It's been a tough year for energy stocks in general and that certainly applies in the service sector. One of the best names in the space is an under-the-radar company called Frank's International. Frank's is a solid stock and one that analysts in general are optimistic about, but the environment that all energy stocks are facing is hurting even well-run businesses like Frank's.
The truth is that it has been a miserable few months for Frank's investors. The stock has fallen 25 percent since May and is trading around the lowest levels since the company went public a few years ago. The question investors need to ask is whether Frank's is worth buying here? The answer for investors with at least a medium term horizon is "Yes."
The current service climate is bad enough that even high quality companies like Frank's are struggling. In its most recent report, Frank's missed earnings estimates by $0.06 a share and reported warnings about the outlook for servicing activity as well as expected future price weakness based on cost reductions by E&P firms. All of this is bad of course, but it is also perfectly consistent with the warnings of nearly every other oil field services company out there. Related: PV Solar Could Have Some Serious Competition
The difference with Frank's is that the firm has 30 percent+ EBITDA margins, it carries a 4 percent dividend yield, no debt, and $500 million in cash. In addition, the firm is a technical leader in its field, and it is one of the two main leaders in its major market.
Frank's business is about half international, almost all of which is offshore, and half U.S. onshore. The international business is a cash cow; 45 percent Earnings Before Interest, Taxes Depreciation and Amortization (EBITDA) margins with the kind of technical leadership that is indispensable for a firm that is doing a deepwater project. No one skimps on tubular services to save a couple bucks on a project that costs tens of millions or more. The U.S. is a little different, however. Related: This Nation Could Finally See A Shale Breakthrough
A lot of Frank's domestic business here is onshore with some Gulf of Mexico (GoM) as well. EBITDA margins in the U.S. are only around 20 percent, and that's boosted by the GoM deals. Onshore margins are likely in the single digits, though the company does not break that out, and that's really a function of irrational activity among other onshore competitors - the low tech mom and pop group. These firms have cut prices to the bone in an effort to get business anywhere they can. That strategy is not sustainable though, and if the slump carries on for another year or two, many of those cut-rate firms will likely be going out of business.
That will benefit Frank's in the long-term. If the firm could bring onshore margins up to 40 percent or so after a culling of small tube services providers, it would boost EPS by around $0.75 a share in a normal market. Indeed Frank's management has expressed some interest in pursuing M&A activity as a way to consolidate the sector. Related: White Houses Inches Closer To Lifting The Crude Export Ban
Times will be tough for the next couple of years, but as oil prices start to rebound Frank's should be among the best performers. Given the balance sheet strength, the firm is not going anywhere, no matter how deep the oil slump goes, and Frank's will likely make around $0.75 or so in EPS this year and next year giving it an attractive trough valuation of less than 20X EPS at current levels. In a more normal climate, earnings power should be around $2 a share. At current levels, Frank's is quite a bargain then.
By Michael McDonald of Oilprice.com
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Michael is an assistant professor of finance and a frequent consultant to companies regarding capital structure decisions and investments. He holds a PhD in finance… More
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