Sector Watch: Oilfield services providers
Although much attention has focused on the strong performance of the major oil companies, far less has been reported about a related sector benefiting from rising energy demand - oilfield services providers. These companies provide technologies for drilling wells and boosting production. Demand for their services is cyclically linked to oil industry capital spending, which tends to be less volatile than oil prices.
Energy prices remain near historic highs in 2007 as a result of global economic growth, rising demand from China and India, supply disruptions and political tensions in parts of Africa and the Middle East and a shortage of refinery capacity.
High energy prices are fueling record levels of exploration and production spending. BP plc (NYSE: BP) will increase capital spending to $18 billion in 2007 and targets annual production growth through 2012. Exxon Mobil Corp (NYSE: XOM) increased spending to $20 billion in 2006 and plans to maintain capital spending in that range for several years. Chevron Corp (NYSE: CVX) increased capital spending 50% in 2006 to $16.6 billion and plans to increase 2007 spending to $19.6 billion.
Energy demand is not expected to taper off any time soon. According to the U.S. Department of Energy, US fuel consumption will increase by 6.2 million barrels per day by 2030. Even assuming moderate GDP growth, fuel demand by the transportation sector will increase by 5.8 million barrels per day.
At the same time, finding new reserves is becoming more difficult. Most of the U.S. resource base has already been exploited, and new discoveries are likely to be smaller, more remote and more costly to develop. The rising cost of new reserves is encouraging investment in enhanced recovery techniques that increase production from existing wells and re-start production from previously abandoned wells.
As oil and gas wells age, it becomes increasingly difficult from both a cost and technology standpoint to maintain production at high levels. Well operators typically contract with oilfield services specialists for advanced equipment and technologies that enhance production. With many of the world’s major oil and gas reservoirs maturing, demand for these services is likely to remain strong.
Boots & Coots
Boots & Coots (AMEX: WEL) provides well control and workover services. Its traditional business, helping well operators control blowouts, traces its roots to legendary firefighter Red Adair, whose real-life oil well firefighting exploits were portrayed by John Wayne in the 1968 movie Hellfighters. This business can be highly profitable but revenues are unpredictable since well blowouts determine demand. .
More recently, Boots & Coots began providing risk management and related services that help well operators reduce accidents, minimize downtime and quickly re-establish production. These services are provided under multi-year contracts and generate more predictable revenues.
In 2006, Boots & Coots acquired Hydraulic Well Control, a leading provider of hydraulic workover/snubbing services used to increase well production. Through this acquisition, the company doubled its size, extended its geographic footprint, gained new services and customers and enhanced its cross-selling opportunities.
These new services helped Boots & Coots grow revenues 227% in 2006 to $97 million, increase earnings before interest, taxes, depreciation and amortization (EBITDA) 368% to $24.8 million, and expand per-share earnings 250% to $0.21 per share. Boots & Coots has multi-year contracts in North America, Algeria, Venezuela, India, Kazakhstan, Libya and Dubai.
Although first quarter revenues will be lower due to project delays in Venezuela, Boots & Coots expects growth to continue in 2007. The company has secured additional contract work in Libya and Indonesia and is deploying new workover units in Qatar, Saudi Arabia and the Congo. Boots & Coots is also negotiating a large snubbing contract in the Middle East and may form a joint venture in Algeria with a major oil and gas company. Consensus analyst estimates target 20% annual growth for the company over the next five years. Boots & Coots shares currently trade at only a 10 P/E multiple. My $3.00 price target for Boots & Coots is 40% above the current share price.
Allis Chalmers Energy
Allis Chalmers Energy (AMEX: ALY) provides equipment and services to energy companies exploring for resources in the United States, Argentina and Mexico. The company’s services include directional drilling, drilling tool rentals, well completion and workover, casing and production tubing installation and compressed air drilling services. Like Boots & Coots, this company reduces cyclical risk by diversifying its revenue stream.
Allis Chalmers maintains a balance between onshore and offshore work; drilling versus production; rental tools versus services; domestic versus international, and natural gas versus crude oil. The company has completed 19 acquisitions in the last five years, including five major acquisitions in 2006, which have enabled it to expand geographically, extend its product offerings, diversify its customer base and improve cross-selling opportunities.
Allis Chalmers revenues grew 192% in 2006 to $307.3 million, operating income grew 404% to $66.7 million, and per-share earnings rose 277% to $1.66 per share. The company’s 2007 guidance targets 81% revenue growth. Consensus estimates forecast this company will generate growth averaging 28% annually over the next five years. Allis Chalmers shares currently trades at an 11 P/E multiple. The $25 consensus analyst price target for these shares is 30% above the current share price.
About the Author
Contributing author Lisa Springer is an equity research analyst with nearly 20 years of investment research experience.
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