Getting orders is one thing. Executing on those orders is a completely different thing, and an area where Cameron (CAM.DL) had been struggling for most of 2013. Three straight miss-and-lower quarters shook the Street's confidence in the ability of Cameron's management to execute, though the company's order book has remained quite strong.
Things appear to be finally starting to fall into place. The fourth quarter was a badly needed beat-and-raise quarter, and a slowdown in industry order growth in 2014 could actually be a good thing for the company as it tries to catch up on capacity. Valuation standards in this sector are notoriously loose, with EV/EBTIDA as the favored approach, but I would nevertheless argue that Cameron looks like a strong rebound trade in 2014.
At long last, a clean(er) quarter
Cameron's fourth quarter results brought some much needed stability to the story after three straight miss-and-lower reports. Investors in oil and gas equipment companies can be quite willing to ignore weak margins in the face of strong orders, but enough was enough and the stock was hammered in October.
For the fourth quarter, revenue rose 21% year over year and 18% from the third quarter, beating expectations by almost 7%. Margins also showed some improvement, with EBITDA rising 17% year over year and 21% from the prior quarter, good for a 5% beat as the margin improved 40 basis points sequentially. The company's drilling segment remains under significant margin pressure, though, as the company struggles to bring new capacity on line to deal with the influx of orders and has to pay various expediting expenses in the meantime.
Quieter ordering patterns may not be a bad thing
Cameron closed the year with orders down 3% and up 10% sequentially. Although Drilling orders were down from the year-ago period, it was still a very strong result considering that the company had no subsea stack orders in the quarter.
Looking ahead for 2014, comments from Cameron, as well as competitors like National Oilwell Varco (NOV 1.35%) and FMC Technologies (FTI 3.53%) and industry analysts, indicate that orders should slow in 2014. Subsea tree orders are likely to be weaker this year before an expected pick-up in orders from Petrobras drives growth again in 2015. Weaker ordering activity for jackups should also result in lower order activity for National Oilwell and Cameron in the rig equipment space.
Orders do drive this business over the long term, but the reality is that Cameron has to catch up to what it already has. Particularly in the drilling segment, Cameron has had serious issues ramping up capacity and generating strong margins in the face of record orders. Management has been adding capacity, rationalizing its cost structure, and shifting management around, hopefully leading to trough margins next quarter and margins in the high teens before year-end. Cameron's executives have said that shipments in drilling were at "record levels" and the capacity rollout was "quickly coming to a conclusion", but costs are still high.
Slimming down, but building for the future
The profitability of the drilling business is probably the biggest talking point right now, but Cameron is doing other smart things as well. Despite a large order for the company's proprietary CO2 separation technology in the fourth quarter, the process and compression Systems business has been an awkward fit, and it is likely more valuable to somebody else. To that end, Cameron sold the reciprocating compression business to General Electric and is looking for a buyer for the centrifugal compression business – slimming down the PCS business by about half.
Cameron has also been doing pretty well from a market share standpoint. My research suggests that Cameron enjoyed about one-third share of the blowout preventer market during the 2005-2008 cycle, and gained a little share from there during this cycle. National Oilwell is the leader here (with close to 50% share), but Cameron has been making some competitive wins. Likewise in rig equipment for jackups: Cameron isn't a serious threat to National Oilwell, but has managed to get around one-quarter market share.
Cameron is also doing well in subsea trees. While the company's share was once close to 40% and fell to below 20%, it looks like the company got about 30% of 2013 industry orders. That's behind FMC Technologies' share to be sure, but Cameron has been more selective with its ordering and walking away from less profitable business.
Competition with GE, FMC Technologies, and Aker remains fierce in subsea, but the company's OneSubsea joint venture with Schlumberger still holds a lot of promise. Schlumberger is one of the strongest service companies in the field (and a major leader in R&D) and the combination blends Cameron's flow control and process technologies with Schlumberger's reservoir and production technologies. This combination is a direct threat to FMC Technologies, GE, and Aker, but it's not likely to really hit its stride until 2015.
The bottom line
Given the volatility and unpredictability of energy capex cycles, free cash flow modeling has never been particularly popular when evaluating companies like Cameron, National Oilwell, and FMC Technologies. For better or worse, EV/EBITDA is the preferred methodology. Cameron may deserve a discount to its peers due to its execution/margin issues, but I'm not sure below-average multiples are fair at this point in the cycle. Using the historical average for this point in the cycle (10x), $67.50 seems like a reasonable fair value today.
Cameron is no sure thing. The company has disappointed investors before with its capacity and margin struggles, not to mention over-promising and under-delivering. Nevertheless, I think the company's technological leadership in subsea and rig equipment is undervalued, as is the company's new JV with Schlumberger – a JV that could become increasingly valuable as major energy companies ramp up their offshore and undersea development plans.