Get Started for Free Contexxia identifies hard-to-find pieces of information in SEC filings. No more highlighters, no more redlining, no more poring over huge documents. OIL STATES INTERNATIONAL, INC (1121484) 10-K published on Feb 19, 2019 at 4:53 pm
Reporting Period: Dec 30, 2018
Moreover, non-governmental organizations may seek to restrict hydraulic fracturing. For example, certain interest groups in Colorado opposed to oil and natural gas development generally, and hydraulic fracturing in particular, have from time to time advanced various options for ballot initiatives that, if approved, would allow revisions to state statutes or the constitution in a manner that would make such exploration and production activities in the state more difficult or expensive in the future. In each of the November 2014, 2016 and 2018 general election cycles in Colorado, ballot initiatives have been pursued, with the 2018 initiative making the November 2018 ballot, seeking to increase setback distances between new oil and natural-gas development and specific occupied structures and/or certain environmentally sensitive or recreational areas that, if adopted, may have had significant adverse impacts on new oil and natural-gas development in the state. However, in each election cycle, the ballot initiative either did not secure a place on the general ballot or, as was the case in November 2018, was defeated. Similar initiatives may be pursed in Colorado and other states in the future.
In foreign countries outside of the United States, including provincial, regional, tribal or local jurisdictions therein where we conduct operations, there may exist similar governmental restrictions or controls on our customers’ hydraulic fracturing activities, which, if such restrictions or controls exist or are adopted in the future, our customers may incur significant costs to comply with such requirements or may experience delays or curtailment in the permitting or pursuit of their operations, which could have a material adverse effect on our business, results of operations and financial condition.
Moreover, in 2016, the BOEM issued a Notice to Lessees and Operators ("NTL") that would bolster supplemental bonding procedures for the decommissioning of offshore wells, platforms, pipelines, and other facilities by oil and natural gas exploration and production operators, some of whom are our customers, on the Outer Continental Shelf ("OCS"). However, since the BOEM’s issuance of the NTL, the agency has delayed indefinitely beyond June 30, 2017, the implementation timeline of the NTL for most of those facilities so that BOEM could further assess this financial assurance program. This delay is expected to be temporary and following completion of its review, the BOEM may elect to retain the 2016 NTL in its current form or may make revisions thereto. Consequently, until the review is completed and the BOEM determines what additional financial assurance may be required of operators on the OCS, which additional assurance amounts could be significant, we are unable to assess the extent to which our customers on the OCS will be able to comply with any such assurance obligations. Significant increases in financial assurance could adversely affect the ability of our customers to operate on the OCS, which could reduce demand for our products and services to those customers. Also, in 2016, the BOEM published a proposed rule that would update existing air emissions requirements relating to offshore oil and natural gas activity on the OCS which would include a requirement to report and track pollutant emissions affecting human health and public welfare. However, pursuant to the Executive Orders, the BOEM has ceased rulemaking activities and is reviewing the continuing need for the proposed air quality rule.
These regulatory actions, or any new rules, regulations, or legal initiatives could delay or disrupt our customers’ operations, increase the risk of expired leases due to the time required to develop new technology, result in increased supplemental bonding and costs and limit activities in certain areas, or cause our customers to incur penalties, fines, or shut-in production at one or more of their facilities or result in the suspension or cancellation of leases, any or all of which could reduce demand for our products and services. While the Trump Administration has generally indicated an interest in scaling back or rescinding regulations that inhibit the development of the U.S. oil and natural gas industry, it is difficult to predict the extent to which such policies will be implemented or the outcome of any litigation challenging such implementation.
