McDermott's Wild Ride: What's Next?

On Monday, August 11 after-hours, McDermott (MDR) reported earnings of $0.77 per share on $1.79 billion in revenue. Analysts' average expectation was for EPS of $0.772 per share on $1.85 billion in revenue, meaning MDR's reported a slight miss. Shares dropped nearly 14%. Revenue did increase 26% from a year earlier, but that wasn’t enough.

Two areas of focus are the operating margins (12%, trailing 12-months) which are currently underperforming industry and sector peers, and EPS growth (11.5%, trailing 12-months). Both need to significantly improve for shares to see their highs ever again. Additionally, in the past 6 months, insiders have sold around 906,000 shares and made no purchases, another possible cause for concern.

Last Thursday, August 14, Citigroup Global Markets downgraded MDR from a “Buy” to a “Hold” and cut their price target to $42 from $77! Shares fell 8%. Two things wrong: 1) The target of $77 was never hit and doesn’t look like it will hit that, at a minimum of several months, and 2) $42 was hit 5 days before the report.

On the day of the report, MDR was trading below $36 and when the analyst report came out, the price dropped close to $35. A little too late? What’s interesting is that there have been a total of 10 “Buy” or “Hold“ sell-side ratings and no “Sell” ratings in the past 3 months. That should change in the coming months.

Also, KeyBanc Capital Markets noted that J. Ray McDermott, MDR’s offshore oil and gas construction unit, was a particular source of weakness. This may be the reason why MDR named a new COO to take over global operations. This analyst, along with other optimists, has kept a “Buy” rating and a $70 price target, which is completely different from the analyst at Citigroup. This should tell you not to rely on analyst recommendations for MDR - things are already confusing enough without them.

That wasn’t the only change in management. Last Friday, MDR announced that they named a new CEO to succeed the current CEO & Chairman Bruce Wilkinson on Oct. 1, who will retire on Sept. 30. The man is 63 years old, so I believe that, but MDR’s shares have fallen over 40% this year. That “may” have had a tiny influence.

Technically, MDR is in a terribly bearish position, and it’s a perfect short candidate for the intermediate term. For the short-term, I expect MDR to drop further but anticipate a pullback from extremely oversold levels into the $38 resistance area soon. The volume on the day after earnings hit a capitulatory 14.3 million shares traded. Keep in mind that the average daily volume is 2.8 million. For the long-term, the trend is broken and MDR is in a primary leg down, having broken through numerous support levels. The next major support level is at around $26, as can be seen below.

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Disclosure: None

Comments

[Stephen Ros...:]

Actually MDR operating margin is the highest in the infrastructure space. FLR, FWLT, JEC, and lowly SGR are less than 10% and mostly a lot lower. MDR's power division actually had a 15% margin.

2008 Aug 19 04:59 PM

[fran:]

do you ever listen/read the earnings call or attend analyst conferences? if so, your implied questions and many comments would be answered. this industry is not one measureable by quarters, but YOY over several years. margins and backlog are significant measures. i believe you interpretation of margin performance may be in error. this industry/company is not likely to underperform long range--sweet spot some call it.

2008 Aug 20 09:14 AM

[Inday Josie:]

Thanks to analysts like you who hypes a stock, MDR rose to unsustainable levels. And also thanks to analysts like you, it sank to an undeserving level recently. Your "herd" analysis is too shallow for a robust stock like MDR. This insider is buying. You just don't get it!

2008 Aug 21 05:15 PM

[John C. Lee:]

hope you're not talking about me (I'm the author). I'm not an analyst. Just presenting the facts so people can form their own opinion. Note: no position in MDR.

2008 Aug 21 06:57 PM