During the second quarter, many oil-service companies reported noteworthy revenue growth compared with the same period last year, and several of the companies on the Oil and Gas Investor This Week scoreboard more than doubled their earnings per share.
In spite of the record earnings-per-share growth, stock prices in the sector were continuing to experience volatility. Mark Urness and John Marrin, analysts with Calyon Securities (USA) Inc., report, "The tug-of-war between the bulls and bears has grown intense, with the bulls looking at the impressive cash-flow growth and strong balance sheets throughout the sector, while the bears emphasize significant uncertainties regarding commodity prices and the health of the U.S. economy."
Though investor sentiment has been ebbing and flowing with natural gas prices, U.S. drilling activity has been "exceedingly well behaved," says Scott Gill, an analyst with Simmons & Co. International. "According to Baker Hughes Inc., U.S. drilling activity in the second quarter increased 7.3% quarter-over-quarter, the strongest sequential increase since second-quarter 2003 when the rig count expanded 14.4%."
On the OGITW scoreboard, big earnings-per-share winners included Pride International Inc., Baker Hughes, Acergy and Diamond Offshore Drilling.
Louis A. Raspino, Pride president and chief executive, says the company's results were a combination of worldwide drilling demand and limited offshore rig availability.
"While we are observing some seasonal softness in the U.S. Gulf of Mexico, our exposure to dayrate fluctuations is somewhat limited in the near term. Also, we are confident that rig supply and demand dynamics in the Gulf will remain highly favorable after this year's hurricane season." Pride's present contract backlog of $3.1 billion across its worldwide offshore fleet is the highest in the company's history, Raspino adds.
In the Gulf of Mexico, Pride's second-quarter average daily revenue per rig climbed to $108,700, compared with $43,400 last year and $91,800 in first-quarter 2006. Average daily revenue for its drillships and semisubmersibles jumped to $142,500 from $127,100 in the second quarter of 2005 and $135,800 in the first quarter of 2006.
As for Baker Hughes, Urness says its earnings-per-share outperformance was driven by stronger-than-expected revenue growth from the completions and production division (Baker Oil Tools, Baker Petrolite and Centrilift) and higher operating margins.
"The company noted that it continues to see strong long-term fundamentals in the North American natural gas market, but that it would not be surprised to see a short-term decline in drilling activity if supplies exceed storage capacity. It said the decline would be relatively short in duration, resulting in a rapid return to higher levels of activity." He has a Buy rating and a $105 price deck on BHI shares.
Acergy chief executive Tom Ehret says the quarter brought "solid project execution and high levels of asset utilization as well as continued growth and improvement in the quality of our backlog. [Also,] our targets are being met for recruiting and developing our workforce as we continue to attract the best people in our industry."
Even the oil-service companies that slipped a bit in earnings growth are still looking at a bright future. Urness estimates that Transocean Inc. will generate more than $5 billion in free cash flow through 2008. "The company's chief executive, Bob Long, said he feels the current stock price does not reflect the value to be created by its record $19.4-billion backlog."
Almost all of Transocean's high-specification floaters are booked through 2008, Urness adds. Some 56% of its other floaters and 54% of its jackups are available in 2008. Also, Transocean management expects the industry will go through another round of consolidation in a few years and it wants to participate, Urness says.
A.G. Edwards & Sons analyst Poe Fratt says his outlook for the oilfield-service sector is constructive, in spite of near-term concerns about above-average gas storage and potential oil-price spikes.
"Exploration and production/ integrated/national oil capital spending is expanding and is based on conservative commodity-price assumptions," Fratt says.
"Consequently, the impact of higher capital spending on 2006-07 earnings should be favorable for the oilfield-service industry. Pricing, especially offshore dayrates, is unlikely to decline sharply unless energy-demand growth is materially weaker and/or exploration efforts are unsuccessful."
-Bertie Taylor
For many of the integrated oil companies, strong balance sheets and diverse operations helped most weather commodity-price fluctuations, political dramas and even the finicky investors during the second quarter. Several of these major companies reported significant production growth over the same period last year, with natural gas volumes driving the boost.
Deutsche Bank analyst Paul Sankey says the global integrated majors are developing close to $550 billion of projects now, totaling some 20 million barrels of oil equivalent of growth in daily production. This is up from $330 billion for 29 million BOE in 2002.
"There is a very clear story here for service names, and, within our analysis, we identify the geographic shifts in spending," he says. "The biggest move is back to North America, and away from Latin America. However, that is driven by heavy-oil sands and is more about steel and cement demand, than oil service. High oil prices have clearly increased deepwater and conventional oil opportunities and spending, particularly in West Africa, the Caspian and Russia."
In spite of the increase in spending, Sankey adds, "it's hard to see much upside in these oils-even the ones we like." His top picks are Occidental, ExxonMobil and Marathon.
