kind of played out here in North America, the market's kind of picking up on the fact there is no cash flow? Or do you – are you concerned that this game continues for a while and so we’ll kind of stuck in the mud?

Well, I think we talked about this before and this – the overall setup of the U.S. shale business where there hasn’t been positive cash flow or positive free cash flow for, what, the last six, seven years. We have commented on that as that’s been a bit of a surprise already. Now whether it will continue or not, I think is going to come down to two things: whether they can still continue to borrow going into 2018 and whether they continue to hedge. So I think today, they still operate beyond cash flow, but I think the situation for the rest of the year is relatively set. So we expect to see a steady increase in activity both in Q3 and Q4. What will happen in 2018? I think is a bit early to say. But as of now, I think it’s still likely that we will continue to see strong activity in the U.S. in 2018. Whether it will have the same type of growth rate we’ve seen in 2017, that might not be the case.

Right. Okay. Fair enough. Thanks Paal. And then with respect to the lower 48, especially given that we’re recycling cash at these kind of oil prices and the well costs are continuing to move higher, both as you and others raise pricing back to much more acceptable levels, although I know you probably still think they're not quite acceptable, but they at least go in the right direction here. Where do you guys shake out in terms of actual well costs where you can actually for an oil price basis make money in the U.S. market?

From our standpoint, or from the E&P?

E&Ps.

Well, it’s difficult for me to say that. I mean you see a range of so-called breakeven costs where some of the transportation premiums, the discounts to the WTI standard, the amortization of the infrastructure and land are not included. So, it is very difficult for me to say, but if you go back and look at both cash flow and profitability for most of the E&Ps in Q1, where the situation actually was quite favorable. There was limited pricing action from the service industry and the commodity price were still higher than what it is today. I think there were probably few of them even at that stage that really generated a profit. So, it's difficult for me to say. From our standpoint, like we commented on in the prepared remarks, we are now profitable in all product lines. And we see continued growth in activity going forward in the next couple of quarters. So at least our business is back in the back, and we are now obviously actively pursuing market share.

Okay, good. Thanks, Paal.

Thank you, James.

Thank you very much. And thanks for shedding some light, Patrick, on the SPM model. You said doubling this business over the next couple years, does it mean that you’ll double the $2.5 billion or $2.6 billion that you now have invested? And could you highlight a little bit what incremental capital that would take. And also maybe – I saw in the NNPC agreement that there were some references to guarantees. And how do you go about getting guarantees when it comes to non-OECD players?

All right. So, let me take a stab at that. So, firstly, we were talking about doubling the revenue, that is what we said, and clearly the longer-term ambition remains that we are growing at even further into the size of what's today a group would be. The issue with these types of contractors is that there are a variety of ways and how you can structure these deals, and therefore the associated investments are actually quite different. It's very difficult to say that the basket of projects that we have today would be exactly the same type of basket that we have going forward, and therefore the investments remain the same. What we’re doing on a continuous basis is evaluating the overall portfolio of projects that we have. Look at the risks that we are having vis-à-vis certain partners, certain countries, and certain investment levels. So we’ll continue to play that by ear. And as you are very familiar with, is that we’re not only trying to finance these deals from our own cash flow, so looking to take in partners in the deals through our venture fund going forward. So I don't think that you can straight say, the amount of capital we had invested in the past is something we would double or quadruple going forward. That is certainly not the case. It’s going to be a function of the type of projects that we take on. I think what is very clear is that the opportunity basket that we have today is significantly larger than anything that we have seen in the past. Now obviously, if you look at what have we learned in the years that we've done these type of projects is that there is a significant value in making sure that you are involved in the amortization of the hydrocarbon and therefore have a certain level of control when the cash returns back to us. And in more and more of the contracts that we have today, we are doing this through offshore escrow accounts, being very clearly involved in the chain of custody of the hydrocarbon. And therefore that we know exactly when we get paid as this is sometimes, particularly in times of low oil prices, obviously something that is more difficult. When it comes to returns and guarantees that you can get, clearly some of the projects that we have and kickstarting new business models in certain types of environments will require us to properly address risks that are potentially there. And therefore we have in certain of our contracts a guaranteed return that we would have on the investments that we make, and clearly that allows us to go forward with these types of business models.

