And gentlemen, thank you for standing by and welcome to the Schlumberger Earnings Conference Call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session with instructions given at that time. As a reminder, this conference is being recorded. I would now like to turn the conference over to Vice President of Investor Relations, Simon Ferrant.
Please go ahead.
Thank you. Good morning, and welcome to the Sunprojae Limited First Quarter 2015 Results Conference Call. Today's call is being hosted from Houston. Joining us on the call are Paul Kidscarf, Chairman and Chief Executive Officer and Simon I, Chief Financial Officer. Our prepared comments will be provided by Simon and Paul.
Simon will first review the financial results and then Paul will discuss the operational and technical highlights. However, before we begin with the opening remarks, I'd like to remind participants that some of the information in today's call may include forward looking statements as well as non GAAP financial measures. A detailed disclaimer and other important information is included in the earnings press release on our website. We welcome your questions after the prepared statements. Now I will turn the call over to Simon.
Thank you, Simon. Ladies and gentlemen, thank you for participating in this conference call. 1st quarter earnings per share, excluding charges and credits, was $1.06 This represents decreases of $0.44 sequentially and $0.15 when compared to the same quarter last year. During the quarter, we recorded $439,000,000 of pretax charges. This includes $390,000,000 of charges associated with a headcount reduction of $11,000 as well as an incentivized leave of absence program.
This program provides us with some flexibility as we manage the uncertainties of the current environment. In Venezuela, during the Q1, the CCAS II exchange rate of 50 bolivars to the U. S. Dollar was eliminated and replaced with a new system known as SIMADI. The SIMADI rate was approximately 192 as of the end of the quarter.
As a result, we recorded $49,000,000 of devaluation charge during the Q1. After this charge, the U. S. Dollar value of our Bolivar denominated net assets is not material. Therefore, any further devaluations of the Bolivar will not have a significant impact on our results.
Our first quarter revenue of $10,200,000,000 decreased 19% sequentially, while pretax operating margin decreased 255 basis points. Approximately 25% of the sequential revenue decline was attributable to the currency effect and the absence of the year end increase in product, software and multi client sales that we experienced last quarter. The remaining decrease was driven by activity and price declines. Despite the very challenging environment, pretax operating margin declined 255 basis points sequentially, which resulted in incremental margins of only 33%. This is a result of prompt and proactive cost management across the organization.
It's worth noting that although our revenue was significantly impacted by the fall in value of many currencies, this phenomenon does not have a significant impact on our pre tax operating income. This reflects the benefit of our local cost structure, which largely serves as a natural hedge against currency movements on our bottom line. Highlights by product group were as follows. 1st quarter Reservoir Characterization revenue of $2,600,000,000 decreased 21% sequentially, while margins decreased 4 47 basis points to 25.7%. These decreases were largely due to seasonally lower multiclient and software sales and a fall in higher margin exploration activity.
Drilling Group revenue of $4,000,000,000 decreased 15% sequentially, while margins only declined 80 basis points. These declines were primarily driven by the severe rig count drop in North America. Production group revenue of $3,800,000,000 decreased 22% sequentially and margins fell by 389 basis points, primarily on lower pressure pumping activity and pricing pressures in North America land. Now turning to Schlumberger as a whole, the effective tax rate excluding charges and credits was 20.9% in the Q1 compared to 21.4% in the previous quarter. This decrease reflects the fact that we generated a smaller portion of our pre tax income in North America during Q1.
As we called this throughout the year, the ETR will continue to be very sensitive to the geographic mix of earnings. We generated almost $1,800,000,000 of cash flow from operations and net debt increased $100,000,000 during the quarter to $5,500,000,000 This is all despite the consumption of working capital that we typically experienced during Q1, which is driven by the annual associated with employee compensation as well as the payment of $245,000,000 in severance during the quarter. Even with the challenges of the current market, we still anticipate generating very strong free cash flow. This is because during the downturn, we continue to reduce our investment in CapEx and working capital requirements will also come down. This combination should more than offset the decrease in earnings.
During the quarter, we spent $719,000,000 to repurchase 8,700,000 shares at an average price of $82.98 We spent $606,000,000 on CapEx. Full year 2015 CapEx excluding MultiClient and SPM investment is now expected to be approximately $2,500,000,000 And now I will turn the conference call over to Paul. Thank you, Simon, and good morning, everyone. Our first quarter revenue declined 19%, driven by the activity collapse on land in North America and the associated pricing pressure. International activity was lower as customers cut budgets in response to lower commodity prices and was also impacted by the normal seasonal effects in the Northern Hemisphere and the fall of certain local currencies against the U.
