Is McDermott Undervalued?

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For oil and gas companies, there's nothing more important than reserves, rigs, submersibles, and refineries. However, to be truly valuable, these assets must be capable of generating profitable returns.

Value for the money
For example, it makes little sense for an offshore oil and gas engineering and construction firm to own a lot of complex systems but be unable to use them to full capacity. In short, you have to understand how valuable the production facilities, pipeline installations, and subsea systems are to the company. Today we'll look at McDermott International (NYS: MDR) , an offshore oil and gas services company, and see how efficiently the company uses its resources.

To help our evaluation, we can look at some important metrics:

  • Return on assets, or net income divided by total assets, indicates how efficiently the company generates profits for every dollar of assets it owns. A higher value indicates that the assets are more valuable. The metric is pretty useful when used as a comparative measure -- against peers and the industry in general. Typically, the average ROA for comparables of McDermott in the equipment and services industry is about 9%.
  • Fixed-asset turnover ratio, or revenues divided by total fixed assets, indicates how efficiently the company's refineries are generating revenues. The higher the turnover rate, the better. On a comparative basis, a value above 1.7 times looks pretty good.
  • Total enterprise value/TTM EBITDA shows how expensive the company looks when compared against its trailing-12-month earnings before interest, tax, depreciation, and amortization.

This is how McDermott stacks up against its peers.

Company

Return on Assets (TTM)

Fixed-Asset Turnover Ratio

P/B

TEV/ TTM EBITDA

McDermott International5.3%3.11.264.75
Helix Energy Solutions (NYS: HLX) 5.3%0.61.113.02
RPC (NYS: RES) 27.1%3.12.893.53

Source: S&P Capital IQ; TTM = trailing 12 months.

McDermott doesn't seem to generate the best returns compared with some of its peers in the industry. However, it wouldn't be wise to write the company off on these numbers alone. McDermott functions as an offshore engineering, procurement, construction, and installation (EPCI) company, delivering fixed and floating production facilities, pipeline installations, and subsea systems.

Offshore drilling prospects are looking pretty lucrative at the moment, especially in the deepwater segment. At the end of last year, total backlog orders for McDermott stood at $3.9 billion, out of which management expects $3.2 billion to be realized this year. Major customers include ExxonMobil (NYS: XOM) (which brought in 36% of McDermott's revenues last year), Saudi Armco (24%), and Chevron (NYS: CVX) (10%). In other words, I wouldn't doubt McDermott's sources of cash flows.

At a price-to-book of just 1.26, could this company be undervalued? Possibly. This entire sector might be getting overlooked as the spotlight is undoubtedly more on drilling contractors. Helix Energy Solutions also looks cheap, and investors may want to check this one out as well.

Foolish bottom line
McDermott's prospects look pretty promising, and this might be an excellent opportunity to grab a few shares. However, if you'd rather be on the sidelines and see the company for a while before jumping in, add it to your personalized Watchlist. It's free.

At the time this article was published Fool contributor Isac Simon owns no shares of any of the companies mentioned in this article.Motley Fool newsletter serviceshave recommended buying shares of Chevron. The Motley Fool has adisclosure policy.We Fools don't all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. Try any of our Foolish newsletter servicesfree for 30 days.

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