Still More Damage Ahead on Low Oil Prices for Big Engineering Construction Stocks: Sell Chicago Bridge & Iron

12/04/2014 11:22 pm EST

Focus: ENERGY

Jim Jubak

Founder and Editor, JubakPicks.com

The drop in oil and natural gas prices has been tough on oil-producing countries, so MoneyShow's Jim Jubak is selling his shares of this company with exposure to falling government and national oil company spending, as of Friday, December 5.

The drop in oil and natural gas prices-and the likelihood that they won't recover quickly-has been a kick in the bottom line for oil and gas producers. But it's been even tougher-shed a tear?-for the budgets of oil-producing countries. And that, in turn, has put huge pressure on national oil companies from the Middle East to Malaysia to Mexico in order to cut costs and keep revenue flowing to the national treasuries.

That dynamic is, I think, one of the most dangerous aspects of the current rout in energy stocks because it is relatively under-analyzed and because it has the potential to send stock prices even lower for companies with big exposure to this problem.

The big international construction companies such as Fluor (FLR) and Chicago Bridge & Iron (CBI) have significant exposure to falling government and national oil company spending on energy projects. That's why tomorrow, December 5, I'll be selling Chicago Bridge & Iron out of my Jubak's Picks portfolio.

Here's the problem in macro and micro terms.

According to calculations by BNP Paribas, if oil production remains at current levels and oil prices stay near $70 a barrel in 2015, then OPEC member countries will receive $316 billion less next year than if oil prices were near their three-year average of $105 a barrel. That's an inconvenience for Saudi Arabia, which needs, it's estimated, $78 a barrel oil to balance its national budget, but which has plenty of reserves to cover any short fall. It's a disaster for Russia, Nigeria, and Venezuela, which were counting on oil prices of $80 to $110 a barrel to balance their national budgets. Nigeria, which gets 70% of its government revenue from crude oil exports, has seen its foreign currency reserves fall to just $37 billion as of December 1, matching its lowest level of reserves since August 2012. No wonder, then, that the government has revised its budget plan for 2015 for the second time in less than a month to a projection of $65 a barrel oil, down from the $73 budgeted on November 16, which was itself down from $77.50 in the previous budget plan.

One effect of this kind of budget pressure is a big re-think of capital spending by national oil companies in countries that make up the vast middle ground between the Saudis and the Nigerians. So, for example, on December 3, Petronas, Malaysia's government-owned oil company, said that it would delay its planned investment in an $11 billion liquefied natural gas export facility in British Columbia. The company, which had hoped to give the project a go-ahead in 2014, said it is reviewing the impact of declining oil prices on the viability of the project. Petronas has said that lower oil prices could lead to a 15%-to-20% cut in capital spending in 2015.

That kind of reduction wouldn't be good news for Chicago Bridge & Iron. The company's clients, according to Standard & Poor's, consist mostly of oil companies, with 36% of those being national oil companies. As of December 31 2013, about 55% of revenues came from outside the United States. The engineering, construction, and maintenance order background was about 30% in LNG projects, and 10% in oil sands, petrochemicals, and other end markets. In its last analysts' day, the company said that it sees the LNG and petrochemical markets are key drivers of revenue and earnings in the near- and long-term. In the long-term, I think that's true.in the near-term, though, I've got my doubts, and I have to say that I disagree with the company's assertion on analysts' day that the drop in oil prices will not have a material impact, given the company's focus on LNG and petrochemical projects.

Mind you, I don't think this problem is limited to Chicago Bridge & Iron. At competitor Fluor, I worry about the big exposure to the Middle East and Africa (33% of revenue) and Wall Street's current belief that orders in oil sands, petrochemicals, and gas-to-liquids projects will offset mining and metals weakness.

I certainly wish that I'd sold this position in Chicago Bridge & Iron back in December 2013 when it hit my target price of $74 a share rather than raising my target. But even though I've been loudly yelling, "Do over!" I seem to be stuck with that decision. I'm closing this position with a 27% loss since I added the shares to this portfolio in May 2013.

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