"We believe that the proven development of a better spare-capacity cushion in world oil markets-as tested by Prudhoe Bay-should combine with slowing demand into lower oil prices and refining margins as we exit the peak driving season demand. To us, the risk here is that this lower price environment is accelerated by terrorism, plague, floods or the collapse of the U.S. property market, triggering recession."
Names such as ExxonMobil are the "safe haven" stocks. Simmons & Co. International analyst Robert Kessler says the company is a default go-to name for safety and stability of investment returns. On the flip side, he says past successes in the upstream and downstream make it hard for ExxonMobil to generate excessive earnings relative to future organic opportunities.
Sankey says ExxonMobil is on track to make more than $50 billion of cash flow in a year where its capex has been steadily increased to $20 billion. The rest is for shareholders, and stock buybacks have ramped up to $7 billion per quarter. Sankey has a Buy rating and a price target of $75 on XOM shares.
"GDP slowdown might not be a time to push ExxonMobil, but, in reality, this will be the last company making good returns when the recession finally comes," Sankey says.
The names that have quality management, assets and cash returns to shareholders are the investments to watch, he says. XOM's record of project management and Oxy's plays for Middle East access are working in their favor, while Marathon and Hess are the stocks he calls "undervalued." Marathon shares are now within 10% of Sankey's $95 price target, but issues remain.
"Although we were disappointed by the chief executive's announcement of a major stock sale representing almost half his stake, which is already relatively low, we are leaving the stock on a Buy recommendation into huge Midcontinent refining margins. But it is deeply disconcerting to recommend a stock that management is aggressively selling...."
Kessler has an Overweight rating on MRO shares, and he says the stock "is not at the top of the list for new money based on its current share price."
In spite of the record earnings-per-share growth, stock prices in the sector were continuing to experience volatility. Mark Urness and John Marrin, analysts with Calyon Securities (USA) Inc., report, "The tug-of-war between the bulls and bears has grown intense, with the bulls looking at the impressive cash-flow growth and strong balance sheets throughout the sector, while the bears emphasize significant uncertainties regarding commodity prices and the health of the U.S. economy."
Though investor sentiment has been ebbing and flowing with natural gas prices, U.S. drilling activity has been "exceedingly well behaved," says Scott Gill, an analyst with Simmons & Co. International. "According to Baker Hughes Inc., U.S. drilling activity in the second quarter increased 7.3% quarter-over-quarter, the strongest sequential increase since second-quarter 2003 when the rig count expanded 14.4%."
On the OGITW scoreboard, big earnings-per-share winners included Pride International Inc., Baker Hughes, Acergy and Diamond Offshore Drilling.
Louis A. Raspino, Pride president and chief executive, says the company's results were a combination of worldwide drilling demand and limited offshore rig availability.
"While we are observing some seasonal softness in the U.S. Gulf of Mexico, our exposure to dayrate fluctuations is somewhat limited in the near term. Also, we are confident that rig supply and demand dynamics in the Gulf will remain highly favorable after this year's hurricane season." Pride's present contract backlog of $3.1 billion across its worldwide offshore fleet is the highest in the company's history, Raspino adds.
In the Gulf of Mexico, Pride's second-quarter average daily revenue per rig climbed to $108,700, compared with $43,400 last year and $91,800 in first-quarter 2006. Average daily revenue for its drillships and semisubmersibles jumped to $142,500 from $127,100 in the second quarter of 2005 and $135,800 in the first quarter of 2006.
As for Baker Hughes, Urness says its earnings-per-share outperformance was driven by stronger-than-expected revenue growth from the completions and production division (Baker Oil Tools, Baker Petrolite and Centrilift) and higher operating margins.
"The company noted that it continues to see strong long-term fundamentals in the North American natural gas market, but that it would not be surprised to see a short-term decline in drilling activity if supplies exceed storage capacity. It said the decline would be relatively short in duration, resulting in a rapid return to higher levels of activity." He has a Buy rating and a $105 price deck on BHI shares.
Acergy chief executive Tom Ehret says the quarter brought "solid project execution and high levels of asset utilization as well as continued growth and improvement in the quality of our backlog. [Also,] our targets are being met for recruiting and developing our workforce as we continue to attract the best people in our industry."
Even the oil-service companies that slipped a bit in earnings growth are still looking at a bright future. Urness estimates that Transocean Inc. will generate more than $5 billion in free cash flow through 2008. "The company's chief executive, Bob Long, said he feels the current stock price does not reflect the value to be created by its record $19.4-billion backlog."
Almost all of Transocean's high-specification floaters are booked through 2008, Urness adds. Some 56% of its other floaters and 54% of its jackups are available in 2008. Also, Transocean management expects the industry will go through another round of consolidation in a few years and it wants to participate, Urness says.
