National Oilwell Varco (NOV) posted phenomenal second quarter results July 30. Revenue surged 18% year-over-year to $5.6 billion, smashing consensus estimates. Earnings-per-share was also strong, growing 14% year-over-year to $1.33 (excluding one-time events), in-line with consensus expectations. The firm generated $212 million in free cash flow during the quarter, equal to 6% of revenue.
The 'Rig Technology' segment performed exceptionally well during the quarter with revenue up 18% year-over-year to $2.8 billion, with an operating margin of 20.7%. Although drilling can take several forms (deepwater, shale, etc.), the company continues to have nice exposure to the major trends in the oil drilling space. CEO Clay Williams reinforced this idea on the conference call, noting:
"…4 big macro trends in the industry, deepwater rigs, FPSOs, jackup retooling and shale technologies onshore, paint a bright future for the key provider of equipment into each in the long run. Our investments across all 4 areas speak to our confidence in the long-term outlook for each."
Looking ahead, the 'Rig Technology' segment's backlog jumped 18% year-over-year to $2.1 billion. Thus, demand appears to be strong going forward.
National Oilwell Varco's 'Petroleum Services and Supplies' business did not perform as well during the second quarter, as revenue declined 2% year-over-year to $1.75 billion. High inventories in North America led producers to idle production and save cash in the interim. We believe this could continue to be a near-term headwind thanks to the surge in production and oversupply we've seen as a byproduct of the shale revolution. Management did not sound too negative about international markets and noted strong demand in the Middle East. We think growth could remain lackluster in this segment but potentially accelerate in early 2014.
The firm's 'Distribution and Transmission' segment revenues surged 66% year-over-year to $1.3 billion, mostly due to M&A activity in 2012. The integration of Robbins & Myers (acquired for $2.5 billion in cash) seems to be going relatively well, even though Canada was relatively weak. Looking ahead, management expects single-digit sequential revenue growth in the third quarter with margins remaining flattish. However, the company noted that there will be some opportunities for integration, as CFO Jeremy Thigpen explained:
"On the topic of integration, this group is doing a lot of heavy lifting. To put it in perspective, between NOV's legacy distribution group, Wilson and CE Franklin, we have identified 80 facilities for potential consolidation, that's 80 out of a total of 257 North American distribution facilities. Of the 80, we've already fully integrated 22 facilities, which means that we're in the same building with common inventory, common systems and common support staff. We'll complete another 3 facilities this quarter and we have partially integrated another 29, which means that we're sharing roofline; however, we're still operating on separate systems."
Even though North American shale oil is suffering a bout of oversupply, the long-term fundamentals surrounding National Oilwell Varco remain positive. Management indicated that capital will continue to be returned to shareholders via dividend increases, a move we agree with considering the firm's robust Dividend Cushion score. Ultimately, with a low yield and a relatively fair valuation, we do not see a place for National Oilwell Varco in either of our actively-managed portfolios at this time. We prefer firms with a higher score on our Valuentum Buying Index. National Oilwell Varco earns a 6 on our scale.