Overview
Petrofac Ltd (PFC) is Jersey, United Kingdom-headquartered provider of services to the oil and gas production and processing industry, which assists companies in transforming the value of their assets across the oil and gas life cycle. The company engages in designing and building oil and gas infrastructure, along with operating, maintaining and managing oil and gas facilities, which includes training personnel. The company was admitted to the Official List of the London Stock Exchange in 2005 and started its business in 1981 as a producer of modular plant in Tyler, Texas, USA. The group has grown to establish a robust global business with around 11,500 employees, which seeks to help its clients unlock the full value of their energy assets by responding to the different needs of each client.


(Source: Company Website)

Leading integrated, independent and national oil and gas companies of the world are a part of the diverse client portfolio of the group, which focuses on building on its track record in core markets to win new business and strengthen its position. The group seeks to ensure effective risk management, cost control and project execution through a range of flexible and innovative commercial models, which are tailored to the needs of each client. For the detailed design of both onshore and offshore facilities, the company offers a full suite of engineering services including front-end engineering and design (FEED) and conceptual and feasibility studies, which helps in driving continuous improvement and maintain its competitive edge.

Key Statistics


Management

René Médori is the Non-executive Chairman since 2018 and was appointed as Non-executive Director in 2012. Ayman Asfari became the Group Chief Executive in 2012 and has been working for the company since 1991. Alastair Cochran was appointed as the Chief Financial Officer in 2016.

Segments

The operations of the group are differentiated in three operating segments, namely Integrated Energy Services (IES), Engineering & Production Services (EPS) and Engineering & Construction (E&C). The Engineering & Construction division delivers onshore and offshore commissioning, installation, construction, procurement and engineering services on a lump-sum basis, and in addition to supporting renewable energy projects, its services encompass both greenfield and brownfield developments in upstream and downstream sectors. The Engineering & Production Services division offers a range of operations, engineering and maintenance services for onshore and offshore projects, as well as brings together its service capability across brownfield projects and operations, and greenfield projects. Integrated Energy Services division covers upstream developments, related energy infrastructure projects and investments to provide an integrated service for clients under flexible commercial models using a range of commercial frameworks.

Top Shareholders

 
(Source: Thomson Reuters)

Financial Highlights (H1 2019, in $m)

 
(Source: Company Filings)

Even as revenue was driven down by prior year assets sales in Integrated Energy Services, an underlying increase in revenue in all operating segments helped to record an increase of 1% in revenue for the first half of the year to $2,821 million (2018: $2,785 million). Reflecting progress delivered on the existing project portfolio in the first half of 2019 and low new order intake, backlog decreased by 10% to $8.6 billion at 30 June 2019 (31 December 2018: $9.6 billion). An increase in the cost of sales to $2,491 million in the latest period, against $2,440 million in the prior year, resulted in a marginal decline in the gross profit from $345 million in H1 2018 to $330 million in H1 2019. Selling, general and administrative expenses rose slightly to $116 million in the current period from $103 million in the previous year. Predominantly reflecting asset sales in Integrated Energy Services in the second half of 2018, business performance operating profit declined to $218 million from $248 million reported in H1 2018, while business performance EBITDA declined by 9% to $305 million (2018 re-presented: $334 million). As exceptional items and certain re-measurements declined from $280 million in H1 2018, which were incurred in relation to asset sales and other items, to $15 million, the company posted an operating profit of $203 million, up from an operating loss of $32 million in H1 2018. Even as finance income decreased to $7 million (2018: $11 million), lower average gross debt for the period led to a decline in finance expense in the first half of 2019 to $30 million (2018: $39 million). Along the lines of operating income, business performance profit before tax fell to $208 million in the latest period from $228 million in H1 2018, while reported profit before tax was $193 million against a loss of $52 million in H1 2018. Net profit attributable to the shareholders for the first half of the financial year 2019 increased significantly to $139 million from a loss of $17 million recorded in the last year for the same period. Reflecting a significant decrease in exceptional items and certain re-measurements, reported diluted earnings per share rose to 40.5 cents per share (H1 2018: loss of 5.0 cents per share). The net cash inflow generated from operating activities was $190 million (2018 re-presented: $148 million outflow), due to an increase in amounts received from a non-controlling interest, lower interest payments, lower divestment proceeds and higher cash conversion, free cash flow for the first half of the year rose to $123 million (H1 2018: $126 million outflow). Return on capital employed for the twelve months ended 30 June 2019 was unchanged at 24%, and net cash was reported at $69 million at 30 June 2019 (31 December 2018: $90 million net cash). The company declared an interim dividend of 12.7 cents per share (2018: 12.7 cents), in line with its policy of paying an interim dividend of approximately 33% of the prior year total dividend.

Segmental Analysis


 (Source: Company Filings)

Primarily reflecting the project phasing and variation orders, the revenue of Engineering & Construction increased by 2% to US$2,281 million (H1 2018 restated: US$2,228 million), while backlog fell to US$7.3 billion at 30 June 2019 (31 December 2018 restated: US$8.0 billion). Business performance net profit declined by 16% to US$148 million (2018 restated: US$177 million), reflecting project mix, cost overruns and higher tax, while net margin decreased to 6.5% (2018 restated: 7.9%).