S. Dollar. In spite of these top line headwinds, we have been able to minimize the impact in our pretax operating margins through prompt and proactive cost management and by further accelerating our transformation program. This is reflected in our Q1 international margins, which are essentially flat sequentially and are up year over year. We have also delivered better decrementals than in any previous downturn with sequential decremental margins as low as 33% with North America and the international areas achieving 39% and 25% respectively.
The pace and magnitude of the activity reductions, particularly in North America, has been almost unprecedented and we have to go back to the mid-1980s to find anything similar. And while we thought we had adequate plans in place going into the quarter, activity declined even faster than expected, which required us to revise our plans accordingly. This made managing the quarter challenging, including the decision to further reduce our workforce by 11,000 employees, bringing the total personnel reduction to 20,000 or around 15% compared to the peak of the Q3 of 2014. Looking at our corporate financial performance, we generated more than $1,200,000,000 of free cash flow before restructuring payments during the Q1. And we remain confident in our ability to generate free cash even in these market conditions, and we expect to maintain the cash quality of our earnings by continuing to convert 75% or more of our net income into free cash flow.
By geography, our North American revenue decreased 25% sequentially, which was significantly lower than the 33% drop in land rig count. Operating margins in North America decreased 6 70 basis points sequentially to 12.9%. In spite of these severe activity and pricing declines, sequential decrementals were limited to 39% as we maintained as we remained fully focused on flawless execution and proactive cost management. In U. S.
Land, drilling and simulation activity was down in all basins, while activity also dropped significantly in Canada when the reduction in rig count was further impacted by the early spring breakup. In the U. S. Gulf of Mexico, deepwater activity was resilient in the Q1, although we are seeing a steady change in service mix from exploration towards development work driven by budget cuts for most of our customers. On land in North America, pricing pressure was greatest for hydraulic fracturing services, although some of this impact was mitigated through increased new technology uptake, particularly for our broadband stimulation services and Infinity completions products.
In spite of this, market pricing for certain products and services has already reached unsustainable levels. However, we are being selective in the pursuit of market share and very disciplined in the avoidance of loss making contracts. We continue to work with our customers to have lower drilling and completion costs while focusing on the savings that new workflows and technologies can bring. We are doing this through our technology integration groups that house the full range of shale expertise spanning formation evaluation, drilling, stimulation and completions. The experts taking off these integration groups are located in the Varunuch Shale Basins in North America land and have both the scientific understanding of how to optimize shale developments and also an in-depth knowledge of our complete technology offering, which they combine to design the best solution for each reservoir and each well.
The track record we have established over the past 5 years has now given us the confidence to propose a range of new business models to our customers, where we initially absorb the incremental costs linked to our workflows and technologies in return for an upside based on the actual production results. One example of our unique sales technology is highway, which helps customers increase production and ultimate recovery while using less water and problem. In the period between 2012 2014, wells completed with highway technology in the Eagle Ford showed a 26% increase in the best 3 months of production compared to wells stimulated with conventional treatments. Biobate technology also helped save around 1,400,000,000 gallons of fracturing fluid and about £2,800,000,000 of proppant in more than 1,000 wells. The success of the highway technology is now being complemented and extended by the rapid uptake of broadband sequence, which has already shown remarkable performance for a range of customers in both new well completions and in refactoring of old wells.
In the international markets, revenue declined 16% sequentially, driven by seasonal weather impact, currency effects and customer spending cuts. But despite the severity of the sequential revenue decline and the unfavorable shift in revenue mix, we managed to minimize the impact on our pretax operating margins, which was essentially flat with the previous quarter at 24.1%. This performance was achieved by strong execution, proactive cost and resource management and the acceleration of our transformation program, which together were able to offset the margin impact from both reduced activity and the pricing pressure we were seeing from all customer groups. In terms of managing the pricing pressure, we remain fully focused on navigating the commercial landscape by carefully balancing the pursuit of market share with the protection of operating margins and by always aiming to trade any pricing concessions for additional verb scope or better contract terms. Within the international areas, Middle East and Asia revenue declined by 13% sequentially, while pretax operating margin improved by 30 basis points to 28.6%.
Performance was impacted by a double digit sequential drop in revenue in the Asia Pacific region and by lower product and software sales, but was partially offset by robust activity in the DTC region. Year on year revenue decreased 5% and margins grew by 2.30 basis points. In the Middle East region, our long term Turkey projects in Saudi Arabia gained momentum during the Q1 and we expect solid drilling activity going forward together with more fracturing and rig less work. In the United Arab Emirates, development activity on the North Island of the Saar project has now started with more rig additions planned over the next few quarters. On this project, Schlumberger has been awarded a 5 year contract for the supply of integrated well construction services with further details provided in our earnings press release.
