Costs must be controlled, but savings achieved via cuts in HSE, training are just false economy

Industry leaders must not look to short-term savings but to systemic efficiency gains that will facilitate long-term success

By Linda Hsieh, Managing Editor, and Kelli Ainsworth, Editorial Coordinator

David Williams is Chairman of the Board, President and CEO of Noble Corporation. Mr Williams is past Chairman of IADC and is a member of the IADC Executive Committee.

From your perspective at Noble, what do you see as the most critical challenges facing the industry in this down market?

The most critical challenge, and overarching goal for Noble, is to deliver safe operations and ensure environmental awareness in all that we do. Whether the market is up or down, we are committed to running our business in a safe and responsible manner.  Cycles are just a part of this business. It’s the nature of the beast.  Predicting when a change in the cycle will occur is next to impossible, but history tells us they will come. At Noble, we’re blessed with some very good contract coverage, and our focus remains on continuous improvement to safety and environmental compliance and on running our business efficiently.

So you don’t think safety is getting lost amid pressures to cut costs?

It’s certainly a risk to the industry that we lose focus on safety, and that’s something that concerns me. At Noble, we are clearly focused on cost control, but at the same time we have made it very clear that we are not going to compromise when it comes to proper preventative maintenance. Likewise, we’re not cutting back on safety and training. Our Noble NEXT Center’s best-in-class offerings and other trainings, such as a newly created MARPOL program we have developed with the Massachusetts Maritime Academy, remain central to how we operate.

Historically speaking, however, employee development opportunities might have been among the areas that a drilling contractor would cut. I believe that, in this post-Macondo world there is greater awareness of the importance of training. With today’s more sophisticated operating environment and higher-complexity drilling rigs, any short-term benefits of cuts in training would be foolish. Such savings are false economy, in many respects.

How might the downturn affect the industry’s recruitment and training of the next generation of workers?

At Noble, we’ve built and delivered a lot of new rigs over the past five years. Those investments have been paired with top-flight crews. We also invested a lot of money repositioning and developing new processes, procedures and protocols for almost everything we do. One thing I’ve been saying for a long time is that we’re used to running Fords and Chevys, but now we’re building Formula 1 cars. We have to get wired for that high-tech line of business. While hiring may have temporarily slowed, we continue to invest in our people and seek out the best candidates, internally and externally, for every opportunity. They are the future of our business.

How does this downturn compare to previous industry downturns you’ve been through?

Over the past few decades, there have been several swings in offshore drilling demand – both in terms of growth and then retrenchment. My view is that each cycle manifests itself in different ways. Some observers compare the current cycle with the one in the ’80s. I think there are some similarities, but there are also some differences. It’s similar in that it looks to be product price-driven and hydrocarbon supply side-driven. The biggest difference is that in the early ’80s, most of the fleet was very young. Today, about half of the global fleet is 30 years old or older. Drillers have the opportunity to scrap some of those rigs, improving the composition of the global fleet and accelerating a return to a more balanced market. That’s not a benefit we had in the ’80s, and I think you’ll see acceleration of retirements through the cycle.

There also is room for some of the older iron to continue working. There are markets that are serviced almost exclusively by older equipment. I believe those rigs that have been maintained through their life to this point still have a viable future. The other side of the coin is that units that have not been as well maintained will require significant capital to continue to work. This reality will likely drive retirement decisions – something I expect we will see more of in 2016.

Why do you think we haven’t seen more rigs being retired over this past year?

In the end, this is a decision that is made on a rig-by-rig basis. If the rig is working, you certainly don’t want to pull it out of service. Factors such as a rig’s capabilities, marketing potential, investment requirements and location all enter into retirement decisions. To date, we have seen 43 floaters retired during this cycle, and I’d expect to see that number continue to go up.

The jackup business has held together a little bit better than some had predicted, but the retirements are coming there, as well. It’s just a matter of time. People are starting to talk about this being a bathtub-shaped downturn. So the supply side will inevitably shrink. Longer term, the current phase of the cycle will be beneficial to the industry overall. For example, we are making systemic changes in the way we operate, which will drive efficiency going forward. Periods of market weakness tend to make strong companies stronger and hasten the exit of weaker participants.

How can companies try to better manage these cycles and position themselves for long-term success?

Clearly an important factor about Noble’s ability to manage the current cycle was the timing of our newbuild program. We took the last elements of the newbuild program to our Board of Directors in October 2010. We also demonstrated discipline in our view of the market for newbuilds. At one time, we had 14 rigs under construction, and we had a solid marketing plan for those units. But near the end of our program, there were signs that the newbuild levels weren’t rational, and orders had begun to get ahead of what the industry could manage.

I’m very proud that our management team developed a clear strategy and took it to the board five years ago. I’m equally pleased that we didn’t overdo it. Today, some contractors are pushing their deliveries to the right. That just adds costs and risk to the program. In the end, the cost of maintaining that asset and carrying the cost of the capital in that project has to be paid. It adds cost, and it adds risk to the backside. It doesn’t solve the problem.

