Energy Picks: "Down the Value Chain"

04/24/2017 2:50 am EST

Focus: ENERGY

Elliott Gue

Editor and Publisher, Energy and Income Advisor and Capitalist Times

Beyond looking at specific energy companies that explore and produce oil and gas, energy sector expert Elliott Gue — editor of Energy and Income Advisor — sees opportunities in a niche he notes is further down the value chain — capital equipment providers.

Capital equipment provider Forum Energy Technologies (FET) historically has generated about 60 percent of its revenue from consumables and offers exposure to the near-term rig and pressure-pumping upgrade cycles in the US.

The trend toward drilling longer laterals and more intense hydraulic-fracturing jobs — more stages, more water and more proppant — should drive demand for consumables and after-market parts as activity levels ramp up.

In the fourth quarter, the company reported $183 million in inbound orders, a 26 percent increase from the previous three months and a doubling from year-ago levels.

Forum Energy remains an active acquirer, purchasing Cooper Valves during the fourth quarter as part of a plan to build its presence in the Middle East. The company has about $234 million in cash after completing an equity raise, leaving plenty of dry powder for tuck-in acquisitions on the drilling and completion side.

Offering leveraged exposure accelerating (and intensifying) drilling and completion activity in the US onshore market, Forum Energy Technologies rates a buy on pullbacks below $20 for aggressive investors.

Prospective buyers should consider easing into this position to take advantage of any acquisition-related weakness or selloffs in oil prices.

We also like MRC Global (MRC), the largest industrial distributor of pipe, valves and fittings to the main links in the energy value chain—upstream (exploration and production), midstream (pipelines) and downstream (refining and petrochemicals).

The company last year generated about three-quarters of its revenue in the US, with another 8 percent coming from Canada and its international segment accounting for 16 percent.

In 2016, MRC Global’s revenue declined for the second consecutive year, paced by a sharp decline in upstream demand. Management’s guidance calls for 10 to 20 percent revenue growth this year, fueled by a 15 to 25 percent recovery in upstream sales, a 10 to 20 percent uptick in midstream and downstream up 5 to 15 percent.

The company’s upstream exposure comes primarily from gathering lines that connect newly producing wells to the pipeline network, a focus that provides leverage to accelerating US completion activity.

Management also continues to stalk merger and acquisition targets, primarily in the valve segment. These bolt-on acquisitions likely will target higher-margin businesses. MRC Global boasts a more defensive cash flow profile than Forum Energy Technologies and rates a buy up to $18.

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