On Feb. 3, National Oilwell Varco (NYSE:NOV) will report its fourth-quarter and year-end results. So far, other oil services companies haven't yet felt the sting of sinking oil prices, but that is kind of expected because revenue is tied to oil producers' capital budgets and not the actual price of oil itself. When earnings do get reported, here are the things you should be looking for to help determine the long-term health of the company.
1) Any loss of pricing power?
Oil producers have been lamenting for quite some time that the costs for oil services contractors have been bordering on the absurd, and many of the capital budgets for these companies reflect that as of late. A large component of the equipment that National Oilwell Varco provides is designed for those higher cost, more complex oil and gas formations such as deepwater and shale drilling.
If producers start to scale back, they will demand lower prices from oil services companies, which will cut into margins. For NOV, the most likely place you will see pricing pressure hitting the bottom line will be in its rig aftermarket and wellbore technologies segments. These segments sell smaller ticket items that will more immediately feel the impact of lower spending. If margins in these segments start to decline, then it could suggest that producers are pressuring its suppliers to lower prices.
2) What's the backlog look like?
The question on just about every National Oilwell Varco investor's mind is not how much the backlog grew in this quarter, but how much it shrank. The double whammy of too many land and offshore rigs than needed and oil prices crashing have combined to dry up orders for new rigs that would use NOV drilling packages. Last quarter, the company's book-to-bill ratio for its rig systems segment -- its largest segment by EBITDA -- was 0.6x, meaning that a whole bunch more orders went out the door than were coming in.
Luckily, the company has plenty of orders on that backlog to keep the company working for a long time before it dries up, and hopefully companies that have placed those orders don't decide to delay or outright cancel them. However, as long as the market is in this down cycle, it's worth watching in these quarterly releases how quickly National Oilwell Varco burns through that backlog.
3) Have they decided what to do with all that extra cash?
For several quarters now, NOV has been sitting on a pile of cash. It's current ratio -- a measure of financial liquidity -- of 2.31 times means that it has more than double the amount of current assets like cash and inventory than what is needed for working capital. With so much cash on hand, it would be preferred if the company could turn that into a big share buyback program or some sort of big dividend.
The catch is that much of that cash is in overseas accounts from its international business, and the company would take a large tax hit if it were to repatriate that cash back to the U.S. Last quarter, NOV's CFO Jeremy Thigpen said that it has brought back some of that cash from time to time, but the amount that the company has on the books suggest that it could do something big with it soon. Hopefully, the fourth quarter will provide some insight into this.
What a Fool believes
National Oilwell Varco's business model is built to handle the industry cycles that are part of doing business in a commodity like oil and gas. The combination of its large order backlog and its built-in customer base that requires parts for existing NOV equipment has allowed the company to weather storms and emerge better off than a majority of its oil services peers. As the industry goes into even further decline with uncertainty surrounding the next move from oil prices, investors in National Oilwell Varco should keep an eye on these three factors to check the health of their investment.
Tyler Crowe owns shares of National Oilwell Varco. The Motley Fool recommends National Oilwell Varco. The Motley Fool owns shares of National Oilwell Varco. 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.