National Oilwell Varco Got Slammed On The Back Of Earnings Again

Aug. 3.14 | About: National Oilwell (NOV)

Summary

The company reported increases on the top and bottom lines.

I believe revenues and earnings will be flat for the coming quarter.

I'll try to find opportunities to continue buying this name as I believe it to be undervalued with respect to 2015 earnings estimates.

The last time I wrote about National Oilwell Varco, Inc. (NYSE:NOV) I stated:

"I like the stock, but am not going to be purchasing a batch right now because I want to see if the downward revision of next year's earnings estimates is not a trend." Since that article was published the stock is down 2.32% while the S&P 500 (NYSEARCA:SPY) is down 3.02% in the same timeframe. Varco provides equipment and components for oil and gas drilling and production; oilfield services; and supply chain integration services to the upstream oil and gas industry worldwide.

The company reported earnings before the market opened on July 29, 2014, and on the surface the results were mixed with the company reporting earnings of $1.61 per share (beating estimates by $0.17) on revenue of $5.26 billion (missing estimates by $250 million). The stock dropped 1.52% after it reported earnings and what I'd like to do at this time is delve into the weeds and pick out some highlights from different portions of the report.

Segment Revenue

Segment Revenue (millions)

Y/Y

2Q14

2Q13

Rig Systems

14%

$2,372

$2,081

Rig Aftermarket

17%

$785

$670

Wellbore Technologies

18%

$1,446

$1,222

Completion & Production Solutions

7%

1,127

$1,057

Eliminations

36%

$(475)

$(350)

Total

12%

$5,255

$4,680

Click to enlarge

If you've been following Varco on a regular basis you'll notice off the bat that the segments may look different from previous quarters. This is due to the fact that the company spun off its Distribution & Transmission segment last quarter as NOW Inc. (NYSE:DNOW). When comparing numbers to last year we see that Rig Systems increased revenue 14%, Rig Aftermarket increased 17%, Wellbore Technologies increased 18%, and Eliminations increased 36% to give overall revenues a 12% boost from last year.

Rig Systems which accounts for 45% of all revenues is responsible for designing and manufacturing drilling equipment components in addition to building complete integrated drilling equipment packages for land and offshore drilling services. There continues to be strong demand for oilfield equipment and I don't anticipate that to end soon with the oil boom going on in the world right now.

Rig Aftermarket which accounts for 15% of all revenues is responsible for all the consumables and service required to maintain the equipment components and packages.

The Wellbore Technologies segment which accounts for 28% of all revenues is tasked with enhancing drilling performance at the rig through company's downhole tools, bits, premium drill pipe, and other leading services and components.

Income Statement

Income Statement

Q/Q

Y/Y

2Q14

1Q14

2Q13

Total Revenue

-9%

12%

$5,255

$5777

$4,680

Gross profit

4%

19%

$1,456

$1400

$1,227

Gross profit margin

14%

6%

28%

24%

26%

Selling, general, and administrative

-2%

12%

$511

$520

$457

Other costs

68%

-44%

$32

$19

$57

Operating profit

6%

28%

$913

$861

$713

Interest and financial costs

4%

-10%

$(27)

$(26)

$(30)

Interest income

25%

67%

$5

$4

$3

Equity income in unconsolidated affiliates

130%

53%

$23

$10

$15

Other income, net

N/A

-291%

$(21)

$0

$11

Income before income taxes

5%

25%

$893

$849

$712

Provision for income taxes

9%

30%

$284

$260

$218

Income from continuing operations

3%

23%

$609

$589

$494

Income from discontinued operations

N/A

-70%

$11

$0

$37

Net Income

5%

17%

$620

$589

$531

Net income attributable to noncontrolling interests

N/A

N/A

$1

$0

$0

Net income attributable to company

5%

17%

$619

$589

$531

Avg. diluted outstanding shares

0%

0%

$430

$429

$428

Non-GAAP income attributable to company income from discontinued operations

N/A

-78%

$(0.02)

N/A

$(0.09)