Okay. That’s very helpful. Thank you very much. And Paal, maybe you can tap into some of that $100 billion of Wall Street money that’s been pouring into the shale and when it comes to tapping your E&P events, it sounds like your returns are little better?

Well, that was absolutely the plan, Ole, that’s the plan.

Yes. Good morning or good afternoon.

Good morning.

So, speaking on SPM, James highlighted that there has been a slowdown in equity issuances by the domestic E&Ps and debt financing costs starting to creep higher, although they’re not punitive yet. But given these trends and stagnant crude prices, do you think there's an emerging opportunity for SPM in North America? It sounds like you recently signed a few deals? Are there more in the queue?

Yes. Clearly, we have mentioned some of the deals here in our earlier remarks, and clearly today there is an opportunity in North America for this business model because it is also allowing us to bring the appropriate technology into the shale plays that we have won or into the tight oil and gas, and therefore there is an increasing opportunity set also in North America; and for that matter, I would say that today we have opportunities in just about every geography around the world.

In other words, do you think if North America could become a material percentage of the book of business if you grow SPM to be its own reportable segment?

Absolutely.

I understand. If I could sneak one more in. You had significant restart cost in North America land this quarter. Are you to dimension how this falls off over Q3 and Q4, so if we simply say that those extraordinary restart costs in Q2 were index that like one, where thus this figure head into Q4, because it’s something like 0.7 and 0.3, I’m trying to think about how those extraordinary costs roll-off over time here?

Yes. If you look at the exit in Q2, I would say Q3 will be similar. We will continue to deploy at almost the same rate, and we expect to have all our ideal pressure pumping assets operational by early Q4. After that, the startup costs will begin to decrease, tapering off in Q4 and into Q1. However, Q3 will experience the same deployment rate and unfortunately the same level of startup costs. We are very pleased with the progress we’re making, and the current deployment rate in our pressure pumping business is unprecedented; we’ve never seen this level of activity before.

Thanks. Good morning. Paal, you mentioned the increasing visibility and improved outlook for international markets driven by Russia and the GCC, as well as offshore FIDs. Could you elaborate on the nature of those projects, specifically the differences between long cycle and short cycle? Additionally, I'm interested in how the rising activity from Russia and the GCC aligns with their role in the Vienna Accord. How does that tension affect one another?

Okay. Well, if I first look at the overall international market in terms of the nature of activity. First of all, what we are seeing in most of the basins around the world takeaway as we say Russia and the OPEC Gulf, we are at unprecedented lows in terms of activity. So I think it’s very natural that activity starts to come back. We were somewhat positively surprised at the rate it came back in Q2. It is not a dramatic increase. But it was more than what we were expecting from seasonality. And if you takeaway Cameron which is three, four quarters behind in the cycle compared to the legacy Schlumberger business. We grew the legacy business 10% sequentially in land, 8% in ECA, and 2% in MEA. So these were numbers generally higher than what we were anticipating. So, it is a combination I would say of land focus in all of the three reporting areas. But as we commented on this, there are signs now of offshore projects being prepared for FIDs and tendering, we see it in particular through OneSubsea business and a lot of this is tiebacks, which basically the nature of that is going to be a lot more short cycle on the offshore business than what we’ve seen in the past. And generally on land, it is all short cycle as well. So, the lion's share of the activity we’re seeing internationally is short cycle, which is what you would expect where the operators are looking to minimize the time between cash outlays and production coming back.

Okay. And is there a threshold oil price when you discuss broadly speaking with your international client base that results in E&P capital spending growth or alternatively results in a continued stagnation? What’s the dividing line between growth and standing still?

