Why does SLB deserve to trade at such a massive premium?
Here is my analysis. Thoughts welcome.
Schlumberger is known as a premier oil services company that provides a range of services for the petroleum industry, including technology, project management, and data acquisition and processing surveys.
From the 2008 10-K (2-11-09)
“Within this volatile market, Schlumberger Oilfield Services revenue in 2008 grew by 20% versus 2007… These results mask, however, a rapid reversal that occurred late in the year in response to the worsening economic climate, and after three quarters of overall growth, revenues in the fourth quarter declined sequentially through weakening local currencies and reduced customer spending, in addition to seasonal spending.”
Despite experiencing insatiable demand for rigs, deepwater services, and exploding commodity prices, SLB’s earnings peaked at $4.45/share in 2008, up from $4.20/share in 2007. At $57/share, SLB trades at 22x forward earnings with a yield of 1.45%. Earnings are forecast to be down 42% in 2009 to $2.62/share and the same again at $2.62/share in 2010 before rebounding in 2011 to $3.58/share.
According to the 10-Q filed on 4-29-09, net income is down 30% YOY to $940M in 2009 vs. $1,344M in 2008 and cash flows from operations are down 51% YOY to $551M vs. $1,130M. Cash flows from investing activities are also down due to a $475M purchase and overall, cash is nearly flat YOY due to the issuance of $1.3 billion in debt. With $17.6 billion in stockholder’s equity, the company trades at 3.86x book value on a fully-diluted basis, nearly 3x its nearest competitor, Transocean (RIG), which trades at 1.37x book. RIG trades at a TTM EV/EBITDA of 5.53 while SLB stands at 8.12. However, because SLB is far more capital intensive than RIG, SLB trades at TTM EV/FCF of 30.7x vs. RIG at 13.2x TTM EV/FCF. Most service companies are trading much nearer to book, with some below book value.
SLB discusses in its 10-K that its net debt has decreased, however, that figure excludes operating lease and purchase obligations that significantly increase the reported figure. As of March 31st, the company had $6.2 billion in outstanding debt according to its filings, including $0.7 billion in commercial paper borrowings. SLB had $4.6 billion of cash and investments on hand and available debt facilities of $2.2 billion. Net debt at March 31st stood at $1.527 billion, up $398M QOQ but still down $629 YOY. Goodwill and intangible assets represent approximately $5.9 billion on a $33 billion balance sheet. If that is eliminated from shareholder equity, the book value multiple goes up by nearly 50% to close to 5.8x tangible book value. This when refiners are trading at near 30% of replacement value?
As of 12-31-08, SLB reported:
This figure is augmented by the net issuance of approximately $903M in ST and LT debt (net of LTD repayments) during the quarter. So the $7.9B in contractual obligations is actually $8.8B today, $2.6 billion above the reported debt figure. On April 17, 2008, SLB authorized a stock repurchase agreement of $8 billion through December 2011. As of December 31, 2008, $934 million had been repurchased. No shares were repurchased during Q1 2009 as the plan was suspended. Cash conservation is a priority obviously, but if they don't want their shares, why should we?
However, the 10-Q discloses a 13% sequential revenue decline, however, North American revenues declined 23% sequentially, possibly foretelling a similar effect elsewhere worldwide and a further stress on the balance sheet and cash flow from operations if consumption remains depressed. While deep water exploration activities have held up reasonably well, contract rates have been challenged by E&P companies and there is no guarantee these rates will hold or not be renegotiated in the future, like they were during the last bust cycle in 2001.
The stock is rated a buy by 16 analysts and a hold by 10 others with an average price target of $67.67/share utilizing available estimates from 18 our of 26 contributors. The stock bottomed this February at $35.19 and has since run up to $62.18/sh on June 11th, going back down to $49.20/sh on July 7th. It is just a few bucks higher than when Barron’s wrote its cover story recently.
If being being outright short SLB based on valuation is not comfortable in a market that is possibly 12-18 months away from a cyclical recovery, is a pair trade based on valuation between RIG and SLB reasonable (long RIG short SLB)? Thoughts welcome.
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