The 'Cadillac' of Land Drillers

 | Jun 10, 2013 | 11:00 AM EDT  | Comments
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When you spend as many hours a week as I do grinding through analyst reports, investor presentations and earnings transcripts, you get pretty good at identifying the best-run companies in any given sector. The land drillers have not had an easy go over the last five years as low natural gas prices curtailed land drilling for natural gas significantly in favor of oil and liquid plays, as well as an increase in offshore activity. But one company that has managed the downturn much better than its peers is Helmerich & Payne (HP). I consider it the "Cadillac" of land drillers. It popped up on my radar this week when as it announced that it is more than tripling its dividend payout (which I cover in more detail below).

Company Overview

Helmerich & Payne is a contract driller of oil and gas wells. It provides drilling rigs, equipment, personnel and camps on a contract basis to explore for and develop oil and gas from onshore areas and fixed platforms, tension-leg platforms, and spars in offshore areas. The company owns and operates more than 300 different rigs, the vast majority in the lower 48 states of the U.S. In addition, most of H&P's portfolio consists of AC (alternating current) Drive Flex Rigs, a crucial component of its value proposition.

The company's portfolio, rig growth and evolution over the past decade can be seen in this chart:

Unique Company Advantage

Drilling is growing significantly more complex as new technology becomes available and is deployed in the field. Exploration and production concerns are increasingly turning to multi-pad and horizontal drilling to reduce the cost per well and unlock additional pockets of energy reserves. This has resulted in a substantial decrease in plain vanilla vertical drilling and a corresponding increase in more complex drilling setups (see chart). This upshot is complex drilling favors the AC drive rigs that H&P operate. Variable frequency (AC) drives are needed because of their increased precision and operability.

The slide below shows us that this has resulted in a huge increase in the ratio of AC rigs utilized in the energy patch over the last year.

H&P's unique advantages in this type of operation has allowed it to be the only major land drilling to increase rig count over the last five years. As seen in the slide below, all other major land drillers have faced a declining rig count.

This trend will continue in the years ahead. Since H&P's owns more than 40% of the AC drive market, this development will continue to boost its market-leading margins, as well as earnings, for years to come.

Enhanced Shareholder Returns

H&P's specialty in AC drive rigs and its increasing rig count has enabled it to deliver much better shareholder returns than its major competitors: Patterson-UTI Energy (PTEN), Precision Drilling Corp. (PDS), Unit Corp. (UNT) and Nabors Industries (NBR). I believe this outperformance will continue as H&P is extremely well run and benefits from a continuing technology shift in the drilling industry.

The fact that the company just bumped its quarterly dividend payout 233% to $0.50 a share is just one more way H&P shows it will continue to enhance shareholder returns.

Valuation, Fleet Status & Summary

Despite H&P's leading position in the land-drilling segment, the stock is not expensive. It sells for just over 11x trailing earnings, less than 7x operating cash flow, and the new dividend policy will yield more than 3% as well. Analysts expect revenue to increase by more than 6% CAGR over the next two fiscal years, and company's backlog and number of rigs on term contracts is solid.

Helmerich & Payne is the best-run and best-positioned land driller in the industry. Paying 11x earnings for this Best of Breed selection with 3%-plus yields seems like a no-brainer. The company recently made Jefferies' list of top eight picks in the oil services sector. I rate H&P a Buy.

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