Activity in the rest of the GCC countries was also strong in the Q1, while in Europe revenues in the north remain muted at around half of the peak levels seen in 2014 and activity in the south of the country was steady around the levels seen in the Q4. In Southeast Asia, activity in China was seasonally lower in the Q1, but activity also declined in the rest of the regions as customer budget cuts continued to be implemented. In Latin America, revenue declined 20% sequentially, while pretax operating margin improved 59 basis points to 21.5%. Revenue was impacted by decreased activity in Mexico, Brazil and Colombia as customer budgets were cut and also by the fall in the value of the Venezuelan bolivar. Still these effects were partially offset by site activity increases in Venezuela, Argentina and Ecuador.
Year on year revenue decreased 6% and margins grew by 39 basis points. In Venezuela, activity continued to improve with PDVSA and with several of the joint ventures in the Farha, while activity is also ramping up in Trinidad. In Mexico, revenue decreased significantly on the combination of customer budget cuts as well as seasonal weather effects that mainly impacted offshore activity. The reduced spend mainly affected land development activity, although some exploration work was also delayed. Elsewhere in Latin America, offshore activity in Brazil remains weak with a deepwater slowdown continuing as Petrobras announced budget cuts early in the quarter.
In Argentina, activity remained resilient in the Q1, driven by simulation work and continued new technology uptake in the Vaca Muerta and with new project start ups offsetting the completion of others. In Europe, CIS and Africa, revenue fell 17% sequentially with margins declining by 133 basis points to 21%. Year on year revenue decreased 12% and margins grew by 66 basis points. The revenue decline was mainly due to continued weakness in the ruble and lower seasonal activity in Russia. In the U.
K. And North Sea, exploration activity fell to its lowest level in recent history as customer spending decelerated, while rig count in the Norwegian sector appears to have reached a bottom. In Sub Saharan Africa, both development and exploration activity was down sequentially across the region. In Algeria, activity was flat sequentially, while working Libya was limited to offshore locations with onshore operations largely shut down for the quarter. Looking at the industry as a whole, challenges will not disappear even if oil prices were to recover to the levels seen in recent years.
The industry is therefore forced to seek new ways of working together to reduce costs and create more project value. And we see a much closer collaboration between operators and large service companies as a significant opportunity to create technical solutions that will achieve these objectives. At Flomerset, we are ready to enter into these types of collaborations. And based on our technical and financial strength, we are also prepared to promote more risk based contract models where we are compensated based on the solutions we have designed as well as on the performance of our execution. And these contract structures are currently being tabled with a number of customers as part of the ongoing commercial discussions.
Turning to the 2015 outlook, visibility still remains limited. However, we expect the largest drop in E and P investments to occur in North America, where 2015 spend is expected to be down by more than 30%. We further believe that a recovery in U. S. Land drilling activity will be pushed out in time as the inventory of uncompleted wells builds and as the refracturing market expands.
We also anticipate that a recovery in North America land activity will fall well short of reaching previous levels and extending the period of weak pricing. In the international market, we expect 2015 E and P spend to fall around 15%, which will create challenges in terms of both activity and pricing levels, but considerably less than the headwinds seen in North America. The reduction in international spend was seen primarily through lower activity levels, but also with some pricing impact of basic technologies and with a continuation of the already observed shift from exploration related services towards more development activity. In terms of geography, we expect the GCC states of the Middle East to increase investments in 2015 as the core part of OPEC prepares to recruit market share as the rest of the global supply base continues to weaken. Elsewhere, we expect to see a double digit reduction in E and P investment levels in Latin America, led by Mexico and Brazil in Europe and Africa, led by the North Sea and Sub Sahara Africa and in Asia, led by China, Malaysia and Australia.
In Russia, conventional land activity in Western Siberia continues to be resilient, but the overall revenue contribution from Russia will remain subdued until there is a meaningful recovery in the ruble exchange rate. While the global foreign activity level is severe, we remain focused on the things we can control, which are our cost and resource base, the effective deployment of our technology and expertise and the quality and integrity of the products and services we provide. We remain confident in our ability to weather the storm better than our surroundings based on our favorable international leverage, our clear technology leadership in North America shale and the acceleration of our transformation program. These elements will together create a platform that should allow us to increase revenue market share, post lower earnings per share reductions than our peers in the coming quarters and continue to reduce working capital and CapEx intensity while delivering unmatched levels of free cash flow. Thank you very much.
We will now open up for questions.
Thank First question is from Ola Flor. Please go ahead.
Yeah. Thanks a lot and congrats with some pretty magnificent effects on this efficiency initiatives that you're implementing. But my opening question would be, Paul, if you could just update us on your kind of macro thoughts same way as you did on the previous two quarters and your comments that the markets might be tightening in the second half of the year, particularly with respect to how you see sort of non OPEC, non U. S, that sort of 50,000,000 barrel a day bracket be affected by the lack of investment that we've seen over the past couple of years?