A.G. Edwards & Sons analyst Poe Fratt says his outlook for the oilfield-service sector is constructive, in spite of near-term concerns about above-average gas storage and potential oil-price spikes.
"Exploration and production/ integrated/national oil capital spending is expanding and is based on conservative commodity-price assumptions," Fratt says.
"Consequently, the impact of higher capital spending on 2006-07 earnings should be favorable for the oilfield-service industry. Pricing, especially offshore dayrates, is unlikely to decline sharply unless energy-demand growth is materially weaker and/or exploration efforts are unsuccessful."
-Bertie Taylor
For many of the integrated oil companies, strong balance sheets and diverse operations helped most weather commodity-price fluctuations, political dramas and even the finicky investors during the second quarter. Several of these major companies reported significant production growth over the same period last year, with natural gas volumes driving the boost.
Deutsche Bank analyst Paul Sankey says the global integrated majors are developing close to $550 billion of projects now, totaling some 20 million barrels of oil equivalent of growth in daily production. This is up from $330 billion for 29 million BOE in 2002.
"There is a very clear story here for service names, and, within our analysis, we identify the geographic shifts in spending," he says. "The biggest move is back to North America, and away from Latin America. However, that is driven by heavy-oil sands and is more about steel and cement demand, than oil service. High oil prices have clearly increased deepwater and conventional oil opportunities and spending, particularly in West Africa, the Caspian and Russia."
In spite of the increase in spending, Sankey adds, "it's hard to see much upside in these oils-even the ones we like." His top picks are Occidental, ExxonMobil and Marathon.
"We believe that the proven development of a better spare-capacity cushion in world oil markets-as tested by Prudhoe Bay-should combine with slowing demand into lower oil prices and refining margins as we exit the peak driving season demand. To us, the risk here is that this lower price environment is accelerated by terrorism, plague, floods or the collapse of the U.S. property market, triggering recession."
Names such as ExxonMobil are the "safe haven" stocks. Simmons & Co. International analyst Robert Kessler says the company is a default go-to name for safety and stability of investment returns. On the flip side, he says past successes in the upstream and downstream make it hard for ExxonMobil to generate excessive earnings relative to future organic opportunities.
Sankey says ExxonMobil is on track to make more than $50 billion of cash flow in a year where its capex has been steadily increased to $20 billion. The rest is for shareholders, and stock buybacks have ramped up to $7 billion per quarter. Sankey has a Buy rating and a price target of $75 on XOM shares.
"GDP slowdown might not be a time to push ExxonMobil, but, in reality, this will be the last company making good returns when the recession finally comes," Sankey says.
The names that have quality management, assets and cash returns to shareholders are the investments to watch, he says. XOM's record of project management and Oxy's plays for Middle East access are working in their favor, while Marathon and Hess are the stocks he calls "undervalued." Marathon shares are now within 10% of Sankey's $95 price target, but issues remain.
"Although we were disappointed by the chief executive's announcement of a major stock sale representing almost half his stake, which is already relatively low, we are leaving the stock on a Buy recommendation into huge Midcontinent refining margins. But it is deeply disconcerting to recommend a stock that management is aggressively selling...."
Kessler has an Overweight rating on MRO shares, and he says the stock "is not at the top of the list for new money based on its current share price."
As for Hess, Kessler attributes its performance to increasing earnings estimates, a short-term resurgence in confidence in energy shares, oil-price resilience and some incremental credit for the company's exploration program. He rates the shares Overweight.
Sankey says, "The key challenge for Hess is to continue to build credibility through delivery...We do see strong growth in 2007, but would prefer to wait to see from what 2006 base that growth will be driven. We like the new management and the new strategy and will revisit later this year."
Both Sankey and Kessler are hesitant about Chevron. The company has five major projects in the works: BBLT, Tengizchevroil, Tahiti, Agbami and Gorgon. "We believe Chevron's project costs [for Gorgon] will be closer to $14 billion instead of the market expectation of $10 billion, and booking will not occur this year. Production by 2010 will be tough."
In evaluating the highest cash return to shareholders during the coming year, the highest growth, and the highest net income per barrel produced, Sankey says Chevron is not best-in-class in any category. He has a Hold rating on the shares.
Kessler adds, "Most investors still harbor lingering questions with regard to Chevron's lackluster project execution and production statistics. Notably, two straight years of zero project additions to reserves has led to more questions as to whether the company is buying its way out of an organic slump, implying that the Unocal purchase may not get them 100% of the way there."
The analysts' notes were prior to Chevron's announcement of its promising Jack #2 well results in the ultra-deepwater Gulf of Mexico Lower Tertiary Trend.