Strong growth in project activity helped to post an increase of 4% in revenue from Engineering & Production Services to US$448 million (2018 restated: US$430 million), while backlog fell to US$1.3 billion at 30 June 2019 (31 December 2018 restated: US$1.6 billion). Business performance net profit decreased by 15% to US$23 million (2018 restated: US$27 million) due to a decline in contract margins, higher overheads and higher tax.

Due to the sale of interests in the Chergui gas concession and the Greater Stella Area development, revenue from Integrated Energy Services decreased by 27% to US$99 million (2018: US$136 million). However, higher equity production and realised average prices helped to post a 5% increase in revenue if asset sales are excluded. Excluding asset sales, EBITDA increased by 31%.

Financial Ratios


 (Source: Thomson Reuters)

Over the years, gross and EBITDA margin has been slightly volatile, but have shown improvement, though they are below the industry median. However, all the other profitability ratios have shown considerable growth, and have outperformed the industry peers. Liquidity ratios have also improved, and the low difference between the quick and current ratio suggests that a large proportion of current assets are held in liquid assets. While the debt/ratio has considerably decreased over the last couple of years, the assets/equity ratio needs to come down. The asset turnover ratio has remained consistent, and was above the industry level, indicating efficient utilisation of resources.

Valuation Methodology
Method 1:Price/Earnings Multiple Approach (NTM)



To compare PFC with its peers, Price/Earnings multiple has been used. The peers are Vallourec S(NTM Price/Earnings was -18.98), John Wood Group PLC(NTM Price/Earnings was 7.32), Hunting PLC(NTM Price/Earnings was 9.88),TechnipFMC PLC(NTM Price/Earnings was 14.62),and Saipem SpA(NTM Price/Earnings was 18.04). The mean of Price/Earnings (NTM) of the company’s peers was 6.18x (approx.).

Method 2: Price/Cash Flow Multiple Approach (NTM)



To compare PFC with its peers, Price/Cash Flow multiple has been used. The peers are Hunting PLC(NTM Price/Cash Flow was 7.00), Saipem SpA(NTM Price/Cash Flow was 5.10), CES Energy Solutions Corp(NTM Price/Cash Flow was 3.79),Tecnicas Reunidas SA(NTM Price/Cash Flow was 5.26),John Wood Group PLC(NTM Price/Cash Flow was 5.53), Forum Energy Technologies Inc(NTM Price/Cash Flow was 1.84) and Vallourec SA(NTM Price/Cash Flow was 5.66). The median of Price/Cash Flow (NTM) of the company’s peers was 5.26x (approx.).

Share Price Commentary


Daily Chart as at 09-October-19, before the market closed (Source: Thomson Reuters)

On 9 October 2019, at the time of writing (before the market closed, at 10:10 am GMT), PFC shares were trading at GBX 386.40, down by 0.46 per cent against the previous day closing price. Stock's 52 weeks High and Low is GBX 648.80/GBX 373.87. The company's stock beta was 0.51, reflecting less volatility as compared to the benchmark index. The outstanding market capitalisation was around £1.35 billion with a dividend yield of 7.52 per cent.

Growth Prospects and Risks Assessment

Consistent with its strategic objective to enhance returns, the company is reviewing options for the remaining non-core assets and is committed to maintaining a strong balance sheet and capital discipline. Though the company believes that it may see short-term disruption, a return to growth in the medium-term is anticipated by it and thus is investing in maintaining bench strength and technical capability to maintain a competitive advantage. The industry has seen an uptick in investments posts the steep fall in crude prices that were seen a couple of years back, and as the political uncertainties rise in the world, the price of oil is expected to rise, which augurs well for the group.

However, business models and investment trends can be affected by volatility in oil and gas prices, and profitability and growth can be impacted with lower demand for services and capital expenditure plans due to low and/or unstable oil and gas prices. Global economic conditions also have a significant impact on the financial performance in the industry, and hence on the company. Many experts have speculated that the global economy is headed for a recession, which can lead to decreased demand for the products of the company.

Conclusion

Over the last 5 years, gross profit has risen at a CAGR of 31.11%,even as revenue declined marginally, signifying increased efficiency of the group. Operating income also increased at a CAGR of 17.64% in the last 4 years, while net profit grew at a CAGR of 84.5%.

Based on the decent prospects, and supported by valuation undertaken using the above two methods, we have given a “BUY” recommendation at the closing  price of GBX 388.20 (as on 08 October 2019) with single-digit upside potential based on 5.26x NTM Price/Cash Flow (approx.) on FY19E cash flow per share (approx.) and 6.18x NTM Price/earnings (approx.) on FY19E earnings per share (approx.).
 
*The Buy recommendation is valid for the current price as covered in the report (as on 09-October-19).
*All forecasted figures and Peer information have been taken from Thomson Reuters.

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