Monday, April 9, 2007

Nabors Industries

Is it time to buy Nabors Industries? Nabors is one of the premier land drilling companies in the Energy Sector with hundreds of rigs in its fleet. So here is the debate. The stock has sold off from a peak of $41.35 in January 2007, down to its current price of around $30 a share, which represents a drop of 34%. There is no doubt that there is a slowdown in the land drilling market. Day rates have come down off their peak and utilization is dropping as well as rigs are released. Is this the start of a long down cycle as in past years?

The optimists believe in what is called the “snapback theory,” which states that as rigs are released and drilling activity slows, natural gas production will drop sharply cutting inventories and boosting prices which will in turn lead to a rebound in drilling as the economics improve. The reason for this is because a large proportion of the wells drilled in North America in the last few years are unconventional wells, which typically have high rates of decline in the first year.

There seems to be too much risk for me to jump in now. I would rather wait for the 100-year flood to happen. What do I mean by that? The Energy sector is periodically rocked by catastrophic events that cause panic and investors run for the exits all at once. Energy stocks are also owned by a lot of fast money accounts, which will accelerate this. In the last two cycles, Nabors fell 77.5% (1997-1998) to $5.37 a share, and 70% (2001) to just under $10.00 a share.

I was at the Howard Weil conference last week and attended a breakout session with Gene Isenberg of Nabors. He provided no reassurance during the meeting. He indicated the following:

-That Canada was going to have a dismal year.

- He wouldn’t comment on leading edge day rates and deferred any discussion of it until the conf call in May.

- Older rigs would not be cannibalized for parts (which would reduce supply and help rates) unless they were unsafe.

- He was open to “concessions” on contracts, which means that they would cut rates on existing contracts if the operators agreed to extend the term or pick up more rigs.

- In short, he did nothing to reassure investors that things have bottomed out. Now the company is in much better financial shape than in previous cycles so don’t look for the stock to bottom in single digits. My buy target is $20 a share. I will admit that Nabors is looking cheap on price to EBITDA and price to sales vs. previous cycles, but keep in mind that both sales and EBITDA in those ratios are trailing not forward looking and thus will be coming down which will increase the ratio.

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