Should I Buy McDermott? 3 Pros, 3 Cons

by James Brumley | March 1, 2013 10:57 am

The official Q4 numbers from engineering and construction firm McDermott International (NYSE:MDR[1]) are in, and as a whole, they were solid.

Per-share earnings jumped 325%, from 4 cents a year ago to 17 cents in the last quarter of last year. Revenue grew impressively too, up 22% to $995.9 million. Although earnings failed to meet the lofty target of 23 cents per share, sales easily topped estimates of $981.5 million. Growth from its ventures in the Asia Pacific market was the bulk of the reason for the drastic overall improvement, though the company’s Middle East and Atlantic segments saw higher revenues as well.

As is the case with any company, however, there are some downsides that potential and existing McDermott investors need to understand before taking MDR completely off the leash.

Pros

Backlog: As fast as revenue is growing, the company’s backlog of projects is growing even faster. As of the end of last year, McDermott has $5 billion worth of work contracted by its customers that has yet to be performed. That’s 30% more than the $3.88 billion backlog the company was sitting on at the end of 2011.

Balance Sheet: The balance sheet continues to grow — in the right way. Although a balance sheet in no way directly drives sales or profits, company assets do drive sales and profits indirectly. McDermott’s liabilities last year ended $91 million above where they were at the end of 2011, but assets were higher by $340 million. Point being, the organization is efficiently building its capacity.

Overreaction: Regardless of analyst ratings for the company (which are actually pretty good), the stock’s current average target price is $15 … more than 20% higher than the stock’s current price. The immediate post-earnings reaction has been a bearish one, but the sellers might be overreacting to the tepid revenue forecast for 2013, which was already priced in.

Cons

Margins: Operating margins aren’t getting all that much better. The oil well services and equipment business isn’t known for high margins, but one would expect to see margins at least widen a little as the top line gets bigger. McDermott’s operating margin for last quarter was 7.7%, versus an average of 8.5% for the prior four quarters. The company’s net profit margin of 3.2% for the last quarter of 2012 is weaker than the average of 4.5% over the course of the prior four quarters.

Exchange Rates: McDermott has been a little spoiled by booking large non-operating gains on currency fluctuations. Last quarter, for instance, the company added almost $9 million in income thanks to advantageous fluctuations in exchange rates. These fluctuations can work against a company just as easily though, and considering how much international business McDermott does, that seems likely in the long-term.

Revenues: As of the last look, McDermott is planning on revenue sliding from 2012’s $3.6 billion to only $3 billion. It’s likely the corporation will win and complete new contracts that aren’t on the table yet, but it’s possible this year won’t be as fruitful as last year. The market might already expect the drop, but that doesn’t make it any more inspiring.

Verdict

The market clearly didn’t like the outlook that was delivered along with last quarter’s reasonably good results, but beyond the projected 16% dip in 2013’s revenue, all the pros outweigh the remaining cons.

In fact, Friday’s knee-jerk 10% hit on MDR might have fully priced-in the worst case scenario, and then some. It’s possible — even likely — McDermott was just putting a low-end outlook on the table knowing it would be doing more than $3 billion worth of business this year.

After the selloff, this stock has much more upside than downside.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities.

Source URL: https://investorplace.com/2013/03/should-i-buy-mcdermott-3-pros-3-cons/

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