“The One Stock You Must Buy Before Gas Prices Soar”

Drilling stock teased by the Gardner Brothers

By Travis Johnson, Stock Gumshoe, September 10, 2009

“In the short time it took gas prices to shoot from $1.50 to $4 a gallon, this little-known stock made investors 951% richer.

“Now Goldman Sachs says oil is going to rocket right back to $147 — and you can bet $4 gas won’t be far behind.

“This may be your last chance to get the full story and position yourself to cash in.”

That’s the lead-in to the latest teaser ad from the Motley Fool, which started filling up my mailbox over the last 24 hours, and it’s all about an oil service company that David Gardner is calling his “Best Buy Now.”

They’re calling the investors who know how to make money from this “Oil’s Hidden Millionaires” … a term they’ve used before. This time around, they’re touting a different stock for a different newsletter (this time it’s a driller, for the Stock Advisor letter … last time around, in the Spring of 2008 during the last runup to high gas prices, it was a seismic data company for the Hidden Gems newsletter).

So who do they think will be making millions from oil this time around as gas shoots to $4 a gallon? They quote Goldman Sachs on the $147 oil price, though I haven’t checked to see if GS has recently changed their forecasting — if there’s really anyone out there who can accurately predict oil’s moves, that’ll be news to me, the last year-end target I saw from Goldman was $85, but that was back in June or July.

Clearly there’s lots of reasons to expect oil to rise, and to expect it to fall — that’s why there’s a nice, crazy market in between where one group can sell to another. Are we worried about peak oil, or about the fact that new oil finds are more expensive, or about OPEC strangling supply? Or are we worried about the fact that cap and trade will cut demand, and weak Western economies are cutting demand, and that China and India’s auto markets may never be the gas guzzlers that the US was? I do personally expect oil to be expensive for a long time, but that’s a very vague expectation — I still think of $50 oil as expensive.

So clearly the Motley Fool folks are convinced that gas prices will shoot up again, and that oil’s climb will drive that spike — oil has already doubled off of those severe lows of last Winter, so certainly there’s been a lot of money made in the oil patch so far this year.

But more importantly, they’ve got a stock to tease for us:

“Over the past year, a crippling worldwide recession has dragged oil prices down to almost unthinkable levels — sending shares of even the strongest oil-services stocks (including the one I’m writing you about today) to levels we haven’t seen in years.

“But as these economies begin to recover — demand for oil will soar again.

“What’s more, ultra-fast-growing economies like China, India, and Brazil will put an enormous strain on a supply that is steadily shrinking — creating the potential for what experts call a “super-spike.”

That, in turn, will have oil companies desperately scrambling to find new oil fields.

“And right there is our opportunity!

“You see, only a handful of highly specialized companies have the state-of-the-art technology, the specialized skills, and the artful know-how needed to tap the world’s next great oil fields.

“That’s because these fields are located in some of the most hard-to-reach places in the world — hundreds of miles offshore and thousands of feet below the ocean’s surface.

“And one little-known company that specializes in offshore drilling is better positioned than all the rest…

“In fact, it has rigs located in some of the most remote — and profitable — places on Earth…

“One drills to depths of more than 20,000 feet off the coast of Equatorial Guinea.

“Another will soon start drilling off the coast Ghana — earning this company as much as $538,000 per day.

“Yet another drills in the waters off Malaysia, and has been booked by Shell Oil through August 2011.

“But those are just a few of the many rigs it has scattered around the world — and it’s in the process of building two more top-of-the-line rigs that will begin drilling as soon as 2011.”

OK, so we’ve got a offshore drilling rig operator — that’s a business I love, so this is exciting … who is it?

More clues:

“Because no other company can currently match the geographic diversity of this company’s rigs, it has been able to amass an incredible $1.2 billion contract backlog.

” …. profits are up a whopping 44% this year, and why its fleet of rigs is already 60% booked for next year.

“… in just the time it took gas prices to climb from $1.50 to $4.00 a gallon, shares of this tiny company shot all the way from just under $6 to well past $62.”

We’re also told that they’ve been in business for “over 40 years” …

… “Gross margins grew from 39% to 64% over the past six years” …

And it’s on Fortune’s “100 Fastest-Growing Companies” list.

And, finally, it beat estimates last quarter: “Earnings per share clocked in some 30% higher than expected — and revenues were $8 million above estimates.”

So that’s a nice pile of clues for us to wade through, and we find that this is …

Atwood Oceanics (ATW)

Atwood is one of the smaller offshore drillers, with, like a few others, a strong focus on deepwater rigs, the kind that can drill in water that’s a mile deep.

That deepwater segment is also my favorite part of the oil universe right now, though Atwood doesn’t happen to be a stock that I own. I have written about Atwood before — they were teased by Robert Hsu a year or two ago, if memory serves, and they are an interesting little company.

They are about 40 years old — they were incorporated in 1968, and started drilling in 1970, so that fits … the margins pretty much fit, though it was five years ago, not six, that they had gross margins of 39% (six years ago they were 32%, so I’m not sure why they chose the less impressive number), and they were number eight on Fortune‘s 100 Fastest-Growing Companies list last year.

And they do have two new deepwater semisubmersible rigs on order, one is expected in 2011 and the other in 2012.

So … why Atwood? Well, they are generally cheaper than the other drillers, and there are precious few offshore drilling companies that focus on the lucrative, much higher-margin deepwater market — the two big ones that you probably know are Transocean and Diamond Offshore, and there’s also Pride International, Noble, and Seadrill (I own Seadrill, which itself owns a big chunk of Pride), among a number of smaller and non-public operators, and most of those firms also own a number of Jackup rigs (those are the ones you’re more likely to see in the Gulf of Mexico, operating in shallow water and standing on the seabed instead of floating). Atwood does have a mixed fleet — they have four deepwater rigs in operation and two on order, and one midrange floating rig and several shallow water rigs that can be tough to put to lucrative work these days.

