We’ve caught up with about half of our coverage over the past several days (ahead of the looming quiet period), and notable to us is a growing divergence between “neutral/mixed” company sentiment and a more uniformly-bearish market view that contemplates a drastic take-down of FY19 consensus estimates. We understand that larger E&Ps will stick to budget, that the USL rig count continues to retreat (dayrate pressure), and that completion activity peaked in March (utilization pressure on margins). Currently, 2Q19 estimates seem largely de-risked. Several companies have purported a “softer/expected” 3Q and “better/expected” 4Q19, as it seems that some E&Ps are protracting D&C schedules in order to retain quality rigs/crews at favorable pricing (or perhaps smooth production). With back half visibility limited however, the buyside is bracing for a more pronounced cut to FY19. Remaining capex levers will be key in buoying OFS through the 2H19 fog, and nearly every company that we caught up with cited further capex cuts if USL activity collapses into year end. More to come in our 2Q19 preview note, and at our July 8th Wolfe Energy Lunch in NYC .
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This past week, we ran a brief, anonymous survey on e-frac adoption in US pressure pumping. The solid response rate (over 50) is evidence that this is truly topic-du-jour in the oil patch. Within, we discuss the ramifications of 5 key e-frac questions facing the OFS industry, and run through a frac capex thought experiment based on adoption rate results from the survey.
Last chance to share your thoughts on e-frac adoption. Later today (06/20/19), we will recap (analyst, OFS, and E&P) responses from our anonymous E-Frac Survey – we appreciate your participation!
Tomorrow (6/19/2019), we will recap (analyst, OFS, and E&P) responses from our anonymous E-Frac Survey (link) to help build a consensus on this divisive topic – we appreciate your participation!
Following the reported (explored) sale of PTEN’s frac business last Thursday (06/13/19), FRAC & CJ announced this morning an all-stock merger-of-equals, expected to close in 4Q19. The combined company represents the third largest USL frac company (2.3M HHP), with a diversified C&P footprint across cementing, wireline, coiled tubing, workover rigs, and fluid mgmt that represents the #4 NAM OFS provider by revenue (behind HAL, SLB & BHGE).
Earlier today (6/13/2019), Reuters reported that PTEN is exploring the sale of its frac business for $1B (link), a move that we believe would (encouragingly) simplify the business into a US super-spec drilling pure play. Of late, the company’s pumping segment has been a notable EBITDA/FCF drag on an otherwise best-in-class US drilling business, and the potential sale of 1.6M nameplate HHP has been held by many investors to be a positive re-rating catalyst for the stock. While we caution that the news is “headline-only”, the purpose of this note is to present deal sensitivity (potential buyers), pro-forma PTEN valuation, and read-throughs to broader OFS.
In recent weeks, we’ve noted our own emphasis on FCF yield as an increasingly important part of the valuation framework in a “no-growth” OFS – perhaps replacing (or at least supplementing) a shaky EV/EBITDA convention that does little to capture how drastically OFS earnings power, and the shape of the upstream spending cycle, have changed in recent years. “Have we found the valuation bottom?” is ubiquitous in meetings and calls. In recent weeks, non-covered OFS (namely BAS & HCR) have demonstrated that accelerated buybacks could be the sector catalyst that helps establish this valuation floor, having vastly OP the WR OFS index on the day of buyback announcement (and subsequently). LBRT, PTEN & PUMP screen the best in our coverage in terms of accelerated buyback potential, but we suspect the broader sector will follow suit until market expectations are properly calibrated across both OFS and E&P. Details on current authorizations within.
Back in Oct ’18, we launched SPN UP under the premise that offshore lag and frac friction would challenge lofty consensus targets. The stock is down 80% since initiation (vs. WR OFS -40%), but we are not ready to call SPN insolvent. The most recent (surprising) selloff would suggest that a credit event is imminent, and while the $800M maturity in Dec ‘21 remains the primary handicap, we contend that both the liquidity runway and risk profile are better than they appear. Positive fundamental undercurrents, a sharpened capital allocation strategy, and key (potential) divestiture catalysts fuel compelling option value. We upgrade SPN to Outperform (from UP) with a YE19 PT of $3.50 (down from $4), based on 5.0x our YE20 EBITDA of $332M (down from $356M). However, we see upside to the multiple on a frac divestiture that would alleviate debt concerns and yield a higher-multiple RemainCo (6-7x) & shareholder-friendly capital allocation strategy. Despite the compelling optionality, the fate of the stock ultimately rests on its near-term ability to demonstrate sustainable FCF.
This week, we caught up with members of the BHGE team to get an updated lay-of-the-land across an otherwise capricious global oil patch. Two key takeaways (our view) 1) OFS is still on track to outperform large-cap peers in terms of growth, with the ‘Big 3’ now uniformly signaling better pricing discipline from the int’l collective (perhaps upside to incrementals), and 2) the 2020 TPS ramp is still very much intact (consensus ests having tightened), and investor fears are likely overblown regarding TPS equipment margins. No further detail on the GE selldown, and we maintain that FCF execution should help alleviate this overhang organically – with cash on hand a potential buyback backstop down the road. Capital strategy remains firm and focused, with no major M&A plans within the OFS purview. Artificial lift remains a bright spot (APY-OP).
March was exceptionally strong for US frac activity, with fracs/day having increased steadily through 1Q19 – most notably in the Permian (tracking to +0.4% sequentially in 2Q19) and Bakken (tracking to +75% QoQ in 2Q19 after a soft Jan/Feb). This momentum could acquiesce to a “flattening” in the summer months, as early Rystad data indicates modest declines in both April/May. Although filings are still nascent for 2Q19, this trend jives with the broader follow-through of discipline among E&Ps, a narrative that portends downward spend through FY19 (into what pumpers anticipate to be a 4Q19 slowdown looming). Recall E&Ps spent slightly less than 30% of FY19 budgets in the first quarter.