Petrofac - Staying away from the deep end

Whilst the reversal of the US government’s offshore drilling moratorium in the Gulf of Mexico may have come as a relief to many, management at Middle East focused energy support services company, Petrofac (LON:PFC) were not sweating.  Petrofac’s exposure to regions in which capital expenditure of oil companies is expanding as well as its exposure to shallow water and onshore projects have seen the company continue on its impressive move forward.

Whilst the share price of rival John Wood Group (LON:WG.) has been hamstrung by its higher level of activity in the Gulf of Mexico, Petrofac recently released a trading update (for the first 6 months of the year) which illustrated just how rude a health the company is in. At US$6.9 billion the group’s estimated backlog as at the 30 June may be less than the $8.1bn from the 31 December, but this was expected. In addition, thanks to years of robust cash generation, the company announced that cash levels stand around the US$1bn mark.

Management expect the backlog to finish the year higher than it began with the group’s Engineering and Construction division at the centre of growth.

During the first 6 months of the year, the group’s pivotal Engineering & Construction division has encouragingly continued to race ahead. All eyes remain fixed on events at the South Yoloten scheme in Turkmenistan where the company is making good progress on the initial phase of the project. A potential US$4 billion contract waits in the wings if Turkmengas, the state owned national gas company of Turkmenistan decides to push on with a second phase. A decision will be made in the “near future”.

The group’s bidding pipeline remains robust in the core markets of the Middle East and Africa. Encouragingly, the development of Iraqi oilfields holds the potential to be extremely earnings accretive and given Petrofac’s established reputation in the region, the group is well positioned to capture the rising levels of capital expenditure.

Meanwhile we are encouraged by the news that the group’s Offshore Engineering & Operations division has secured significant contract extensions with key customers. In addition, the steps taken to bolster the group’s product mix via acquisition are also positive, particularly as the provide exposure to renewable energy and low carbon sectors, areas which legislation will surely favour more and more given recent events.

Elsewhere, whilst the performance of the Engineering Services unit remains uninspiring, Training Services is showing promise. Recent events have brought safety procedures and protocol sharply into focus and we can see the earnings contribution gathering momentum. Production Solutions is moving towards winning its first production enhancement contract whilst Energy Developments generated a sale of US$125 million through the sale of its Don Assets and the subsequent demerger of Enquest Plc.

The results suggest that Petrofac remains a robust quasi-defensive play on a long term energy bull market.   The company has minimal exposure to deepwater projects, focusing more on onshore and shallow water projects. The group has a firm foothold in the Middle East where tendering levels and subsequent investment by oil companies are gaining momentum.