Investment overview
With broad markets trading at premium valuations, I have shifted focus to sectors and stocks that have been beaten down in 2017 for reasons that are unlikely to impact growth in the long-term. The idea is to gradually accumulate stocks trading at attractive valuations during a time when a majority of stocks are expensive.
Patterson-UTI Energy Inc. (PTEN, Financial), an operater of land-based drilling rigs in the U.S. and Canada, is one such company. The stock was trading around $29.4 on Feb. 14 and has subsequently declined 32% to $20.11 on June 28.
I see this sharp decline (share dilution post the Seventy Seven Energy acquisition is one downside factor) as an opportunity to accumulate the stock.
Strong fundamentals
Patterson-UTI is a good investment because of its fundamentals. Its strong fundamentals will ensure the company navigates the challenging periods and emerge from crisis with a robust balance sheet. This will allow the company to make accelerated investments for growth without financial stress.
The company had $467 million in cash as of March, with $403 million in cash used in April to repay Seventy Seven Energy's debt. Deleveraging the balance sheet is positive for the long term and I do not see any liquidity concerns.
As of March, the company had $632 million in a revolving credit facility with $490 million extended to March 2019. Since capital expenditures are expected to be $450 million for the year, Patterson-UTI Energy is fully funded for fiscal 2017 and potentially fiscal 2018 considering internal cash flows.
Another important point to note is the company has no debt maturity until October 2020. After that, the next debt maturity will be in June 2022. Therefore, with an extended debt maturity profile, there is no debt refinancing pressure in the medium term and the company’s financial flexibility remains strong.
Quality assets
In challenging times for any industry, my individual stock analysis focuses on the fundamentals followed by asset quality. Strong fundamentals ensure the company can navigate the crisis and quality assets ensure asset utilization gets a strong boost when industry conditions improve.
For Patterson-UTI, asset quality is high and as the U.S. oil and gas industry witnesses gradual recovery, it is likely rig utilization will trend higher while the EBITDA margin remains relatively muted in the coming quarters.
The company has 198 APEX class rigs. The company recognizes itself as a leader in walking rig technology for pad drilling applications.
The key point to note is the rigs are highly efficient with walking times of 45 minutes for 10 to 15 feet of well spacing. Further, advanced environmental spill control is integrated into the drilling floor. These features make the rig attractive for drillers looking for security and cost effectiveness.
Even in the pressure pumping segment, the company has a quality fleet of modern equipment. Its concentrated footprint in this segment ensures economies of scale. Overall, Patterson-UTI has some of the best assets in the industry and the company is well positioned to deliver strong numbers as industry conditions recover.
Where is oil headed?
The sole factor that is likely to determine the industry trend is the direction of oil prices in the coming quarters. Oil prices have seen some correction in the recent past, but I remain bullish and expect them to move higher from current levels.
With OPEC and non-OPEC members agreeing on continued production cuts and sustained geopolitical worries in the Middle East, I do not see oil moving lower.
Further, as China and India witness gradual economic recovery, the demand for oil should trend higher and prices are likely to see positive momentum. Therefore, in the long term, I see oil moving higher, whick will keep sentiments positive for Patterson-UTI Energy.
Conclusion
Patterson-UTI Energy is a quality name in the U.S. onshore oil industry. With strong fundamentals, the company’s long-term outlook remains bright. Its high-quality fleet will ensure rig utilization gradually improves and takes the stock higher.
While EBITDA margin expansion is unlikely anytime soon, higher rig utilization will be the key stock upside trigger. I advise gradual accumulation at current levels and on any further decline.
Disclosure: No positions in the stock.