Yes. Sure. Thank you, Ole. So our view of the macro hasn't really changed compared to what we said both on the October and January call. First of all, the 2015 oil demand remains strong and it was actually a rise upwards in the latest IEA report to now be about 1,100,000 barrels per day.
While on the supply side, we continue to see the market share battle playing out globally. Now the key question, as we discussed before, is when and where the large cuts in E and P investment is going to show up in the supply numbers. And the latest production data from March is now showing the first
signs of a tightening in supply. And we are basically
looking at in supply. And we are basically looking at 3 main indicators. The first one is the core OpEx spare capacity, which was down by 400,000 barrels in March to 2,500,000 barrels. The other one is the one you alluded to, which is the non NAM, non OPEC production, which showed a slight weakening in the Q1 versus the Q1 of last year. And given the reduction in E and P spending internationally, we expect this weakening to continue throughout this year.
And the third one, which everyone is looking at, is the U. S. Monthly sequential production, which is now showing the first signs of flattening. So based on this, as we said in January, we expect the global supply to continue to tighten in the second half of this year. So really no major change to our view on the macro.
Okay. Good to hear. And a follow-up question with this deal, where you think you stand on your goals that you outlined at the Analyst Day last summer. You think you mentioned that you expected to be in the 6th or 7th inning or something like that by 2017. But it looks as if things are going a lot faster.
So just in terms of just understanding the kind of momentum and how much more there is to juice to squeeze out of this lemons, could you give us your latest view on that?
Yes, sure. So if you look at how we are driving business performance today, which a lot of the focus is around managing decrementals, There's really 3 components that are part of driving this performance. First is the transformation of the mindset of our entire organization, where we have in the past couple of years taken teamwork and the tightness of the chain of command to a completely new level. So this allows us now to plan and execute and also to adjust with great pace and agility, right? And this is a process that's been going on for a number of years.
And I think it really demonstrated the our capabilities coming from this transformation in the Q1. Now the second is just diligent focus on basic cost and resource management, and this includes both our internal cost structures as well as the 3rd party spend. And although we did well in the Q1 in this area as well, these efforts are going to continue into the Q2. And then the third one is really the one that you're referring to, which is 3rd I would say that today we're probably in the 3rd ending if you want to stick to baseball terminology. It's a multiyear program.
It's going to bring a steady contribution to our performance. And we are today actively looking to accelerate the pace of this implementation. And there's a great pull from the entire organization now to accelerate this. And I'm very pleased with the overall progress in terms of how we're doing.
Thanks for clarifying. I will hand it back.
Thank you, Ulla.
Thank you. Next question from Bill Herbert with Simmons and Company. Please go ahead.
Thanks. Good morning. I wanted to actually reference your presentation of a few weeks ago, which I thought was one of the better efforts not only from Schlumberger, but just from any industry participant in some time. So first of all, with regard to a question regarding business model, you've referenced this in your earnings release. You've also referenced it several times, being prepared to move to more risk based models and specifically the significant opportunity associated with the refracing of older wells.
So what kind of uptake are you seeing with regard to the refracking opportunity? And when you describe this as a significant opportunity, can you quantify what that means in terms of how large it is?
So far and we posted some of the recent results in the earnings press release this quarter, a lot of the refrac focus so far has been around being able to identify the candidates and that's based on our understanding of the existing completions and the potential that these still hold. And then the other part is around how do you effectively do the refractory while minimizing the costs. So we have through our engineer completion and our shale formation evaluation capabilities as well as broadband sequence now established as broad technology offering. So in terms of how many wells, I would say there are thousands of wells in North America land that are candidates for refactoring and this is both shale liquids and shale gas. In terms of the market potential, I think you're talking 1,000,000,000 in terms of revenue opportunities over an extended period of time.
But this is quite a significant market opportunity. And I think the key here is that we are so confident in our ability to identify the right candidates and execute the refactoring work that we are prepared to take significant risks in terms of how we go about doing this work. We are in many cases, if we can select the candidates, prepare to put the entire bill for the refracturing work and then get paid back in production.
Okay. And then second question is more of a macro question. You had again referencing back to this presentation that you did a couple of weeks ago, the global drilling intensity slide in which you juxtaposed the 2014 production numbers from the big three liquids producers roughly the same at about 11,000,000 barrels per day, but significantly different levels of drilling activity to generate that output 36,000 wells U. S, 8,700 for Russia and 399 for Saudi Arabia. And you also mentioned a host of markets that you didn't identify, but significantly lower than the U.
