In an article I published last February, I initiated a buy statement with a target price of $93.85 for Schlumberger NV (SLB). At that time the stock was trading in the mid to high $70s. The target was based on the opinion that increasing global demand for energy and energy services stocks would increase shareholder value. In revisiting my outlook, I believe there is still significant upside from this point and believe the stock is currently undervalued compared with today's stock price of $87.00.
Schlumberger is the world's leading supplier of technology, integrated project management and information solutions to customers working in the oil and gas industry worldwide. Employing approximately 120,000 people representing over 140 nationalities and working in more than 85 countries, Schlumberger provides the industry's widest range of products and services from exploration through production.
Catalyst For Schlumberger Limited
Schlumberger Limited is a global company with a current market cap of $116.1 billion. Even though Schlumberger has many revenue streams, increased E&P spending in the deep-water and ultra-deepwater regions around the world will be a key driver for future growth in revenue, earnings and the stock price.
Deep-water and ultra-deepwater exploration and drilling have shown a remarkable increase over the past few years. This is due in part to the development of new technologies, which have reduced operational costs and increased safety. These technological advancements have also increased a company's ability find and access more reservoirs that will produce high-quality production wells.
Schlumberger NV, which is a leader in the development of new technologies for deep-water drilling, has pushed the envelope with its engineering and technological advancements. Many of these advancements have opened up a greater amount of opportunities in areas such as the Pre-Salt region off the coast of Brazil, the Barents Sea in Norway and the U.S. Gulf of Mexico.
As more advanced technologies have created opportunities, that in turn has reduced costs and increased safety, it has become economical for companies to pursue deep-water reserves. Major E&P companies such as Exxon (XOM), Chevron (CVX), BP p.l.c. (BP) and Royal Dutch Shell (RDS.A) have increased their presence in deep-water regions. Exxon is expecting deep-water projects to account for 8% of its new source production over the next decade. Chevron is expecting deep-water projects to account for 40% of its new source production. BP p.l.c. is banking on the most as it is expecting 52% of its new source production to be from deep-water reserves over the next 10 years, while Shell is more reserved in that it expects 25% of new source production to come from deep-water projects. To support their deep-water growth, these major E&P companies along with others have significantly increased their deep-water Capex spending outlook over the next four years.
Over the next four years, It is estimated that global growth in the offshore E&P sector will increase 8 to 10% YOY. Leading the way in E&P spending is Brazil, which is anticipating $250 billion to be spent on the development of its offshore reserves. Second in E&P spending is Norway, which is expecting $220 billion to be spent on the development of the North Sea, Norwegian Sea and the Barents Sea. The region that Schlumberger is focusing on is the U.S. GoM. Within the U.S. GoM, E&P spending is expected to be around $190 billion over the next four years.
Chart by Aker Solutions
North America and the GoM
As E&P spending in the U.S. GoM is expected to exceed $190 billion by 2017, there are significant opportunities for growth within this region. Due to production increases in the U.S Gulf of Mexico since the Macondo disaster, Schlumbergers' revenues in North America have increased significantly. In 2013, Schlumberger reported North American based revenues at $13.3 billion. This is a 97.62% increase over 2010, when it reported North American revenues of $6.73 billion. The increase in revenue is due in large part to increased production in the U.S. GoM. As production levels continue to increase in the U.S. GoM, it is expected that this will further drive the company's revenues. As the chart below indicates production levels through to 2018 are expected to continue to escalate. U.S. GoM production levels are expected to rise from approximately 2.5 mboe/d to 3.75 mboe/d by 2018.
chart sourced by (PCF Energy)
Revenue & EPS Outlook
Offset by the weaker onshore market, Schlumbergers' North America revenues lead by the offshore market is expected to increase significantly over they next couple of years. Driven by the Gulf of Mexico, revenues in North America are expected to increase by 19.55% over the next couple of years.
With a global increase in deep-water capex spending relating to Schlumbergers' businesses, analysts at MSN Money are expecting significant growth over the next couple of years. They are estimating an EPS for FY 2013 at $4.76 while robust growth is expected to continue into 2014 as EPS estimates increase to $5.77.
Bloomberg Businessweek supports this forecast as it expects the company's revenues to be around $45.6 billion for FY 2013 and increase to $50.4 billion for FY 2014.
In the section below, I will use a couple of different methods to find a valuation of the stock price. In this section, I will use the Discounted Cash Flow valuation model and forward P/E ratios to estimate the current value of each share.
I believe using the Discounted Cash Flow valuation model for Schlumberger NV to be fair because DCF analysis can help one see where the company's value is coming from and one can generate an opinion based on that.
Even though there are variations in calculating this formula, this model is based off of a terminal value of $133.737 billion and a WACC of 8.00%. The terminal value $179.325B is based off of the company trading at 13X EBITDA. Using these valuations, I have concluded Schlumbergers' value to be $96.26 per share.
In another method, I will use Schlumbergers' forward P/E ratios with estimated earnings to find the value. Currently, Schlumberger has a forward P/E of 15.15 and FY 2015 earnings projected at $6.66. These two metrics lead to a target price of $100.89. I believe this to be a fair P/E ratio moving forward. As we look to be heading into a rising interest rate environment, P/E ratios tend to drop during this time. Even if I took 7% off an already low forward P/E of 15.15 this would give the company a forward P/E of 14.09. A forward P/E of 14.09 would give the company a value of $93.84 per share.
As of September 17, Schlumberger NV's stock was trading at $87.00 - Using the Discount Cash Flow Formula, this indicates the stock is trading at a 10.64% discount to today's price. If I calculate a valuation using forward P/E ratios this indicates a valuation of $100.89 or a discount of 15.97%.
Analysts Price Targets
- Finviz has a price target for Schlumberger at $98.04.
- Recently, Barclays gave the company a "Overweight" rating with a target of $123.00.
- In July, Deutsche Bank gave the company an "Buy" rating with a target of $93.
I believe a good strategy is, add a 50% position here and wait to see if the overall market would bring the price down. Based on the seasonality of the stock, there could be some volatility in the short term. According to a 20-year seasonal average supplied by equity clock, late September and early October can show some weakness.
If this seasonality part of the strategy does not work and you added a 50% position at this point, you would still have invested in stock that has excellent growth prospects in a growing sector.
Even though Schlumberger's stock price has increased from $72.00 to its present price of $87.00 over the past nine months, I believe the stock has significant upside from here. With Schlumbergers' strong presence in North America and the growing outlook for offshore deep-water development, it is my opinion this is an excellent time to purchase the stock. At current levels using the Discount Cash Flow Formula, I have calculated that Schlumberger Limited is currently trading at a 10.64% discount to today's price.