The problem for drillers now is that there’s a bit of a Jackup glut — much like the land-based rigs, there was never a time when people stopped building or jackups, because they’re just not that expensive and there are a huge number of them in the Gulf of Mexico and elsewhere. Deepwater rigs, however, a group that includes floating and semisubmersible rigs and drillships that don’t rest on the ocean floor, are Godawful expensive, and no one built many of them for the 15-20 years or so when oil was relatively cheap.

The building craze for deepwater rigs started up again a half dozen years ago or so, when oil began its steady climb to the exalted prices it now enjoys — but it takes a few years to build one of these rigs, and it took several years to build up capacity and capabilities so that more than a couple shipyards around the world had the ability to build them at all. The fear for these companies is that the new fleets of deepwater rigs are costing them a lot of money, and that the dayrates for the rigs won’t be enough to keep them profitable.

So far, at least, that doesn’t seem to be an issue. And if it is, Atwood at least has the luxury of somewhat lower costs than many of the larger drillers who had big orders of newbuildings coming on line last year and this year, and for the next couple years to come. That’s because unlike the other big guys, they don’t have that many new rigs — there’s a downside to that, too, but it is a nice margin-saving strategy.

Atwood has a fleet of offshore rigs that are positively ancient by modern standards, but — and this is a big “but” — they’ve refurbished most of them, with some of that refurbishing happening in the last 5-10 years, so they are still able to get very good dayrates on these rigs. Maybe not the $600,000+ a day that some of the most modern and capable rigs have gotten at the top of the market, but still a solid $400-540,000 a day for their best deepwater rigs.

So, Atwood is real, they have a relatively small fleet (you can see it here — including the current contract status of each rig and its operating costs) and they’re they are probably a relatively low-cost way to focus specifically on the deepwater segment if you think that will be a moneymaking business — and they are smaller, they aren’t bogged down by lots of shallow water rigs (they do have a few), and they have somewhat lower costs than many drillers, so they may be a bit more leveraged to higher rates than the larger bellwether companies like Transocean. There was a good analyst note from MKM last month that specifically called out Pride, Atwood and Noble as being the junior set of deepwater rig owners that are cheaper than the big boys and therefore have the most upside, so the Motley Fool certainly has company in this call.

Do note that with a fleet this small, a couple of rigs sitting idle can have a huge impact on their profits — they’ve got a big backlog, but that doesn’t really distinguish them in this group, everyone has a big backlog and most of the best rigs are booked several years out, it’s the margin rigs that are not as much in demand that might drive incremental changes in operating profits and determine how happy investors will be in the short term.

Will David Gardner be right? Well, Atwood may not grow its earnings very quickly in the near term, but they are making money and they’re fairly cheap on earnings and book value. Unlike the biggest rig owners like Seadrill and Transocean and Diamond Offshore, Atwood neither pays nor apparently plans to pay a dividend, as far as I know … but also unlike those big guys ATW is not swamped with debt (Pride and Noble also have clean balance sheets, and though they’re also significantly larger those are probably the fairest comparisons for Atwood if you’re looking at PE ratios, fleet composition and contract status, and the like).

Whether or not you get rich holding these shares probably depends more than anything else on whether oil is at $50 or $150 in two years … place your bets!

And have you ever subscribed to the Motley Fool Stock Advisor newsletter? Click here to share your thoughts with a review (or see what other folks thought).

Full disclosure: as noted above, I personally own Seadrill shares, and Seadrill is a major owner of Pride stock.

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8 Comments on "“The One Stock You Must Buy Before Gas Prices Soar”"

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S
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S
September 10, 2009 11:03 am

http://finance.yahoo.com/q/ta?s=ATW&t=3m&l=on&z=m&q=l&p=m200,m50&a=m26-12-9,r14,ss,w14&c=

Ahhhhhh, the Gardner Duo, where a short cup of coffee with them has me being branded “SageNot” for nearly decade.

Not the nicest guys to work for, NOT!

Albert
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Albert
September 12, 2009 10:39 am

The prediction on BMO did not materialze…I lost some money there.

Lenore Larson
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Lenore Larson
September 12, 2009 3:34 pm

Bought ATW some years ago when recommended by the MFs. Have lost my shirt but am partially clothed again in the ensuing recovery. Hope to break even eventually. Be cautious!
LL

Myron Martin
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Myron Martin
September 13, 2009 11:28 am
Albert says the BMO prediction did not materialize, and he is right so far, but don’t dismiss Dan Amoss as a bad analyst, he may have the last laugh. I bought the Canadian Jan. 2010 PUT at $380. and am sitting on it until at least the next 14ly report from BMO because it has drifted in and out of profitabilty. Maybe I will wish I had taken my profits when it briefly surged over $500. but I am betting THERE IS more bad news to come. PATIENCE is a virtue and AMOSS is very thorough in his analysis, he… Read more »
Gary O
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Gary O
March 31, 2010 4:40 am

What BMO are your talking about? Certainly not Bank of Montreal which is chugging along nicely.

Skelly
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April 7, 2010 8:08 am

Good article, cheers

Gravity Switch
Admin
11
September 10, 2009 12:57 pm

Now there’s a tease — you worked for the Alexandrians? I somehow imagined they’d be nice “regular” guys, though I’ve never ventured across the river to meet them.

Corky B.
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0
Corky B.
September 29, 2009 9:26 am

Early means wrong in donkey speak.

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