McDermott - There Are Some Light Points In McDermott's Troubles

| About: McDermott International, (MDR)

Shares of McDermott (NYSE:MDR) have taken a serious beating lately. Last week, the troubled engineering and construction company for the offshore oil and gas industry, reported a disastrous second quarter earnings report.

Yet the company has taken the right measures, although this was a bit late. The strong financial position and solid order backlog should ensure McDermott can withstand the crisis and create long-term value for shareholders.

Second-Quarter Results

McDermott generated second-quarter revenues of $647.2 million, down 27.2% on the year before. The fall in revenues is mainly attributable to completion of significant projects in the Middle-East and Asia, which did add to last year's revenues. Consensus estimates for second quarter revenues stood at $757.9 million.

The company reported a net loss of $149.4 million attributable to shareholders. This compares to a $52.7 million profit a year earlier. The large losses are attributable to large project losses, on which I will elaborate further, and $15.5 million in restructuring charges.

Net losses per of $0.63 per share fell way short of consensus estimates of a profit of $0.03 per share.

Project Challenges

The company is battling with project delays in Asia-Pacific and the Middle-East, which are causing the large losses. The Asia division reported a $62 million loss on a delay of a deepwater pipe lay project in Malaysia, which is now estimated to be completed in the second quarter of 2014.

Another $38 million charge was related to a project in Saudi Arabia. A massive vessel mobilization effort to complete an extended offshore hookup campaign, are to blame. This project is expected to be completed by mid 2014.


The company is taking action to address the weakness in project bidding and execution. CEO and Chairman Stephen M. Johnson commented on the actions, "We are driving a more disciplined culture within the Company, and we expect our operating leadership change announced separately today will add focus and urgency to our intentions."

As a result of the poor performance, the Atlantic operations will be restructured. The company will take $45 to $60 million in restructuring charges, of which $15.5 million have been taken over the past quarter. Staff in Houston and New Orleans will lose jobs as the fabrication and marine activities will be shifted towards Altamira in Mexico.

To quickly address the issues in bidding and project management, the company has hired experienced project leaders and risk management staff externally. McDermott furthermore changed its incentive-based systems for relevant staff.


McDermott ended its second quarter with $473.2 million in cash and equivalents. Total debt stood at just $95.6 million, resulting in a solid net cash position of about $380 million.

Revenues for the first six months of the year came in at $1.45 billion, down 10% on the year before. The company reported a $128.9 million loss compared to a $115.5 million profit last year. At this rate, annual revenues for 2013 could come in around $3 billion, while the company will most likely report a small loss.

Trading around $7.25 per share, the market values McDermott at roughly $1.7 billion, or its operating assets at little above $1.3 billion. This values operating assets of the firm at 0.4 times annual revenues.

McDermott currently does not pay a dividend.

Some Historical Perspective

For a long time, McDermott has created excellent value for its shareholders. Shares rose from merely $3 in 2004, to highs around $60 in 2008.

Shares fell all the way to lows of $8 later in 2008, amidst the financial crisis, but have seen a recovery into their mid-20s in 2009 and 2010. In the years following shares kept sliding to current lows of $7 at the moment.

Between 2009 and 2012, McDermott increased its annual revenues by a cumulative 11% to $3.64 billion. Net income roughly halved to $206.6 million in the meantime. Obviously 2013 will be a much tougher year given the outlined developments above.

Investment Thesis

Investors are worried, after shares have lost over a third of their value year to date, while the rest of the market has seen a stellar performance.

Obviously the large project losses and lose policies in the bidding and execution process are a big worry. Yet the company has finally taken rigorous steps to end losses and regain control. As these troubled projects should be finalized within a year's time, the worst should be over.

McDermott should be able to return to profitability, especially after taking into account the favorable impact from recently announced cost cuts. The move to close the Morgan City facility, which results in 350 jobs being lost, will cut operating expenses by $10-$15 million a quarter.

While the losses are severe, the company has plenty of cash and a rather small debt position. The net cash position of roughly $380 million should be sufficient to weather the storm, while the current backlog of $5.1 billion should provide support as well.

As a matter of fact, the current valuation values its assets at fire-sale prices, boosting speculation about possible merger and acquisition activity. Given the fact that CEO Johnson recently bought $500,000 worth of its shares following the recent share decline, I am cautiously optimistic.

The combination of the right measures being taken, solid financial position, insider purchases and potential M&A activity make it an interesting play for the time ahead.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.