Schlumberger Results Provide Hope for Weatherford

Within every sector, the difference between the winning and losing stocks can be very dramatic. In the case of the oil services sector, the drastic valuation differences between Schlumberger (NYSE: SLB  ) and Weatherford International (NYSE: WFT  ) are at the extremes. Though the sector has four domestic heavyweights, Schlumberger and Weatherford are the most focused on the international scene, providing a clear example for investors that the right geographical focus isn't enough. Over the last few years, Weatherford has lacked execution due to tax issues and costs overruns, which have hurt the stock.

Last week. Schlumberger again reported solid results led by international growth. Stagnant growth in North America was still affected by weak numbers from the land-drilling segment. With Weatherford having a large international presence, it should have a decent quarter when it reports toward the end of February. On the flip side, Baker Hughes (NYSE: BHI  ) might struggle with a larger domestic focus. Plunging natural gas inventories in the U.S. could finally turn the land drilling market into a tailwind after several years of contraction.

Schlumberger results
Schlumberger generated a 28% yearly increase in income from continuing operations due to a nearly 9% increase in revenues. The revenue gains were propelled by 11% growth in international markets and constrained by a 2% drop in domestic land drilling. For the year, the company produced over $45 billion in revenue and trades at a market cap of over $119 billion. Conversely, Weatherford trades with a market cap of $11 billion and revenue of $15 billion.

While North America remains the largest region by revenue for Schlumberger, the Middle East & Asia has quickly become the largest income generator. Even Europe & Africa now generates a larger profit than North America. In total, Schlumberger generates nearly 70% of revenue outside of North America.

An interesting side note, Schlumberger repurchased 11.9 million shares during the fourth quarter for $1.07 billion even though the stock trades at nearly 10x the value of Weatherford.

Natural gas tailwinds
The record natural gas inventory draw for last week should ultimately provide for a pick-up in domestic land drilling in 2014. The inventory report showed an incredible 287 billion cubic feet was removed from storage, a record level. At 2,530 Bcf, the inventory level is now 15% below the five-year average and nearly 21% below a year ago.

Sure the weather was unseasonably cold during the week ended Jan. 10, and plenty of natural gas is being flared in places like North Dakota, but the endless supply of natural gas doesn't work if limited resources are drilling for it.

The low inventory levels definitely favor Baker Hughes with a larger focus on domestic natural gas, but it isn't clear that any short-term gains will be sustainable.

Weatherford potential
Not too surprising, the smaller company in any industry struggles, but Weatherford took that concept to another level in the last couple of years. The company has finally wrapped up massive tax issues after moving the headquarters to Switzerland to reduce taxes. Next year should be the year the execution finally leads to expanding income. Analysts forecast Weatherford to generate earnings of $1.22, up from $0.79 last year.

In the last quarter, Weatherford generated 58% of revenue from international operations, placing the company in line to benefit from the tailwinds reported by Schlumberger. Unfortunately, North America is the largest region by far so any weakness will still be felt. The region also still generates the largest operating income so investors are hoping that the operating margins in the Middle East and Europe regions rebound. A key focus of Weatherford going forward is on executing profitably versus growing revenue on an absolute basis.

Bottom line
With a focus on international oil services work, Weatherford offers the promises of higher margins and an expansion in the valuation multiples. The industry as a whole will benefit from the plunging domestic natural gas inventories that will at least provide a short-term boost in domestic drilling. If a meaningful rebound in domestic drilling occurs, Baker Hughes might be the biggest winner of the group. For now, though, the combination of a strong international market and a building tailwind in domestic markets makes Weatherford the better play for 2014.

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