Back to Main

Dril-Quip Profit Fueled By Offshore Drilling Wave

By: Investor's Business Daily
Posted: 12/23/2013 3:12:00 PM
Referenced Stocks: BP;COP;DRQ;PBR

Fueled by the stepped-up pace of offshore oil and gas exploration and drilling activity, deepwater equipment maker Dril-Quip has been enjoying a healthy growth spurt.

Dril-Quip ( DRQ ) has logged double-digit profit growth in all but one of the past seven quarters. And if Wall Street is on the money, it will stay on the fast track. Analysts polled by Thomson Reuters see full-year earnings climbing 41% to $4.16 a share. They expect a 31% rise in 2014 and an 18% increase in 2015.

Dril-Quip makes offshore drilling and production equipment, which is well suited for use in the harsh deepwater environment and severe service applications. Almost all its products are geared for use in water more than 1,000 feet deep. They're used by major integrated, large independent and foreign national oil and gas companies in offshore areas throughout the world.

What's spurring the uptick?

"It's being caused by the proliferation of deepwater drilling on a global basis, and in particular the rebound in deepwater activity in the Gulf of Mexico," Barclays analyst James West told IBD in an email interview. "Deepwater drilling continues to increase in every deepwater market around the world, driven by strong commodity prices and the desire of the integrated oil companies and national oil companies to discover new reserves."

Ocean Operator

Subsea equipment is anything connected to the seabed. Dril-Quip also makes surface equipment, used mainly for flow control on offshore production platforms. It makes offshore rig equipment, too. Its products are used to explore for oil and gas from offshore drilling rigs, such as floating rigs and jack-up rigs, and for drilling and production of oil and gas wells on offshore platforms.

Its broad product line includes products such as mudline hanger systems used in jack-up drilling operations to support the weight of various casing strings at the ocean floor while drilling a well.

All subsea-related products are in high demand globally, says West, and this is especially true for Dril-Quip's wellheads.

According to a company filing with the Securities and Exchange Commission: Subsea wellheads are pressure-containing forged and machined metal housings in which casing hangers are landed and sealed subsea to suspend casing (downhole pipe). As drilling depth increases, successively smaller diameter casing strings are installed, each suspended by an independent casing hanger. The wellheads are utilized when drilling from floating rigs.

Stepped-Up Exploration

West says Dril-Quip is the leading provider of subsea exploration wellheads to the offshore industry.

"The company is vertically integrated, which allows them to control product reliability and quality at every step of the manufacturing process," he adds.

A telling sign of the accelerated pace of deepwater exploration and discovery came with an announcement fromBP ( BP ) on Dec. 18.

The oil and gas company giant said it has made a "significant" oil discovery at its Gila prospect, which it co-owns withConocoPhillips ( COP ), in the deepwater U.S. Gulf of Mexico. This is BP's third discovery in recent years in the emerging Paleogene trend in the Gulf of Mexico and reflects its ongoing commitment to the U.S. offshore region, BP said in a press release.

The well was drilled to a total depth of 29,221 feet. BP's Gila discovery could be good news for Dril-Quip, which already counts BP among its customers.

In October, Dril-Quip announced a frame agreement with BP International for the supply of subsea wellhead equipment and related services. The contract provides the terms and conditions for worldwide call-off orders placed by BP for Dril-Quip's BigBore II-H series subsea wellhead systems. Orders previously placed by BP during 2013 were also governed by the terms of this contract. BP also has an option to extend the contract for an additional five-year period.

Dril-Quip, which was not available for comment, did not disclose further details of the BP contract.

In terms of other recent contracts, one of the most notable ones came in August 2012, when Dril-Quip was awarded a four-year contract byPetroleo Brasileiro Petrobras ( PBR ), Brazil's national oil company. At exchange rates in effect at the signing date, the contract was valued at $650 million, net of Brazilian taxes, if all the equipment under contract is ordered, says the company's most recent 10-Q SEC filing.

To date, Petrobras has ordered $138 million in equipment from the $650 million Petrobras contract, West wrote in a Nov. 1 report.

"We still expect this to reach around $160 million by the end of the year," he said. "While there are no imminent large projects on the horizon, DRQ continues to see significant opportunities for smaller higher margin projects."

Backlogs And Bottom Line

Overall, Dril-Quip is faring handsomely on the financial front. In the most recent third quarter, earnings surged 44% to $1.12 a share. Revenue rose 18% to $224.7 million.

Increasing levels of deepwater drilling have driven the company's backlog to record levels, West says. Dril-Quip's backlog at Sept. 30 was about $1.15 billion, compared with about $747 million a year earlier.

A number of forces are working together to bolster demand for Dril-Quip's products, including strong commodity prices and increased drilling activity.

"As the oil and gas industry continues to recover, the number of floating rigs (the rig type where Dril-Quip equipment is normally utilized) actively drilling in the U.S. Gulf of Mexico continues to increase," the company stated in a 10-Q filing with the SEC.

As of Sept. 30, there were 36 floating rigs actively drilling and an average of 36 for the first nine months of 2013, compared with a yearly average of 29 in 2012 and 18 for 2011.

Dril-Quip's offshore rig equipment includes products such as drilling riser systems. The drilling riser system consists of lengths of riser pipe and associated riser connectors that secure one to another.

Oil Price Impact

Higher oil prices have been helping to drive drilling activity. In the third quarter, Brent Crude oil closing prices ranged between $103.19 per barrel and $117.15 per barrel with an average quarterly price of $110.23. That compares to a range of $95.28 per barrel and $117.48 per barrel with an average quarterly price of $109.63 per barrel for the same period in 2012, says the 10-Q.

In its October Oil Market Report, the International Energy Agency forecast global demand for oil to be 91.0 million barrels per day for 2013, and to rise to 92.1 million barrels per day in 2014.

West is upbeat about Dril-Quip's prospects: "Revenue and margins have steadily improved," he said. "We expect revenue in 2013 to increase by 20% year-over-year and for gross margins to rise by almost 200 basis points. We see continued high oil prices driving demand for deepwater activity and new deepwater rig deliveries helping to satiate this demand."

Morgan Stanley analysts aren't so upbeat. In a Dec. 1 report, they lowered the stock's rating to underweight from equal weight.

"DRQ outperformed for several years on a robust exploration cycle and execution," they wrote. "Going forward, the shift from exploration to development should weigh on relative performance, while we see few catalysts for the stock."