S. With regard to drilling intensity. So you stated that basically required level of drilling intensity for many of these markets to keep production flat. But the question that I have is not only to keep production flat, but the production the flexibility and the wherewithal to increase production with increased drilling intensity. Can you speak
to that please? Well, what we're saying with that slide is that over time as basins mature, in order to firstly maintain production and subsequently increase production, which I think in many of the land basins we will be looking to do that in the coming years, you will have to increase drilling intensity. That's the basic message. So I think you're seeing that increase in drilling intensity happening in many basins around the world today. The drilling intensity is obviously generally far below what we are seeing today in North America land, but that's basically because in many in most of the other basins, we are still working within the conventional resource base.
And as you move from the conventional towards more unconventional, you will also generally see an increase in drilling intensity from that. But I would say even in the conventional basins, there is a growing drilling intensity, which we are then looking to capitalize on both through the subsurface integration of the bottom hole assembly as well as now going forward with our focus in on establishing our rig of the future. Okay. Thank you, sir. Thank you.
Thank you. We'll go to Jim Wicklund with Credit Suisse Securities. Please go ahead.
Good morning. Can you hear
me? Good morning, Jim.
Okay. I'm on. Thanks. Relative to Bill's question, I guess, I find the most fascinating thing about the call today is you're willing to propose a range of different business models, take some incremental technology risk and you talk about a new way of working together. So we're not just talking refrac market in the U.
S. You're sounding like a a whole new business model of how service companies and oil companies will operate in the future. I don't mean to sound too star trekky, but I mean, you're proposing something other than in the I mean in the past companies that have been willing to take participation or risk at the bottom of cycle, but you're talking about a structural change in the industry it sounds like.
Well, I do, yes. And I think it's going to be very important for the overall performance of the industry that all the design the solutions of what we're looking to build and develop that they're all invited to the table. And I would say still remaining humble, I think, being from the Schlumberger side, we have a lot to contribute when it comes to supporting the design decisions that many of our customers take for major drilling and completions developments.
Well, there is no question that you have more expertise than most any other oil company. But having worked for both oil companies and service companies, service company comes to me and oil company and says, let me show you a better way to do stuff. The first reaction is, I got engineers, I know how to do it. So this is pretty much a change in psychology, if you would, or how the industry operates. I mean, you're talking about this isn't a quick implementation, I would think, but over time?
No, it's not a quick implementation and it's not something that we can do by ourselves. And for let me just very clear, we're not saying that we can do the work our customers are doing better. But I think given the capabilities that we have, I think we are underutilized today and we have a lot more to contribute even into the design elements of the work that is related to our expertise. And I think by being invited to the table to contribute complementing what they are doing, I think we can achieve improvements in design and engineer costs out of the system before we go to implementation. And by factoring in our implementation or execution capabilities in the design, I think we can also simplify and streamline the execution part of the work as well.
So this is something that we are going to offer, Jim. Some of our customers might take us off on it and some of the others might not. And for the ones that are not, we will continue to work the way we're currently doing. But I think this is something that we believe can bring significant value and something that we are prepared to take on and also put some more skin in the game.
I think that's fabulous. Congratulations. Thanks and good quarter guys. Thanks.
Thank you.
Thank you. David Anderson with Barclays. Your line is open.
Thanks. It's sort of a related question what Jim was asking. I was just wondering kind of more specifically around offshore development and exploration. Obviously, with lower oil prices, it's a really challenging market right now. Some would even say the IOC business model is broken.
It looks to us like maybe a couple of years this could be in a slowdown here. So I'm just kind of wondering, this is a pretty big part of your business. Schlumberger is oil the services part in the scheme of things isn't a huge part. Can you just help us under give us a bit of a roadmap for how you think some of the IOCs are going to navigate through the deepwater and exploration and how you see this kind of progressing in order to get this fixed?
Well, I think if you look at Deepwater First, this represents a huge resource base for the industry. Now given the level of development cost today as well as given the level of recovery factors that we're seeing today, the cost per barrel for these type of developments is challenged. So there has to be a change, I think, overall in how these developments are done. We have to get the cost down and we also have to drive recovery up. And if you can do both, I think a large part of the reserve base and the discovery base that we have established over the past decade in deepwater can and will be developed.
So I think this is the challenge that the industry has and we are prepared to contribute towards finding the right solutions. And I think when the industry really puts their mind to something, we will find the solution and it will be sorted out. As to exploration, I think the playbook we're seeing now is the normal one. Exploration is the first thing that can be cut, which is not going to have a short term and immediate impact on production. Looking at the current levels of exploration spend today, it is clearly unsustainable.
I don't think it's going to get fixed or improved anytime soon or at least not in 2015. But it is very clear that this level of exploration spend is not going to continue for many years.
Okay. And kind of separate topic on talking about the North America. You've talked about how the rig count won't go back to peak levels and I think we can all agree upon that. Now you talked a lot about the commentary around refracing opportunities and clearly you see that as a big opportunity going forward. But what are some of the other structural trends that you think are influencing that view?
