Oil-drilling companies are keeping very busy these days, but they are about to get a lot busier. There is a vast expanse of offshore U.S. territory that is off-limits to U.S. energy companies. But this new frontier might be
hosting oil exploration very soon.
A recent Washington Post article relates: ‘The U.S. Minerals Management Service has released a draft plan calling for vast new areas of the Outer Continental Shelf (OCS) be considered for oil and natural gas drilling. The
plan calls for drilling in a portion of the eastern Gulf of Mexico and some areas off of Virginia and Alaska. About 2 million acres in the Gulf could be opened without any special congressional or presidential approval. The other areas would require such.’
What is the Gulf of Mexico Region U.S. Minerals Management Service and what does it have to do with offshore energy exploration? A quick explanation from its Web site: ‘The Gulf of Mexico OCS Region (GOMR) is one of three regional offices of the Minerals Management Service, an agency that manages more than a billion offshore acres and collects
about $10 billion in mineral revenues annually. From the days of its predecessor agencies and the creation of MMS in 1982, the program has brought in, through 2000, more than 10.9 billion barrels of domestic oil and 133 trillion cubic feet of gas up from under the ocean floor; 97% which comes from the Gulf of Mexico. OCS leases currently supply a
quarter of the U.S. production of natural gas and oil…’
The MMS has just submitted a five-year plan to Congress that would greatly expand drilling in the Gulf. But most members of Congress don’t think the MMS proposal goes far enough. Right now, there are two bills pending in Congress that would allow additional drilling. Either version would provide a substantial increase in offshore exploration acreage. In other words, increased oil exploration in the eastern Gulf seems to be a question of when, not if. There is simply too much oil to ignore. The Minerals Management Service estimates that there are 85.9 billion bbl of oil
and 419.9 tcf of gas as undiscovered resources that are technically recoverable from all federal OCS areas.
The world uses about 30 billion barrels of oil per year. The United States accounts for about a third of that consumption. So with some rough back-of-the-envelope math, you can see that with some generous assumptions, there may be enough oil offshore to meet America’s daily demand for energy for…about eight or nine years.
Now, it’s unlikely America would switch whole-hog from importing light sweet crude oil from Nigeria or the Persian Gulf, unless, that is, that oil stopped flowing for geopolitical reasons. But if America shifted gradually from foreign to domestic sources of fossil fuels, then, according to the U.S. Commerce Department, the oil and gas on the OCS could meet domestic industrial and commercial needs for about 30 years. You’ve got to drill for it first, though. That means the next few years could see a bonanza in leasing, exploration, and production off American shores.
Perhaps this is why New Mexico Sen. Pete Domenici (R), the chairman of the Senate’s Energy and Natural Resources Committee, wants to expand offshore drilling from the 2 million acres in the MMS plan to 4 million acres total. The Oil & Gas Journal quoted Domenici as saying if his proposed bill passes, ‘It will be the single most significant thing we can do to bring a substantial amount of natural gas to market… Because it is so certain and so apt to occur, because this production can be brought on within two years,it will send a message to the marketplace that we are serious about helping the American people.’
Less than 26% of Available Gulf Coast Drilling Acreage Has Been Leased. One way or another, therefore, the Gulf will be drilled. And oil service companies will make a mint. That’s one reason why the future seems very bright for oil-service companies like Houston-based Grant Prideco (GRP).
The company makes drill bits and tubular technology for oil drilling and service companies. And not surprisingly, its earnings are booming. For all of last year, GRP earned $189 million, or $1.45 per share, on sales of $1.35 billion. That’s revenue growth of 42%, with triple-digit profit growth year over year and a backlog of over $800 million in orders, as worldwide rig counts grow and the Gulf rebuilds from last year’s hurricane season.
You can chalk up much of the company’s recent success to its August 2004 acquisition of Diamond Products Intl., a designer and manufacturer of specialized polycrystalline diamond compact (PDC) drill bits and coring equipment. The acquisition boosted GRP’s market share in the drill bit market to over 50%. GRP’s bit business is similar to Kennametal’s (KMT), although KMT focuses on mining and not oil. What they both have in common is the prospect for future earnings growth, and therefore stock price growth.
The second reason I like the stock is that the company is also buying it. In mid-February the board approved a stock buyback of up to $150 million worth of shares. The company has a mid-sized market cap of $5.6 billion and with the recent sell-off in the stock, became a buyer of its own shares.
Grant Prideco operates a relatively simple business that you can easily understand: Earnings rise when volumes increase, along with prices for the goods and services it sells. Wall Street analysts expect this year’s earnings to grow about 50%. That puts the stock on a price-to-earnings ratio of roughly 19 times 2006 earnings. Looking out to 2007, GRP sells for only 13 times the earnings estimated by Wall Street’s finest.
Admittedly, no one can predict what a market will be like in two years, much less how much a company will be growing its earnings. But Grant Prideco seems to be in the right place at the right time. There is political pressure for more drilling in GRP’s backyard. It has a strong market position. Sales volumes are rising. And the demand for oil — the key driver of exploration and expansion of rig count — is not likely to suddenly fall in the next two years.
Oil prices could collapse, of course, which would reduce the incentive to increase exploration activity. But I would consider that a risk worth taking.
By Dan Denning for the Rude Awakening. You can read more from Dan, and many others at www.rudeawakening.co.uk.
Category: Economics