Can Power Solutions Compete Against GE on the Drilling Pad?

General Electric is investing serious money in natural gas-related products. Power Solutions International has been doing that for 20 years. Can Power Solutions' experience compete against a giant like GE?

Jan 27, 2014 at 11:13AM

Imagine you're Continental Resources' (NYSE:CLR) CEO. You produce more oil in the Bakken oil play than anyone else. The company's profits grow like a weed, the stock climbs faster that the S&P 500 index, and with production increasing and drilling expenses decreasing, investors are thrilled! What's not to love?

Well, a few things. You also produce a pile of natural gas along with all that oil, and there's no real good way to store it or get it to market. With natural gas prices still at historically low levels, no one's in a rush to build a pipeline out to your wellpads. So you burn the gas off or flare it. Environmentalists give you grief, new government regulations are coming, and you'd really rather not waste that energy and money, but what else can you do?

Turns out, you can burn that natural gas at the wellpad in a generator. This saves you money on producing electricity since you use your own natural gas instead of buying diesel fuel. While you'll still flare gas, at least you're putting some of it to good use. 

Big kid on the block, and on the pad
In 2013, General Electric (NYSE:GE) announced that we are in "The Age of Gas." Given the money and effort the company is investing in natural gas products, that statement is no hot air. GE offers Continental and other drillers the Waukesha line of generators. These generators use natural gas from the wellhead with minimal processing, thus reducing flaring and expenses. GE estimates these generators can reduce fuel costs by up to 80% compared to diesel-fuel generators.

These same generators can use gas from landfills, wastewater-treatment plants, and other biogas sources. Applications include back-up electricity generation, natural gas transportation, and enhanced oil recovery. Businesses, hospitals, and farms across the world use Waukesha generators. This diversity of applications and fuel sources helped GE's power and water division generate more than $1.8 billion in profits during the fourth quarter of 2013.

Small player producing power and profits
With a market capitalization less than what GE power and water makes in profits for one quarter, you may wonder how a company like Power Solutions International (NASDAQ:PSIX) can compete. Well, it competes by leveraging 20 years of experience in building alternative-fuel engines for markets GE doesn't necessarily go after.

To be sure, Power Solutions makes generators that burn natural gas just like GE's Waukesha generators. Power Solutions also builds engines for heavy-duty trucks, which have grown in sales by 131% (compound annual growth rate) since 2008. It also makes engines for smaller vehicles and even Zambonis (those vehicles at ice rinks that resurface the ice).

Even better, Power Solutions makes fat profits doing it. From 2010 to 2012, sales doubled and earnings quadrupled, from $0.19 a share to $0.81 a share. The third quarter of 2013 showed a non-cash charge related to the pricing of warrants that forced the company to report a loss. Excluding this charge, Power Solutions would have reported earnings of $0.24 a share, a 4% improvement over the previous quarter and a 20% improvement over the quarter from 2012.

But what about generators at the wellpad?
So Power Solutions does things that GE doesn't. What about those natural gas generators for the drilling pad? Both companies report growing sales in this market. During its third-quarter earnings conference call, Power Solutions reported its sales of natural gas generators doubled from the prior year and increased 20% from the previous quarter. Hard to say which company is considered better by customers, but clearly Power Solutions has made a name for itself in the business. GE didn't detail its sales figures for natural gas generators during its latest earnings call.

Final Foolish thoughts
Beginning January 2015, new federal regulations come into effect regarding the practice of flaring natural gas. This creates a headache for oil producers but an opportunity for both GE and Power Solutions. Continental is now incentivized to burn its natural gas in a generator not only by economics but also by government decree. Both GE and Power Solutions sell generators for this purpose. GE already claims Devon Energy as a customer; Power Solutions claims Chesapeake Energy and SandRidge Energy.

For conservative investors, GE would be the company of choice. Its sheer size and diversity means it's not going anywhere soon. Plus it pays a dividend of about 3%. For those willing to take a little risk, Power Solutions looks like a small player making big strides. It may not pay a dividend, but with the stock tripling over the past year, who cares? Plus, its small size could invite a takeover. That said, there are high expectations built into the stock price, and a disappointment could vaporize those capital gains. Invest accordingly.

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Robert Zimmerman has no position in any stocks mentioned. The Motley Fool owns shares of General Electric Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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