What are the other kind of components that as you think about North America and how I'm not sure if you can give us an idea of where you think that rig count can be kind of a normalized rig count, if you will. But can you talk about some of the other factors structurally that are impacting that view?
Well, I think if you look at what's taking place over the past 3, 4 years in shale liquids in North America, there has been a significant growth in activity and there's been a growing free cash flow deficit for the E and P industry. So that's clearly not a sustainable way of the whole industry to operate here. Now with that said, I think there is a core part of the North America shale liquids that is viable even at the current oil prices and this will continue to be developed. Now as we go forward, as the industry continues to improve, I would say, both on the cost side, although a lot has already been done, but even more so on the production per well, I think there can be a growing part of the, I would say, Tier 2 and Tier 3 acreage that can be developed. But as of now, I think we are limited more to the Tier 1 acreage at these type of oil prices.
And that's why we're saying that given the cash flow constraints, we don't expect that rig counts are going to come back to the previous levels of around $2,000 It's going to come back to somewhere in between the current levels than where it was. And for the service industry that means that the pricing concessions that are currently being given, we unfortunately are going to have to live with for a while because there's going to be a pretty significant overcapacity for all sorts of services given the lower activity level that we're going to recover to. Okay. Thank you, Paul. Thank you.
Thank you. Next question from Jim Crandall with Cowen Securities. Please go ahead.
Thank you. Great performance, Paul.
Thank you.
My question has to do with the overall trend in international revenues and margins for here. If we look back at past cycles, often the international business trends materially lags out of North America. I understand some things are different this time, but might we be looking at generally a deteriorating overall level of E and P spend and maybe even Schlumberger revenue over the next 12 months?
Well, I mean, if you look at our view on total E and P spend globally, splitting it into North America and international, we are saying that the reduction in spend in international is going to be significantly lower than what you see in North America. North America is going to be well above 30%, while we are saying around 15% for international. So I think the key beyond what the spend reduction is and we're already seeing that spend reduction. And by the way, international spend was more or less flat already in 2014. I think the key from our side is the underestimated, I would say, resilience in our international business performance.
I mean, if you look at how we've been managing to keep margins and also to continue to protect our overall earnings capacity in the international business, we are doing a pretty good job. And I think even with a 15% reduction in E and P spend, our revenue year over year was down 8% in the Q1 and our operating income was down 3%. So I think the key here is our ability to continue to generate earnings even in very challenging market conditions.
Paula, do you think that the given your comments, have you seen your overall bottom revenues? Or do you think your overall international revenues will probably trend lower from the Q1 levels?
Yes. At this stage, we see both North America and international revenue coming down further in Q2. That's clear. But I would say more so in North America than in international.
And do you think that that will represent the bottom? Or do you think there could be further slippage in revenues particularly internationally in the second half of the year?
Well, I would say that the revenue reductions in Q2 are slowing in pace. I'm not ready to say that it's the bottom yet.
Okay, good. Thank you very much.
Thank you.
Thank you. We'll go to Michael Lamott with Guggenheim Securities. Please go ahead.
Thanks, Paul. If I could follow-up quickly on this refrac opportunity, I'm curious as to what the suite of services are and how they different from a conventional primary frac job. I imagine it's a lot more analysis involved. Can you just sort of walk us through what the workflow looks like and the level of intellectual capital that's employed in the process?
Yes, sure. So the overall workflow starts with us basically getting the well files and the well data from the operator. Our team of experts is then reviewing 100 of our candidate wells and we are picking the ones that we believe has the highest potential for increasing production after refractory treatment. So they're looking at the completion. They're looking at whatever formation evaluation data we have and then coming up with that candidate selection.
Now in terms of the actual physical work execution at the well site, the first thing we need to do is to pull the pump out of the well and then prepare the well. But beyond that, it's just hooking up the fracturing treatment. And we basically pump a normal fracturing job, but with a broadband sequence pills space into the job, generally then plugging off the existing perforations that have already been tracked to be able to elevate the pressure in the well to fracture the additional perforations that initially weren't fracked when the well was first completed. So the key enablers here are the ability of our subsurface experts to identify the right well candidates. And in addition to that, the broadband sequence technology where we can then actually divert fracturing fluid into the perforations that haven't properly been factored in the 1st place.
And there is is there any limitation
in terms of the initial completion, the hardware, the construction of that well? Any physical limitation?
No. Great. If I could
ask a follow-up for Simon real quick. Just on the working capital numbers, receivables receivable turns looked pretty good, but working capital use in the Q1 was still pretty high. Is that inventory? Can you delve into that a little bit, Simon?
Hi, Michael. Yes, the normally we have a seasonality to the working capital. And the Q1 is a quarter where we consume working capital. And this year around actually the receivable was a positive. Inventory stayed flattish, but the biggest consumption was on the accounts payable and employee payable.