We started preparing for this cycle early, and I believe we are among a short list of drillers who are actually positioned for advantage, with a healthy balance sheet, strong customer relations, outstanding operational performance and excellent fleet composition.  That’s not by accident. As the cycle began to turn, we were at the end of the ramp-up of our newbuild program, and today we have only one remaining newbuild that will be delivered this year. Our ramp-up, our development of personnel, our assigning and how we were preparing for these newbuild rigs – all of that heavy lifting was really done as the market began to soften. As I see it, these are the attributes that describe a company that is equipped for the market we expect in 2016.

Would you say that drilling contractors and service companies have bore the brunt of the price cuts so far in this downturn? Will the service industry contract if this continues?

There’s plenty of pain to go around, and we’re all in this together. Inevitably, however, the service side is going to bear a big chunk of this, and it’s going to shrink. But one thing that I’ve learned through my years is markets work. As it relates to offshore drilling, supply and demand are rarely in balance. Today we have overcapacity reflecting reductions in activity. But the fundamentals offshore are still good, and activity levels will rebound at some point. In the meantime, I expect contraction in both the number of drillers and on the operator side, as well.

What are some ways that drilling contractors can further reduce costs to make more projects economically viable?

You can only push on so many things when it comes to cost control offshore. Labor is the biggest cost. Repair and maintenance is another big cost. At Noble, we’ve been pushing on costs for a long time and on everything we can. However, if your rig is  under contract, you have to provide a certain suite of services under that contract, and you’re not allowed to deviate from that commitment.

With this in mind, you have to push on things that don’t impact the overall operation. When the industry was in heavy growth mode, we put in place retention devices to incentivize and retain our employees. The need for those devices has obviously changed in this environment, and our workforce is very stable.

We are also pushing the cost control effort down to our vendors and suppliers and have met with success in those areas.

Do you find that operators are more receptive now to new or innovative ideas to operate than they might have been earlier?

I think while they all want ideas to save money, the better focus is on efficiency. If we can help lower the total overall cost of delivering a particular well, that clearly helps us and the operator. For example, we have recently been utilizing our Noble NEXT Center to take the “drill the well on paper” idea to the next level. Using the technology, we are drilling “virtual wells” to assist in well execution strategies. So yes, I’d say our customers are open to innovation, and we see it as a way to add value going forward.

Would you say there’s a little bit more visibility into the future now than there was a year ago?

I don’t think any of us really knows when the offshore market will turn positive. There are certain realities about national oil companies that have a need to produce for the greater good of their particular enterprise. There are also major oil companies that have a need to share capital with their shareholders. The fact of the matter is that the oil companies really can’t make money unless they’re discovering oil or gas and replacing reserves.

This reality means that they have to drill at some point and won’t be sitting on the sidelines indefinitely.

The bottom line is that 2016 is likely to be another tough year for the industry. The rate of growth of spending really peaked in about 2011 or 2012, and it’s been coming down. It didn’t go down in real dollars until 2014 or 2015, and I would expect 2016 spending will be down further. That said, most operators are playing their cards close to their vests. If capital spending is flat relative to 2015, you’ll see more wells drilled because the cost base will be lower. Assuming some level of crude oil price support and stability, we could anticipate demand in 2017 could flatten out and start moving toward a more positive outlook.

Drilling contractors have built very modern and advanced rigs in recent years. Will the technologies on these rigs carry us through until the next newbuild cycle, whenever that may be?

Drilling technology hasn’t functionally changed a lot on the rig. It’s still a derrick with a mechanism to rotate pipe and put mud in the hole for mechanical purposes to make the wellbore stable and carry cuttings up. We have better volumes, we have better weights, and we have more efficient equipment. With the rigs we just delivered, we have 2.5 million-lb load paths. The rigs that we’ve built have some of the latest technology out there and can certainly meet drilling needs for the next 15-20 years. I have no concerns about that at all.

So you don’t think major step-changes might come out of this downturn?

There may be, but I think the technologies are in the well and not on the rig. I don’t see anything that’s going to turn water into wine for us from a drilling contractor perspective, or anything that’s going to make our rigs obsolete. There may be some better downhole technologies or better production technologies to increase the recovery of reserves.

What about changes in the fundamental business model of the industry?

This business model is tried and true, and drilling efficiency is what’s going to drive this thing through. Frankly, I don’t see any large breakthroughs in how we price our services. We collaborate as much as we can operationally with our customers, but the fact of the matter is that we have different shareholders and different drivers than they do. We’re in similar parts of a larger industry, but we’re different companies in different businesses.

We want to collaborate, but I don’t know that I see a change in the business model that makes a lot of sense. Some people are saying the service industry is taking too much of the cash out of the business. The flip side of that is operators want us to do things that we couldn’t do with older rigs. So when we built rigs that would do what they want them to, there’s a cost associated with that.

It’s a balance. Their shareholders need to get a decent return, and so do ours. That’s one of the fine lines you walk in this business.

What is your long-term outlook for this industry?

The world runs on oil and gas. No matter how much politicians spend on alternatives and renewables, the world runs on oil and gas, and the developing world runs on oil and gas. The future of our business is very secure. DC