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Petrofac - 2016 on course, but future remains challenging

Equity research team | 15 December 2016 | A A A
Petrofac - 2016 on course, but future remains challenging

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Petrofac Ord USD0.02

Sell: 120.70 | Buy: 121.70 | Change 2.80 (2.36%)
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2016 on course, but future remains challenging

In a pre-close statement issued ahead of full year results due in February, Petrofac said that it expects to deliver net profit of $410m, in line with previous guidance.

Excluding the group's own oil and gas production, which is expected to report a loss of $55m as a result of lower oil and gas prices, the core engineering operations delivered a profit of $465m.

The shares fell 1.2% in morning trading.

Our View

A lot of the major challenges faced in 2016 are now in the past.

The Laggan-Tormore gas project, with its associated cost overruns, has been handed over. A recovering oil price means write downs in the IES business, which handles the group's investments in oil and gas fields, are hopefully behind us. True, the giant JSD6000 rig-lifting barge looks set to remain in limbo for now, but a recovering oil price should at least increase the appetite of potential buyers.

The core engineering businesses, which account for the lion's share of profits, are looking healthier, with profits running slightly ahead of expectations for the full year. However, with new projects awards slowing to a trickle, this is coming at the expense of the backlog.

That's Petrofac's current problem. Oil prices may be recovering, but E&P companies were too badly scarred by the crash to start splashing large sums on new projects straight away. If new orders remain in the doldrums, Petrofac's huge order book will start to drain away. Even the group's impressive cost cutting can't offset a lack of projects to work on.

Fortunately, Petrofac's business is weighted towards the Middle East and North Africa. Given those regions often have low production costs, reflecting onshore locations, that's a big advantage. If projects are going to be commissioned anywhere, it's here.

Despite industry wide challenges, Petrofac looks well placed compared to many of its competitors. It currently trades on a forward PE ratio of 9.9 times forward earning, versus a long run average of 12.2 times. If it meets market expectations the dividend should be comfortably covered by earnings going forwards (unlike the last two years), with the stock offering a prospective yield of 5.7%.

Q4 pre-close:

Group order intake for the year was $1.4bn, compared to $8.8bn this time last year, reflecting challenging market conditions. Meanwhile, Petrofac's order backlog, a measure of the future value of existing orders, fell to $14.5bn at 30 November 2016 (June 2016: $17.4bn).

The group has been working hard to increase efficiency, with headcount down by 25% this year. Net debt remains flat at around $0.9bn, as lower cash flows from IES and increased work in progress in Engineering & Construction are offset by the proceeds of the sale of the Berantai RSC and reduced capital expenditure.

CEO Ayman Asfari commented;

"Our existing backlog continues to provide excellent visibility for Group revenue next year and our bidding activity has increased during the last quarter of the year. We remain very focused on maintaining our cost competitiveness and discipline in a competitive market, and are well-positioned for a recovery in our core markets"

Unless otherwise stated, all estimated figures, including prospective dividend yields, are taken from a consensus of analyst forecasts compiled by Thomson Reuters. These estimates should not be taken as a reliable indicator of future performance.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.