The Q1 we basically meet all the requirements of the incentives, the bonuses of the previous year the previous year. And as we highlighted, we also had the payment associated with the restructuring of $245,000,000 So the main impact on the working capital came from the other elements that I highlighted. It was over $1,000,000,000 by the way, Michael.
Yes. That $245,000,000 was in that then as well.
The $245,000,000 was a restructuring cost. Venezuela obviously is not the cash element.
Right, right.
The biggest issue is as I mentioned the payable accounts payable and employee payable was more than $1,000,000,000 of deterioration.
And then Simon Paul mentioned 75% plus free cash flow conversion as a target. The free cash flow deployment in the repurchase program was also impressively high. Is there a target there that we can apply going forward?
So as we always said Michael, this the number for or the amount that we will spend on a buyback is always a balancing number. Our priority is to invest in the business, whether it's CapEx or future revenue streams SPM MultiClient. And then the dividend obviously we will continue to meet our commitment and revise it every year and the balancing period will always be the buyback. And during the downturn, the conversion rate is always healthy.
Higher, yes.
Yes.
Okay. Thanks, Simon.
Sure. Thank you.
Thank you. Next question is from Kurt Hallead with RBC Capital Markets. Please go ahead.
Hey, good morning. Good morning.
Hey, Eric. It's great to see when everything the whole plan comes into fruition and everything you outlined last year at your June Energy Investor Day. So congrats on that performance.
Thank you. You're welcome.
The follow-up question that I've been having and
we had an opportunity to canvass
a number of different investors last night and still seems a primary question on everybody's mind from this point forward is how sustainable is this relative performance on decrementals? I think you addressed it broadly in your commentary about the execution and transformation and so on. And I think the $1,000,000 question out there is, are the decremental margins going to moderate into the second quarter and then second half of the year from where they are in the Q1? And in conjunction with that, how much of this decremental margin performance has really been say one off or how much of this decremental performance is truly structural in nature?
Well, basically focusing our discussion on decrementals around the international business, right, where our decrementals sequentially in Q1 was 25%. I think this performance is, 1st of all, nothing one off in that performance. And secondly, that performance is not just 1 quarter either. I think the overall resilience in our well balanced international business is largely underestimated. Actually, if you look at the performance going back to 2012, we posted 35% incrementals in 2012, 42% in 2013 69% in 2014.
So the fact that we have a very good handle of running the international business in an environment where we've been facing growing headwinds throughout this period both in exploration, in deepwater, in seismic and also with significant IOC spend cuts even starting in 2014. I think these incrementals clearly show that the decrementals we're posting in Q1 is just a continuation of a multiyear run of improving business performance.
Okay, great. Now the follow-up I would have is you talk about you kind of outlined the view that the U. S. Recovery will not kind of match prior activity levels and the period of pricing pressure could be upon us for a period of time. Now in the context of refrac, I'm just kind of trying to connect the dots because if there's a significant amount of refrac that's going to happen, I would have personally thought that, that would lead to a more rapid capacity absorption period and potentially a faster recovery period in terms of pricing because everyone can get all this backlog of refrac.
So can you just I might be a little bit slow. Can you help me kind of connect the dots on how refracking won't lead to an acceleration of capacity absorption and get your thoughts on that would be great?
Well, I think for the refracs, this work scope, I think, is going to be limited to the companies that can do the 2 things that I stated earlier. Firstly, help the customers identify the right candidates. And secondly, have technologies that make the cost base of the refracturing feasible and economical. And based on the work we've done in terms of identifying candidates, doing trial refracts for a range of customers already, the economics based on the broadband sequence technology is actually quite effective in between refracting an old well or drilling a new well. So I think it will be limited to the companies that have that capability.
Now even if there were a range of companies that could do it, I still think that this market overall in terms of absorbing capacity isn't going to fix the problem. So if you look at the overall activity that we had last year where we had about 2,000 rigs operating, we're down now below 1,000. If you take a pick anywhere in between the two numbers of where the recovery is going to come back, no matter what number you pick, I think it's very clear that it's going to be significant overcapacity in the market. And that means that pricing that is now already at very low levels is not going to improve in that situation. So refrac is an opportunity for the companies that have the right technology to do it.
I don't think it's going to have a big enough impact to fix the overall capacity issue in North America land, but it will be, I think, a very good avenue of growth for the companies that can identify the right candidates and also have a technology to effectively refrac while keeping costs low enough to make it economical.
All right. Hey, that's great. Appreciate that color. Thanks, Paul.
Thank you.
Thank you. We'll go to Daniel Boyd with BMO Capital Markets. Please go ahead.
Hi, thanks. So Paul,
you typically gain market share in
a downturn and you're looking for E and P spend internationally down 15%. So should we take that and suggest that Schlumberger is going to revenues will decline something less than 15% this year?
