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Petrofac - revenues and orders continue to shrink

Nicholas Hyett, Equity Analyst | 20 April 2021 | A A A
Petrofac - revenues and orders continue to shrink

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Petrofac Ord USD0.02

Sell: 120.70 | Buy: 121.70 | Change 2.80 (2.36%)
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Petrofac reported revenues of $4.1bn in the 12 months to the 31 December, down 26.2% year-on-year. That reflects delays and disruption to some contracts due to coronavirus, and a contraction in customers' capital spending as a result of the oil price collapse last year.

Lower revenues and some increased costs meant underlying profits fell 82.6% to $48m. However, that's before $228m of impairment and restructuring costs, which pushed the group to an overall loss of $180m for the year.

The group's order backlog fell from $7.4bn a year ago to $5.0bn at the end of 2020.

The dividend remains suspended.

Petrofac shares fell 4.6% in early trading.

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Our view

The collapse in the oil price last year saw many major construction projects in the oil & gas sector delayed or cancelled. As a key supplier of engineering and construction services to the industry, that has had inevitable consequences for Petrofac.

Revenues are lower, pandemic related costs are higher, and some contracts have been pushed into loss making territory. However, the exceptional nature of 2020 means profits this year need to be taken with a healthy pinch of salt - they not a useful guide to what will happen in 2021 or beyond.

What really counts is Petrofac's ability to win new business once the sector starts to re-open.

There are some worrying signs on that front. At full year results in April 2021, Petrofac said it was bidding on $20bn of business due for award in 2021, but back in December 2020 it was bidding on $42bn of business due for award over the same period. Having announced only $300m of contract wins since the start of the year that implies the group's contract win rate is abysmal.

In fact, we think the issue here is the decision by the Abu Dhabi National Oil Company back in March to suspend Petrofac from bidding for new awards. That followed the announcement that a former Petrofac employee pled guilty to offences under the Bribery Act in relation to contracts awarded in the UAE in 2013 and 2014. The allegations are an extension of the UK Serious Fraud Office (SFO) investigation into malpractice in other regions. While neither Petrofac nor any current employees have been charged with any offences the result is, as Petrofac puts it, that "the UAE market is currently unavailable" to the group. We suspect that lies behind the substantial decline in pipeline projects over the last 6 months or so.

The loss of UAE pipeline projects increases the pressure on the group to win projects elsewhere. With $3bn of work in the existing backlog scheduled for completion in 2021, the group needs to seal the deal on roughly 15% of available contracts just to stand still this year.

In 2019 the group managed $3.2bn of new contracts, so it's not impossible, but it is a stretch. We also worry that the pressing need to win business could lead to overly aggressive bids for what contracts are available, boosting revenues at the expense of margins and profits. That's an age-old problem in the construction sector and one Petrofac needs to avoid.

The $34bn of contracts due for award in 2022 may give the company some optimism that it can strengthen its recovery later in 2021. Growth in renewables will help, as will exposure to relatively low cost oil fields in the Middle East and Africa which should be more competitive in a low oil price world.

Meanwhile cost control in its core engineering businesses also means the group hopes to modestly improve margins in 2021. If new CEO Sami Iskander can deliver both new business and margin improvements, 2020 will prove to be the low point in a hair-raising rollercoaster for shareholders. The upward slope could be sharp.

Unfortunately, the balance sheet is not ideally positioned if things don't go to plan. Having run a net cash position last year the group is back with a modest net debt position - despite cancelling the dividend and making disposals. Available liquidity (through both cash and undrawn debt facilities) is still substantial, at $1.4bn, up dependent on some short term funding.

The company's future depends on a turnaround in fortunes for the oil sector (over which it has no control) and we've seen this year that the ongoing SFO investigation has the potential to cause upsets. For now the all-important number at Petrofac is the order book and we need to wait and see a path to sustained growth there until we're more enthusiastic about the future.

Petrofac key facts

  • Price/Earnings ratio: 7.6
  • 10 year average Price/Earnings ratio: 9.2
  • Prospective dividend yield (next 12 months): 2.4%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Full Year Trading Update

Engineering & Construction (E&C) reported full year revenues of $3.1bn, down 31% on 2019. That reflects pandemic related disruption and reduced capital expenditure by clients in the face of a lower oil price. Increased COVID related costs and losses on some contracts saw profit margins fall 4.2 percentage points to 2.0% and resulted in a net profit of $62m.

Engineering & Production (E&P) saw revenue rise 5% to $0.9bn. Net profit margins fell 1.2 percentage points to 4.2%, reflecting an anticipated decline in contract margins partly offset by cost savings. The division reported a net profit of $39m, down 19% year-on-year.

Integrated Energy Services (IES) reported a 43% revenue decline to $110m, reflecting a 42% decline in average oil prices year-on-year and a 10% decline in production. Despite some cost savings the division reported a net loss of $18m.

Petrofac's order book at the end of the year stood ta $5bn, consisting of $3.3bn in E&C (2019: $5.7bn) and $1.7bn in E&P (2019: $1.7bn). That reflects low order intake as clients restricted spending in the low oil price environment, as well as the cancellation of the $1.5bn Dalma contract in the UAE.

New order intake during the year was $1.6bn, and the current order book includes $3.0bn of work due to be completed in 2021. The group is currently tendering on $20.0bn of new business due for award in 2021 and $34bn due in 2022.

The group finished the year with net debt of $116m, versus $15m net cash a year ago. That reflects lower profits and a working capital outflow, with an overall free cash outflow of $73m during the year.

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This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

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