This Company Makes BP Pay Up

Concerns over limited future oil production in the Middle East point to the growing importance of domestic energy production. The Obama administration, just like every administration before it, appears adamant that domestic energy production must grow.

While there remain concerns about the future of offshore oil exploration in the wake of the BP ( BP ) disaster, land-based drilling for oil and natural gas is a sector likely to see continued growth.

One standout contender is Patterson UTI Energy (Nasdaq: PTEN) , a Texas-based company that drills onshore wells for other companies that explore for oil and natural gas.

Patterson UTI, with a $4.9 billion market capitalization, owned 341 land-based drilling rigs at the end of 2010. This made the company the second largest operator in the U.S. The company offers well drilling services in many of the most promising regions for domestic oil and gas production, including the Bakken Shale, The Marcellus Shale, and the Eagle Ford.

This company benefits when demand for rigs outpaces supply, which results in higher rig utilization rates and increased contract fees. You see - companies like Patterson lease their rigs for a flat fee per day - known as "day rates." When demand for rigs is up, Patterson can raise its rates.

The demand for land based drilling increases with the price of crude oil. This relationship is a big positive catalyst for Patterson UTI, which was able to raise its day rates by $760 in the second quarter of 2011 to $21,000 per rig per day.

Not only is Patterson UTI raising rates, but it's also growing its fleet of operating rigs. In the second quarter, the company increased its rig count by 5.3 percent compared to the first quarter. By the end of July, the total number of rigs in operation had grown to 215.

While growing the average billable rate has been a boon to Patterson UTI, the company also benefits from the stability offered by long-term contracts. During 2011, roughly 40 percent of the company's rigs are under long-term contracts. While these contracts limit the upside opportunity from increased day rates, they do provide safety and security to the company since this commitment guarantee revenues.

Patterson UTI's growth has been downright impressive. In 2010, the company grew revenues by an astounding 87 percent to $1.46 billion. The company that lost $38 million in 2009 turned around and delivered a profit of $117 million, or $0.72 per share, last year.

Growth in 2011 has been similarly impressive. Last Thursday, Patterson reported that net income rose to $81.6 million, or 52 cents a share, compared with $29.5 million, or 19 cents per share a year earlier. Revenue practically doubled to $600 million from $307 million a year earlier.

With all of this growth, investors might expect Patterson UTI shares to command a healthy premium. If that were the case, I wouldn't be telling you about the company though.

Shares of Patterson UTI are a steal, trading at just 11.5-times EPS estimates for next year. It's extremely rare to find a stock growing at such a rapid clip, yet trading at such a reasonable valuation.

Given the company's room for continued growth in 2011 and 2012, shares are undervalued. I think a fair value for the stock today is $38. With 18 percent upside to the stock, Patterson UTI looks quite attractive. The company also pays a small $0.20 dividend per share, providing a yield of 0.6 percent.

If you believe that oil and natural gas prices are going up then investing in Patterson UTI is a great way to gain exposure to the sector.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

More Related Articles

Sign up for Smart Investing to get the latest news, strategies and tips to help you invest smarter.