We don’t discuss the details of what their decision-making is based on. Other than that, we are very actively working with all customers in bringing costs to barrel down, whether this is offshore or on land. And given the fact that I would say a lot of the operators have been producing their assets quite hard over the past two, three years, I think there’s a need to start replenishing reserves and also supporting production with more wells and smaller tiebacks and so forth. So, given the fact that this uptick has happened in the second quarter, but actually saw low oil prices than in the first quarter, I think this is more a general direction of the international production base. Most basins have unprecedented low activity and investment levels, and we seem to be coming off the bottom now. It will obviously be supported more by higher oil prices, but there has been movement in the second quarter, which has actually seen a more negative oil price sentiment. I think that’s going to turn in the second half of the year in terms of sentiments, but the start of growth momentum, although still nascent, has happened in the second quarter.

Good morning, guys.

Good morning.

Paal, I don’t disagree with you at all on the lack of return focus by the E&P industry. But the onshore U.S. market is about the same size as the rest of the world added together. And so, if the E&P industry in 2018 were to live within cash flow, you’d have to drop about 300 rigs in the U.S. The transition would be a higher oil price I guess and higher activity international. How do you manage for something like that considering the ramp up you had in North America in pressure pumping just over the last six months? If that were to happen, is it a smooth transition for Schlumberger? And it's obviously beneficial because you're bigger internationally, but with everything that's happened is there a dislocation coming if that were to happen?

Well, first of all, I’m not saying that that’s happening.

Please believe me – believe me, nobody has been able to rein in the E&P industry, so...

Exactly. So, I think it’s unlikely that you’ll see a major sort of tectonic movement here. But the fact that the industry in North America land continues to operate way beyond cash flow, I think that’s going to be challenged if oil prices stay where they are. So that could mean for sure that the growth rate would slow. I don't think you’ll see a significant reduction in activity, but I think the growth rate might slow. So I think there are still going to be possibilities both to land and potentially raise more equity, but in the event we continue at the current oil prices, I think the industry is going to be a bit more strained than what we have seen in 2017. Now, how we would manage that? We obviously – we are redeploying very actively our idle frac capacity. These are assets that we own already. And we are hiring people to operate them. And we are in a cyclical business. And it's a matter of adding proactively when you have the opportunity to catch growth and generate incremental activity. If there is a headwind then we need to deal with it.

Okay. And my follow-up would be, are we at the point in pressure pumping regarding demand, cost of reactivation, etc., where Schlumberger is considering ordering new pressure pumping equipment?

No. We’re not. We are very actively working on closing out the OneStim JV with Weatherford with the DOJ. There has been some additional information from the DOJ which we are now providing them with. And we are obviously optimistic that we can close this during the second half of the year. And when that’s done, we will have sufficient pressure pumping capacity to see us through at least 2018.

So, yes, we obviously have engaged with quite a few people in the financial world. We’re working through a few banks focused on the variety of target groups that we are trying to look at, but it's mainly banks, family offices, pension funds that are showing quite a bit of interest in being part of this. So at this moment a lot of these discussions are taking place, but as you well know, there is a tremendous amount of money available looking for the right deal to be part of.

Thanks. Good morning, guys. Paal, you all have given, I’d said, more time to sustainability this year than we’ve seen in the past. I was just wondering if you could talk about sustainability just from a strategic standpoint and how it's impacting cultures as well as potentially the way Schlumberger does business around the world?

We have always prioritized sustainability and the influence our operations have on the environment, as well as the positive effects we have on the communities we engage with globally. However, until the last couple of years, we hadn’t thoroughly documented these efforts or compiled them into a format suitable for presentation to governments and our investors. This has become our primary focus recently. We also participate in various reports and initiatives to gain certifications and achieve rankings that reflect our sustainability efforts. Over the past few years, we've consolidated our activities into a comprehensive report that is accessible to local communities, governments, and the investment community, clearly outlining our long-term commitment. We recognize how crucial this is for investors, particularly those who prioritize sustainability when making decisions about their investments. We are enhancing transparency about our efforts, making them more visible in a summarized way.

And so it becomes a key competitive advantage, do you think?

