Mr. Market Selling Cheaply

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National Oilwell Varco (NYSE: NOV) – Mr. Market Selling Cheaply.

Overblown or misunderstood concerns is leading Mr. Market  to undervalue  a wide-moat company with expanding competitive advantage, providing both a margin of safety and good chance at earning high returns.


Economic Moat in an attractive industry:  

Nicknamed “No Other Vendor”, National Oilwell Varco, Inc. (NYSE: NOV)   is a dominant provider of equipment and components used in oil and gas drilling and production , with its equipment on 90% of the worlds rigs.

Historically drillers preferred heavilly customised rigs to differentiate from competition. This however had the dis advantage of  supply chain inefficiencies causing late deliveries, construction overruns, and inconsistent rig performance.  NOVs more standard rig designs allow for more cost-effective model for the equipment supplier, the shipyard, and the driller, while improving rig performance – providing it a wide economic model.


Allowing growth while preserving pricing power:  

The industry continues to be in a 20 year replacement cycle, with major drillers having a collection of old assets that need to be upgraded / replaced to meet todays more demanding standards as well as drilling in more challenging environments.

NOV is positioned for continued share gains as integrated rigs become the industry standard. Further, aftermarket services, would provide an additional multidecade stream of income


Demonstrated in Strong Financials:

In comparing with other “Large Growth” stocks in the “Oil & Gas Equipment & Services” industry it maybe appropriate to look at Haliburton (NYSE: HAL), Schlumberger (NYSE: SLB), Baker Hughes (NYSE: BHI) and Cameron International (NYSE: CAM)

  • Cash Flow as % Sales of:  NOV,s  dominance and strong competitive position can be reflected in free cash flows as % of Sales in excess of 10% , with HAL and SLB around 5% and BHI and CAM having negative free cash flows.
  • RoIC: With prudent management f assets and low debt – NOV has RoE and ROIC in excess of 12% - comparable to HAL and SLB and much higher than BHI and CAM.


<table> <tbody> <tr> <td> <p><strong><span>Company</span></strong></p> </td> <td> <p><strong><span>Ticker</span></strong></p> </td> <td> <p><strong><span>Free cash flow</span></strong></p> <p><strong><span> % Sales</span></strong></p> </td> <td> <p><strong><span>RoIC</span></strong></p> </td> </tr> <tr> <td> <p><strong><span>National Oilwell Varco Inc.</span></strong></p> </td> <td> <p><strong><span>NOV</span></strong></p> </td> <td> <p><strong><span>10%</span></strong></p> </td> <td> <p><strong><span>10 – 12%</span></strong></p> </td> </tr> <tr> <td> <p><span>Haliburton Company</span></p> </td> <td> <p><span>HAL</span></p> </td> <td> <p><span>< 5%</span></p> </td> <td> <p><span>12 – 15%</span></p> </td> </tr> <tr> <td> <p><span>Schlumberger NV</span></p> </td> <td> <p><span>SLB</span></p> </td> <td> <p><span>5 – 7%</span></p> </td> <td> <p><span>12%</span></p> </td> </tr> <tr> <td> <p><span>Baker Hughes Inc.</span></p> </td> <td> <p><span>BHI</span></p> </td> <td> <p><span>(-) ve</span></p> </td> <td> <p><span>6 – 9%</span></p> </td> </tr> <tr> <td> <p><span>Cameron International Corporation</span></p> </td> <td> <p><span>CAM</span></p> </td> <td> <p><span>(-) ve</span></p> </td> <td> <p><span>9%</span></p> </td> </tr> </tbody> </table>


Short term outlook clouding price:

Recent decline in NOV stock prices have been driven by concerns of a sharp decline in rig oders driven by   macrono economic uncertainity,  decline in both North American drilling and Brazilian demand, as well as increased competition (especially OneSubsea JV between  Schlumberger and Cameron).