Well, I think we have some good opportunities this year to gain market share. We talked about that in the January call. I think this whole discussion around what we perceive to be the glass ceiling in the international market will potentially open up more market share opportunities for us. I think also given the fact that we are able to run a very good and very effective business internationally would also allow us opportunities to leverage that capability to further gain market share as well. So we are not going to be obsessed about market share other than that we're going to look for the opportunities and we want to continue to navigate the commercial landscape by balancing both market share with continuous margin performance.
So that's what I would expect too. And then if you do the algebra, it implies sequential growth internationally in the back half of this year. But my question really comes down to international margins because last cycle we saw international margins sort of bleed lower even as revenue started increasing. What's your thought process or how do you think this cycle plays out? Are we in a different position where as revenue increases, we could actually have slightly higher margins?
Or is the pricing negative pricing impact going to sort of bleed through again?
Well, we are already seeing challenges both in activity and pricing in this national market. Obviously, with these significant spend reductions that's always going to be there. I think the difference we are seeing at this stage is that based on these incrementals that I referenced just in the previous question, our ability to continuously drive performance to how we execute internationally and leveraging the scale we have of operations and also have a steady contribution from the transformation that is what is allowing us to hold margins up the way they are. We have significantly outperformed our competitors in margins over the previous 2, 3 years. And this has nothing to do with pricing.
We win every bid on lowest price for basic technologies in any country around the world. The only thing that differentiates us from the competition is that we are able to translate this revenue into higher margins basically based on how we run the company. So we are always winning any bit on the lowest price and we are always we have to be commercially competitive. But the key here is the internal guts of the company and how we run and execute. And I think that ability has improved significantly over the past 3, 4 years.
And that's why we hope that we should be able to manage both decrementals and overall margins better this time around in the international market than than what we've done in previous cycles.
Terrific. So in other words as revenue increases you hope to at a minimum maintain your margin level at that point?
We are continuing to try to do better than what we did in previous slides.
Okay. Thanks. Appreciate it.
All right.
Thank you. And our last question comes from the line of James West with Evercore. Please go ahead.
Hey, good morning, Paul and great execution this quarter in a tough market.
Thank you. I just wanted
to ask about broadband sequence. I mean, I spent a lot of time with your technology guys last month in Houston. How much that business now is a push model being you go into your clients and talking about the attributes of that versus a pull model where the clients are actually coming to you and saying we need this technology?
Well, I still think there's a mix, right? As with any new technology in North America land, the uptake takes some time. But what we did differently this time around with broadband in general versus what we did with highway is that in the Q3 last year, myself and a few of my chiefs, we went around to a range of North American E and P companies and presented the concept of this technology and also offered them trial runs to try this out. And that's why the general uptake of broadband sequence has been significantly faster than what highway was, which was always actually quite good as well in 2011. But the rate of uptake of broadband sequence has been significantly higher than what Highway was.
Okay. Got it. And then just an unrelated follow-up. If we think about the international markets and I know you talked a lot on the U. S.
Market and production there, but internationally we've got pretty heavy decline rates as well, a lack of investment in international markets. What do you see as the potential for a significant drop in supply from the international side? And on that topic, is it possible not to be bullish on at least Brent prices going forward?
Well, I think you're right. I think there is we believe that there is a weakness in the non NAM, non OPEC supply base. It was basically flat Q1 year over year. But given the reductions we are seeing in spend and the weakness in several of the key basins, we expect that weakness to continue and potentially increase as the year progresses. And I think that's why we believe that there will be some recovery in Brent.
The question is to what extent OPEC wants or is willing to put more barrels on the market to stabilize prices at some level below $100
Got you. Okay, great. Thanks a lot.
Thank you. I'll turn it back to our speakers.
Thank you. So before we close, I would like to thank all of you for participating in today's call. As your questions have indicated, the oilfield services market is quite challenging at the moment. I think it's useful to summarize the 3 most important points that we have discussed this morning. First, the past quarter has been challenging to manage, but by being able to quickly adjust plans and by continuing to focus on what we control, we have delivered significantly better decremental margins compared to previous cycles and our international leverage and the acceleration of our transformation program are together creating a strong platform for financial outperformance also going forward.
2nd, we believe that industry needs to think differently in order to reduce project cost and increase project value and we see closer collaboration between operators and the large service companies as a key element in achieving this goal. And this closer collaboration should also include more performance based contracting models, which we are fully prepared to enter into. And last, while we continue to actively manage costs and resources throughout this downturn by streamlining overhead structures and reducing fleet capacity, we can quickly add back capacity when opportunities arise to take on more work through the efficiency gains created by our transformation program and through our unmatched recruiting and training machine, which is fully intact. That concludes the call for today. Thank you.
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