Well, I haven’t looked exactly at what our competitors are doing here. What we are doing is something that we believe in and that we’ve done for a long time. And I said the main thing we've done now is to just summarize it, and whether that’s a competitive advantage or not, maybe it is but we haven’t done it for that reason. We’ve done it because we believe in it and it's something very worthwhile for us to do.

Okay. And then, if I could just follow up on the incremental margin question. When we have talked about 60%, 65% incrementals in the past for a country, once it sort of reaches the inflection point of growth, is there a growth rate that is really necessary to drive that kind of incrementals? I think about faster velocity driving some inflation, perhaps acceleration of technology use, etc. Is a slower growth trajectory, I guess, a struggle to achieve the kind of incremental margin?

I believe that in international markets, if the growth rate is higher, it would be easier to achieve higher incrementals. We are well managing the supply chain there just as we do in the U.S., but inflation in the U.S. tends to rise more quickly with significant activity increases. Therefore, higher growth rates would likely make it easier to achieve incrementals, provided we have good control over the supply chain. However, for the 65% incrementals, we need to ensure some pricing. These incrementals will materialize once we transition from a part of the business that is still declining and facing pricing issues. We need to firmly hit bottom in all business aspects and then start recovering, including pricing. Thus far, looking at company-wide incrementals for Q2, mid-30s is acceptable at this stage, though not fantastic. We are strongly focused on this moving forward. As we approach the end of the cycle's bottom, I expect us to get closer to the incrementals we promised.

Can you hear me? Everything is good.

Yes. Hi, Kurt.

Okay, good. Paal, given the beat quarter and a general positive commentary in the press release and what you've been saying here on the call, I’m assuming that bodes well for some upside earnings revisions in the back half of the year. How do you feel about where Street numbers are right now if you look into the third quarter, fourth quarter this year?

Well, if you look at Q3 in terms of the business, we expect to see continuation of the trends that we saw in the second quarter. So, for North America, that means continued solid growth. We expect the rig count to continue to grow in Q3, although likely slow somewhat in pace. We expect to see additional pricing and share gains in directional drilling, and as I mentioned earlier, we will continue to activate or reactivate frac capacity at the same rate as we did in Q2. Internationally, we also expect to see a continuation of these encouraging signs we saw from Q2. We do expect single-digit sequential growth in ECA and MEA, and actually most of the deal markets in these two areas will see growth we expect in Q3. But due to activity mix and some completion of projects, we likely see a slight drop in Latin America in Q3. So I would say, combining all of this, I believe that the current Street consensus for Q3 is a good starting point.

Okay. And you know I think the stock is obviously trading on what expectations are for 2018 and then probably way too early for anybody to make that assessment for sure, but some of the commentary you had in the call today, you sort of paint a more optimistic picture than where sentiment is, you know, at this juncture. So what do you think the primary risk would be overall to an improvement in 2018 versus 2017? Maybe you can give us some color, also maybe some benchmarks for us to look for in the back half of the year that would either give us more confidence or flag some additional risks as we look out to 2018?

Yes, to comment on 2018, I think like you say is still too early. In terms of where we sit at the company, and I’ll comment on the overall in a second, but I think if you look at our position in North America land, we have never been better positioned to capture growth both in the drilling manufacturing business. And internationally, with some of the recent moves that we just announced plus the overall step out we’ve had in total addressable market, we are extremely well positioned to capture growth in every corner of the world as the global investment eventually will start to increase. So, I will say the short-term risk from the trends that we are currently seeing, I think would be that, there are still issues around how the market sees inventory growth. So far in July, it’s been very positive, in particular in the U.S., and if this continues, I think that should bode well for a gradual increase in oil prices in the second half of the year. But as a matter of how fast the U.S. producers are putting barrels on the market and also what’s going to be important is what OPEC and Russia does, you know, come the end of the nine-month production cut period, right? So I think there are issues around or risks around how they interplay between the U.S. producers on one side and the Russia-OPEC producers on the other side, how they play this out over the next year or so. We are very clear in our view that going into 2019 and 2020, we are going to have potentially significant supply challenges. So the fact that global investments will come up in that period, I think is very clear. What’s going to happen in the period before we get there is going to come down to the plans of OPEC and Russia on one hand and the U.S. producers on the other.

