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Thursday, February 10, 2011

Drilling For Dollars - Atwood Oceanics

Many of you may never have heard about a midcap company called Atwood Oceanics (NYSE: ATW), as it is not as well known as Diamond Offshore (NYSE: DO) or Transocean (NYSE: RIG). Atwood engages in offshore drilling, exploration and development of oil and gas wells. The company also provides support, management and consulting services in this arena.  While Atwood is not as large as Transocean or Diamond offshore it still has about 700 employees and 10 rigs operating around the globe.

Like many of the companies in the offshore industry after the British Petroleum (NYSE: BP) fiasco in the Gulf Of Mexico (GOM) Atwood was sold off and has struggled to get back to the price levels of yesteryear. Atwood's only stake in the GOM is a submersible rig that goes by the name Richmond yet it still was unfairly tarred with the same brush as players that have multiple rigs in that space. Mr. Obama's moratorium on “Deep Water” drilling put a real pinch on Atwood because of the typical market shoot first ask questions later psychotic reactions.

The action is no different than the selloff in tech we will probably see today as a result of Cisco's (NASDAQ: CSCO) earnings call. As a tangent Cisco guided down due to competition not so much because of the market environment for their products. The reaction of players in today's casino stock exchange is to just sell everything “tech” whether it is in the same space or not. There is no thinking involved to see if the factors that affected Cisco would have any impact on others in the space like say database sellers like Oracle (NASDAQ: ORCL) or Data storage companies like EMC (NYSE: EMC), instead there is just the herd throwing the baby out with the bath water providing great entry points on some issues.

Back to Atwood, their exposure to the GOM is only through the Richmond and being shallow water submersible many investors overlooked two key facts. First, since it is in shallow water it is not affected by any form of deep water moratorium. Second, the Richmond is a submersible which means that it can have the ballast pumped out of the tanks that allow it to stay in place and it can then be towed anywhere in the world there is demand.  The demand is there as we have not seen consumer demand for energy drop but rather increase even in these economic times. Combined with a variety of reports coming from governments and industry sources that point to increased demand and lower supplies; rigs of all kinds will have work even if they are not wanted in the GOM as short sighted as that may be. To add fuel to the need fire (no pun intended) there is a report out of Wikileaks today showing that the Saudi reserves that are always bandied about as the plug factor for any short fall are overstated by as much as 40%. If you are interested you can keep up with oil reports including demand and supply figures by reading the International Energy Agency's (IEA) web site where they publish a monthly PDF file with lots of great information.

Atwood Oceanics nine other rigs are located around the world ranging from Africa, Australia to Asia and consist of both Jack Up type rigs and submersibles. At the moment Atwood has six new rigs in process to aid in their growth. One of Atwood's new rigs is scheduled to come online this year and it is a submersible.  Atwood is also building five more rigs, three of which are scheduled to come online in 2012 and two others scheduled for 2013. While each rig will add to Atwood's growth profile the most exciting rig comes on line in 2013 as it marks an expansion into a new drilling segment. In 2013 the Atwood Advantage is to be christened in to service. The Advantage is an ultra deep water dynamically positioned drill ship which marks Atwood's first foray in the big boys playground. So as you can see with demand strong and supplies are questionable so there will be plenty demand for not just Atwood's services but the other drillers too.  As Atwood rolls out new rigs this should continue to add to their bottom line given the current oil picture. Moreover, if as supply figures indicate a gap between production and demand the need for more drillers could become acute and not only stabilize day rates but also could bolster new ones. Atwood like other contract drillers know their cash flow as the contracts tend to be long in duration, however, the ability to introduce new rigs in the future when demand could be even higher bodes well for increasing earnings.

Atwood with its roughly $2.7 billion in market cap is a peanut compared to RIG ($33 Billion) or DO ($10 Billion) , but it is financially just as sound.  Atwood sports a current ratio of 3.23 and carries about $300 Million in debt, with interest coverage ratio of 67.82% ATW is not even close to being over leveraged.  The real kicker comes from Atwood's margins; their operating margins are 48% and profit margin is 38.39% which outpaces just about everyone else in the space (Diamond Offshore comes close with 41.5% and 28.75% respectively). This means that Atwood is very efficient in how they run their business and they get the maximum bang for each buck they bring in.

From a valuation perspective Atwood's PE on a trailing basis is 11.47 and their forward PE is projected at 10.57 times.  The five year average PE for the drillers is on the order of 23 times earnings so one could argue that the entire sector is undervalued at the moment since the vast majority of the players in this space have a PE under 15.  If you look at Atwood specifically their PE has ranged in the past 5 years from a low of 3.2 to a high of 21.3 which averages out to 12.3; at their forward PE or current PE assuming minimal growth ATW should be able to trade up to the average. Of course I believe they will trade much higher since they have a backlog of over $1 Billion and plenty of cash on hand.  Moreover, with new rigs coming on line they should be able to generate even better earnings going forward. Additionally the 5 year PEG Ratio is .71 indicating that there is plenty upside as a PEG of 2.0 indicates fully valued.

I have attached a chart below so that those of you that are into Tarot  card  or pig entrail reading like myself can see the price action in Atwood. The weekly chart shows Atwood has etched out a cup with handle base and has broken out to the upside on strong volume. The shares are trading above all the pertinent moving averages, ie… the 10 week and 50 week. Additionally, the 10 week MVA has formed a golden cross by cutting through the 50 week which usually portends higher prices.  I would not chase Atwood above $43 and if you miss it put it on your watch list and see the next time it comes back to test the 10 week moving average would likely be a great entry point.

Disclosure: Long Atwood Oceanics.


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