Conditions in the oil industry are brutal right now. The price of crude has fallen well below what was expected, which is sapping the cash flow that producers need in order to invest in new equipment. That backdrop means that NOW (DNOW +4.54%) faced some pretty stiff headwinds in the fourth quarter, which likely had a big impact on its financial results. While we'll know how deep the impact was on Tuesday morning when it releases its report, there are a few things investors need to keep in mind when reviewing it.
First, let's review
Despite the issues created by oil's price plunge, NOW reported a fairly decent results in many regards last quarter. Revenue actually increased slightly from the prior quarter to $753 million, thanks to $20 million in contributions from recent acquisitions. In fact, revenue was pretty stable across the board:
|
Revenue | |||
|---|---|---|---|
|
Segment |
3Q 2015 |
3Q 2014 |
2Q 2015 |
|
United States |
$497 million |
$748 million |
$496 million |
|
Canada |
$94 million |
$173 million |
$89 million |
|
International |
$162 million |
$149 million |
$165 million |
Data Source: NOW
Further, after making a few adjustments for one-time items such as a goodwill impairment and a charge relating to falling steel prices, NOW's adjusted loss of $18 million, or $0.17 per share, was also a slight improvement from the prior quarter. Further, the company generated a robust $161 million in free cash flow, which was up $70 million from the prior quarter.
Did acquisition-driven growth carry over?
The key to those results was the fact that NOW completed the acquisition of two businesses during the quarter, which helped to somewhat insulate it from the effects of the slowdown in oil and gas activities. Looking ahead, it will need more acquisitions like those to continue to support its results. The good news is that it has already announced the completion of another purchase, Challenger Industries, which closed in November. That addition, plus a full quarter from other recently acquired businesses, will certainly help its fourth quarter results. The question is whether their impact will be enough given how tough conditions likely were.
NOW's former parent company, National Oiwell Varco (NOV 2.20%) actually provided a pretty good glimpse on how bad conditions were for oil and gas equipment purchases during the quarter. To quote National Oilwell Varco CEO Clay Williams, "Tumbling oil prices brought capital austerity and sharply lower oilfield activity, which is intensifying as we enter 2016." That capital austerity put significant pressure on National Oilwell Varco's financial results: Its revenue slumped 18% from just the prior quarter, while net income fell by roughly two-thirds, dropping from $0.61 per share in the third quarter to just $0.23 per share.
Based on that, it's unlikely that NOW's acquisitions would have been sufficient to overcome the significant deterioration in conditions last quarter. What is important, instead, is to focus on how well the company did at integrating its new acquisitions, as well as how well it did keeping a lid on overall costs, so that it's still generating solid free cash flow.
Is its outlook for 2016 any better?
The other thing investors should keep an eye on is NOW's outlook for 2016. Given that National Oilwell Varco already noted that the downward pressure on equipment spending is intensifying in 2016, NOW's financial guidance will likely be pretty muted.
That said, the company has a virtually debt-free balance sheet and is solidly free cash flow positive, which puts it in position to make additional acquisitions. As such, investors should take a look at its outlook for acquisitions to see if it expects robust deal activity in the year ahead, or if it sees the bid-ask spread between what buyers want to pay and what sellers want to receive remaining too wide to get deals done.
Investor takeaway
Expectations for NOW's fourth-quarter report are pretty low, given current industry conditions. What's more important to focus on is whether the company is quickly integrating recent acquisitions and keeping its costs down so that it can continue to generate free cash flow. Further, news that the company either has additional acquisitions to announce, or deals lined up, will be important because acquisitions will drive its ability not only to mute the impact of the downturn, but fully capture the recovery when it finally arrives.