Good morning. Just had a question on SPM, so given the margin and returns accretive nature of your SPM work and the plans to double the revenue base over the next couple of years, could you just frame for us how you think about which of your three international regions in which you report revenues are likely to drive that SPM growth? I know you got projects in a number of different countries but I’m just trying to think about it in terms of your three international regions?

Yes, I am disappointed but not going straight international. But I think that some of the very large opportunities that we see here at the moment and we are working on actively at this moment are actually right in North America. Apart from those, there are significant projects coming up in discussion in the Middle East that might not strike you as the first place for SPM to take place. But also there we have significant opportunities. And apart from that, it is going to be more of Asia, more of Africa, those are the key type of areas that we are looking at the moment. But I don’t think you can underestimate the impact that SPM can have in North America.

Thanks, good morning. I had a follow up on OneStim if you don’t mind. Paal, you mentioned that you expected for the Schlumberger equipment to be fully utilized by the beginning of the fourth quarter. As you look into 2018, as you acknowledge there is quite a bit of uncertainty as to how spending budgets progress, how do you think about deploying the auto Weatherford equipment into that environment? Do you look for contracts, do you kind of force the issue and try to push equipment out, or how do you think about reactivating that equipment in a more uncertain environment for next year?

Well, I will say the following that the OneStim JV isn’t focused on the next couple of quarters. We did this because we have the medium to long-term view on the North American land market. There might be challenges overall in terms of the volume of the market, but I think there is still going to be a significant core that’s going to withstand oil price challenges and still going to be profitable. And I think the combination of scale and efficiency and technology that we will bring and vertical integration is going to make OneStim very competitive in any kind of market condition. So, obviously if activity was to flatten out for a period of time when you come early into 2018, then we will deploy what makes sense to deploy and the rest we will keep idle and ready for deploying later. So, we are not doing this for the next couple of quarters; we are doing this for the medium to long-term.

Got it, okay thank you for that. And my follow up is just kind of following up on some of the offshore commentary. If we cannot stay in this $45 to $50 range for an extended period of time, how do you kind of think about the various pieces offshore? Obviously, you are seeing an uptick in FID activity, obviously everything shallow water activity continues to improve, but how do you think about deep water on kind of big projects towards on a longer-term basis if we stay in this kind of environment for a prolonged period of time?

I think if we stay in this environment for a long period of time, I think you will unlikely see large infrastructure projects, whether it’s a significant gap between cash outlays and cash returns, but I still think that even in deep water, there are opportunities for tiebacks and utilization of existing infrastructure tiebacks using, you know, multi-face pumps and so forth, right? So there are opportunities that we are seeing through OneSubsea which actually isn’t all concentrated on shallow water. There are a fair bit of deep water projects being considered and prepared for FID as well. So, but I think they are going to be all relatively short cycle in nature and we obviously we have a very big position to participate in this and support our customers in getting those projects online. So, thank you for that final question. I would now like to summarize the three most important points we have discussed this morning. First, we remain positive on the oil markets despite the current negative sentiments that have created more uncertainty around the shape and the timing of the market recovery. We believe that globally E&P investments will need to increase significantly in the coming years to address the pending supply challenges resulting from three years of under-investment. And Schlumberger is uniquely positioned to capture growth in all markets as global investments start to recover. Second, we have shown you why we believe in the potential of Schlumberger production management to provide an activity baseline to geoparket operations that also delivered full cycle returns that are highly accretive to our business. And third, we are continuing to build out our offering both in terms of technology and geography. The OneStim joint venture with Weatherford adds scale and technology to our integrated production services in North America land, while our agreement to acquire a majority stake in EDC in Russia offers significant opportunities to expand our presence in the conventional land drilling market in Western Siberia. That concludes today’s call. Thank you for participating.