However these maybe overstated:  A large order backlog would protect the companies revenue and operating profits while continuing to provide steady cash flows. And while North America drilling outlook looks uncertain – this appears more than priced into NOV stock. Finally, OneSubsea combining the equipment design, manufacturing, and installation expertise of Cameron with Schlumberger's deep reservoir knowledge does provide a compelling and integrated subsea solution. However, this is not a direct competitive offering but a different niche to NOVs  FPSO (floating, production, storage, and offloading) business.


Providing excellent long term buying opportunity

At current prices of $ 70, NOV appears to be trading at a a substantial discount based on both intrinsic and relative valuation

  • Intrinsic Value: Based on Morninstar analysis – NOV  currently trades at a 30% discount to its  Fair Value  (SLB and CAM by comparison are at 100% and 120% respectively)
  • Relative Value: Similarly it trades at a Forward PE of under 10x and a PEG payback of under 6 years (again, SLB and CAM by comparison are over 13x)


<table> <tbody> <tr> <td> <p><strong><span>Company</span></strong></p> </td> <td> <p><strong><span>Ticker</span></strong></p> </td> <td> <p><strong><span>Price / </span></strong></p> <p><strong><span>Fair Value </span></strong></p> </td> <td> <p><strong><span>Forward </span></strong></p> <p><strong><span>PE</span></strong></p> </td> <td> <p><strong><span>PEG </span></strong></p> <p><strong><span>ratio</span></strong></p> </td> <td> <p><strong><span>PEG </span></strong></p> <p><strong><span>Payback</span></strong></p> </td> </tr> <tr> <td> <p><strong><span>National Oilwell Varco Inc.</span></strong></p> </td> <td> <p><strong><span>NOV</span></strong></p> </td> <td> <p><strong><span>$ 71 / 98</span></strong></p> <p><strong><span>= 70%</span></strong></p> </td> <td> <p><strong><span>9.7x</span></strong></p> </td> <td> <p><strong><span>0.8</span></strong></p> </td> <td> <p><strong><span>5.7 yrs</span></strong></p> </td> </tr> <tr> <td> <p><span>Haliburton Company</span></p> </td> <td> <p><span>HAL</span></p> </td> <td> <p><span>$ 41 / 50 </span></p> <p><span>= 80%</span></p> </td> <td> <p><span>10.0x</span></p> </td> <td> <p><span>1.5</span></p> </td> <td> <p><span>6.9 yrs</span></p> </td> </tr> <tr> <td> <p><span>Schlumberger NV</span></p> </td> <td> <p><span>SLB</span></p> </td> <td> <p><span>$ 80 / 80</span></p> <p><span>= 100%</span></p> </td> <td> <p><span>13.8x</span></p> </td> <td> <p><span>0.7</span></p> </td> <td> <p><span>6.3 yrs</span></p> </td> </tr> <tr> <td> <p><span>Baker Hughes Inc.</span></p> </td> <td> <p><span>BHI</span></p> </td> <td> <p><span>$ 45 / 58</span></p> <p><span>= 75%</span></p> </td> <td> <p><span>10.1x</span></p> </td> <td> <p><span>1.8</span></p> </td> <td> <p><span>7.2 yrs</span></p> </td> </tr> <tr> <td> <p><span>Cameron International Corporation</span></p> </td> <td> <p><span>CAM</span></p> </td> <td> <p><span>$ 65 / 55</span></p> <p><span>= 120%</span></p> </td> <td> <p><span>13.1x</span></p> </td> <td> <p><span>0.8</span></p> </td> <td> <p><span>6.4 yrs</span></p> </td> </tr> </tbody> </table>

 (*) Fair Value using Morningstar estimates.



NOV has significant long term advantage and multiple income streams, with demonstrated track record of pricing power and strong financial performance.  And while there maybe some challenges, these appear more than priced in, with current valuation allowing for a large margin of safety as well as opportunity to benefit from growth.

I do not own shares of NOV.

The views here reflect my personal opinions only

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