The macroeconomic environment for the energy sector has been volatile in recent years. Significant downward crude oil price volatility began early in the fourth quarter of 2014 and continued on a downward trend into 2016. In response to weak crude oil prices, the Organization of Petroleum Exporting Countries ("OPEC"), along with Russia, agreed to reduce crude oil production in late 2016 in an effort to re-balance crude oil supply and demand in the market. Crude oil prices began to improve in the second half of 2017, which carried into 2018. During 2018, crude oil prices rose to their highest levels since the downturn began in late 2014, improving our customers' cash flow and potentially driving them to invest additional capital to increase their production. Additionally, advancements in technologies and improved operating efficiencies have allowed the U.S. exploration and production industry to lower the breakeven price of oil and gas production. The U.S. Energy Information Administration ("EIA") estimates that U.S. crude oil production averaged 10.9 million barrels per day in 2018, up approximately 17% from the 2017 average, reaching its highest level and experiencing the largest volume growth on record. However, during the fourth quarter of 2018, crude oil prices declined approximately 40%, due in part to higher than expected supply growth from the United States, Russia and Saudi Arabia, as well as concerns over the possible slowing of global demand growth. In response to the precipitous decline in crude oil prices, OPEC and Russia agreed to reduce production and the Canadian government mandated a production shut-in in December of 2018. While these and other events should provide support for a more balanced supply and demand environment later in 2019, the EIA currently forecasts that the average price per barrel of crude oil in 2019 will be approximately 15% below the 2018 average.
As shown in the table that follows, West Texas Intermediate ("WTI") and Brent crude oil prices averaged $65 per barrel and $71 per barrel, respectively, in 2018, up 28% and 32%, respectively, compared to 2017 average prices. Rising crude oil prices rapidly translated into increased U.S. land oriented drilling and completion activity during 2017 and 2018 in areas of concentrated activity such as the Permian Basin, which led to record high domestic production. Spending in the U.S. shale play regions positively influenced overall drilling and completion activity, with the average U.S. rig count for 2018 improving 18% compared to 2017. This drove improvements in activity for our Well Site Services segment as well as demand for our Downhole Technologies' products and short-cycle products offered by our Offshore/Manufactured Products segment. Production in the Permian Basin grew at such a rapid rate that it tested the limits of pipeline take away capacity out of the basin in 2018, leading to a significant differential between crude oil prices realized locally (e.g. WTI-Midland) compared to Brent crude oil prices, which limited the revenue and cash flow growth for many of our customers. As discussed above, crude oil prices declined materially in the fourth quarter of 2018 – with WTI closing at $45 per barrel on December 28, 2018. This decline in crude oil prices had a moderating impact on our fourth quarter 2018 consolidated results of operations, particularly in U.S. shale play regions, and will likely negatively impact customers' 2019 budgets. As a result, we expect certain customer-driven activity declines in early 2019, as operators reassess their budgets and plans in light of lower commodity prices. Current and expected future pricing for WTI crude will continue to influence our customers’ spending in U.S. shale play developments as they look to spend within their generated cash flow ranges. Expectations for the longer-term price for Brent crude oil will continue to influence our customers’ spending related to global offshore drilling and development and, thus, a significant portion of the activity of our Offshore/Manufactured Products segment.
As discussed above, our annual assessment has appropriately considered the impact of the current market environment and industry outlook by using projected discounted cash flows reflecting expected market conditions at December 31, 2018 in estimating the fair value of our reporting units. The underlying fundamentals supporting the crude oil and natural gas markets continue to support long-term crude oil demand growth and the need for additional crude oil production. After giving consideration to various macro-economic factors, we concluded that our market capitalization as of December 31, 2018 was temporarily impacted by various market forces which did not indicate that it was more likely than not that the carrying amounts of our reporting units exceeded their fair values. This qualitative assessment is further supported by the subsequent recovery in crude oil prices in early 2019 to a level above the prices in effect at year end. In addition, our stock price also recovered a portion of its value since December 31, 2018. Our stock price in 2019 averaged $17.30 per share through February 15 (a 21% increase from our closing stock price of $14.28 on December 31, 2018). We continue to monitor commodity prices and other significant assumptions used in our forecasts. If we experience a prolonged decline in long-term demand for crude oil and natural gas or significant and sustained increases in commodity supplies, which serve to depress commodity prices over the long term, we will be required to update our discounted cash flow analysis and potentially be required to record a goodwill impairment in the future. Furthermore, if our market capitalization remains below our book value for a sustained period of time and the implied fair value of our equity is not reasonably supported by equity control premiums, we will need to consider updating our assessment.