Weir Group jumped 9% after issuing a trading statement that showed a stronger than expected performance from its Minerals business, offsetting weaker than expected demand in the Oil & Gas division.
Overall, first half results will be a little ahead of market forecasts, but the group expects that the weakness now being seen in Oil & Gas will lead to the full year outcome remaining in line with expectations.
Weir is facing some stiff headwinds currently but seems to be coping. Its customers are typically mine operators or Oil & Gas drilling contractors, both of which groups have been badly impacted by weak commodity prices.
Aftermarket revenues in oil and gas are far more cyclical than is typical, because the assets that Weir is servicing are taken in and out of service altogether as the oil price gyrates, rather than just seeing their rate of utilisation flex up or down a little. Having earned margins of over 22% two years ago, the division is now losing money, though not much, so far.
The Mining division appears to be holding its own better than one could have dared to hope. Customers are still cutting spending plans, but have to keep spending on their existing mines, if they are to keep the cash flowing. The rise in OE orders during Q1 is little short of miraculous given the industry backdrop and Weir deserve a pat on the back for achieving it.
The balance sheet is a concern however. Earnings forecasts have tumbled and the group's £800m+ of debt is now around 3x expected cash earnings. If commodity prices rebound, and Weir's activity levels pick up, profits will quickly recover to the point that the debts look easily managed. But a sustained period of low commodity prices will be harder to deal with and we would not rule out Weir looking to raise funds at some point.
In the meantime, the shares trade on relatively high multiples of cyclically depressed earnings, suggesting that the market has them clearly marked down as a potential recovery play. Thus far, the omens are mixed, with Minerals surprisingly resilient and Oil & Gas going from bad to worse. But, can things really get much worse in the Oil & Gas division? The scale of idling in the global drilling fleet is such that it gets harder and harder to imagine the surplus of oil supplies persisting for too much longer, given how little drilling is going on.
Activity by Division:
Oil & Gas: Activity weakened in every region. So far in 2016, the US land rig count has declined by 40% and Weir believe that 70% of the US frack fleet is now idle. The number of wells drilled in the USA is expected to decline by 46% this year and the rig count outside the US is close to the lows seen in 2009.
Order input dropped 47% vs Q1 2015, with Original Equipment (OE) orders down 40% and aftermarket (AM) orders down 49%. Input was also lower than in Q4 2015. Revenues were materially lower and margins slipped below break-even. Weir expect the division will have a weaker outturn for the year than previously expected, but will remain cash generative throughout.
Minerals order input was down 5% like for like versus Q1 2015, but well up on the previous quarter and ahead of management's expectations. OE orders were 15% higher than the prior year, and 11% ahead after adjusting for acquisitions. AM input was 11% lower, impacted by extended holiday shutdowns at customer mines.
Overall, Minerals revenues were ahead of expectations, with a book to bill ratio of 1.06 over the quarter. Profits were ahead of plan, not least due to cost savings, with further benefits expected in the remainder of the year. Full year margins are expected to be broadly unchanged.
Flow Control saw orders slip 20%, with OE orders down 28% and AM orders 10% weaker. Full year divisional results will benefit from a strong opening order book for OE pumps, with margins in seen in line with the prior year. Debts are described as higher than the year end level, but in line with where management had expected them to be.
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