Non-GAAP nonrecurring items

N/A

-44%

$0.05

N/A

$0

Non-GAAP amortization of intangible assets

N/A

-7%

$0.14

N/A

$0

Earnings per diluted share

17%

16%

$1.61

$1.37

$1.39

Click to enlarge

With the 12% increase in revenues I'd expect to see a similar increase in on the bottom line, but investors got an even better increase to the tune of 16% from last year. Let's take a look at this income statement to figure out how the dramatic increase came to fruition. First off there was a 19% increase to gross profit which helped gross margins increase by 6%. SG&A increased 12% but other costs decreased by 28% which made operating profit increase by 28%. After a 10% reduction in interest and financial costs, 67% increase to interest income, 53% increase to equity income, and 291% drop in other income investors saw a 25% increase to income before taxes. Due to revenues increasing you have to imagine taxes increased, and they did just that, at a clip of 30%. But even after increased taxes the company was able to increase income from continuing operations by 23%. Income from discontinued operations decreased 70% which made net income increase by 17% overall. After taking into consideration a couple of non-GAAP accounting items we see those earnings increased by 16%. Earnings would have also increased by 16% excluding non-GAAP items.

Balance Sheet

Balance Sheet

Q/Q

2Q14

1Q14

Cash and cash equivalents

5%

$3,885

$3,688

Receivables, net

-17%

$4,427

$5,310

Inventories, net

-8%

$5,198

$5,659

Costs in excess of billings

3%

$1,567

$1,520

Deferred income taxes

2%

$331

$325

Prepaid and other current assets

-16%

$595

$709

Total current assets

-7%

$16,003

$17,211

Property, plant and equipment, net

0%

$3,440

$3,437

Deferred income taxes

-1%

$472

$479

Goodwill

-3%

$8,640

$8,875

Intangibles, net

-3%

$4,808

$4,953

Investment in unconsolidated affiliates

-13%

$351

$402

Other assets

-8%

$113

$123

Total assets

-5%

$33,827

$35,480

Accounts payable

-15%

$1,178

$1,391

Accrued liabilities

5%

$2,857

$2,717

Billings in excess of costs

5%

$2,176

$2,079

Accrued income taxes

-46%

$260

$484

Deferred income taxes

4%

$444

$427

Total current liabilities

-3%

$6,915

$7,098

Long-term debt

0%

$3,148

$3,149

Deferred income taxes

-4%

$2,002

$2,088

Other liabilities

-3%

$344

$353

Total liabilities

-2%

$12,409

$12,688

Click to enlarge

Going through the balance sheet we see a 17% reduction in receivables on the asset side of the equation in addition to a 16% drop in prepaid and other current assets which brought a 7% drop to total current assets. Keeping on the longer assets part of the asset equation there was a 13% drop in investment in unconsolidated affiliates which dropped overall assets by 5%.

Now turning to the liability side of the equation there was a 15% drop in accounts payable and 46% drop in accrued income taxes which dropped total current liabilities by 3% and total liabilities by 2%.

Conclusion

The company witnessed strong subsea flexible pipe and floating production system component wins during the quarter but doesn't expect the same performance for the third quarter. The company also predicts that Rig Systems revenues should remain roughly the same for the coming quarter while maintaining current operating margins. The company saw jackup orders in the second quarter get away from them in terms of second quarter bookings, but they should be realized for the third quarter. Aftermarket revenues are expected to increase but at a slow pace. Wellbore Technologies is expected to grow at a slow rate as well for the third quarter if everything remains the same. Completion & Production Solutions revenues are expected to increase in the mid-single digit range because the company sees continued demand for well intervention and stimulation equipment in addition to floating production and subsea business revenues.

The company saw earnings increase by 16% thanks in part to awesome revenue increases while the share price was up 2.13% between earnings calls. The results of this earnings report were pretty awesome to me (earning an A grade from me), but other investors seem to think the opposite as the stock dropped 1.51% after reporting while the S&P500 decreased in value by 0.42% while shares actually increased slightly from the prior year. The stock may have just dropped due to overall market sentiment though. In my opinion I believe the company should be buying back more shares right now as I believe the stock to be inexpensively valued on 2015 earnings estimates. I really do like this earnings report and will be looking for opportunities to buy it.

Disclaimer: This article is meant to serve as a journal for myself as to the rationale of why I bought/sold this stock when I look back on it in the future. These are only my personal opinions and you should do your own homework. Only you are responsible for what you trade and happy investing!

Disclosure: The author is long NOV, DNOW, SPY. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.