Rising Star Buy: National Oilwell Varco


This article is part of ourRising Star Portfolios series.

As the U.S credit rating downgrade sends shockwaves through the market, investors are clamoring for the sidelines and have found safe havens in cash and gold. The threat of a global economic slowdown has helped to push oil down from a high in April of $113.93 to the roughly $82.00 where it stands now.

The result has been a massive slide in the price of oil- and service-related stocks, irrelevant of their earnings or business fundamentals. Today I'm going to take advantage of a major mispricing and buy shares of the largest and possibly most advanced rig provider in the world -- I'm buying $1,000 worth of National Oilwell Varco (NYS: NOV) .

The business and recent earnings
National Oilwell Varco designs, manufacturers, and sells rig equipment to oil and gas producers, and has been doing so since 1862 when it was founded. It also helps companies streamline their operations and provides maintenance and part distribution. It sits at the epicenter of an important rush for oil companies to drill offshore in order to find more oil. As the dominant player in its field, it's arguably best positioned to take advantage of a future surge in drilling.

The opportunities, despite what naysayers might have you believe, are plentiful. Brazilian giant Petrobras (NYS: PBR) recently found billions of dollars of reserves in the Santos Basin and should be ordering more than 60 new rigs in the next decade, according to Morningstar. This could result in upwards of $12 billion in new rig orders. BP (NYS: BP) has also had new discoveries in the Gulf of Mexico, which could lead to an additional billions of dollars in new rig orders. And this is just accounting for original orders; National Oilwell's equipment sits on 90% of the world's rigs, which means that it will have a consistent and plentiful revenue stream aided by maintenance and upkeep services.

The company also recently reported fantastic second-quarter results, surpassing Wall Street's expectations for both revenues and earnings. It posted earnings of $1.14 per share on revenue of $3.5 billion, an increase of 19.5% year-over-year. Rig technology, the largest segment for the company, saw a nice 13.3% bump in revenues and an 11% increase in order backlogs. In fact, all three segments that National Oilwell operates -- rig technology, petroleum services, and distribution services -- all experienced nice gains in revenues from the year-ago period, illustrating that despite economic worries, the big oil majors are still making orders.

CEO and Chairman Pete Miller recently said that "we were pleased by the record level of bookings into our capital equipment backlog, which increased again this quarter for both land and offshore rigs. The Company continues to expand organically and pursue promising acquisition opportunities, supported by its substantial financial resources and strong technology portfolio."

And he's not kidding when he makes claims about "substantial financial resources" -- this company has a rock solid balance sheet. With $3.4 billion in cash and only $513 million in debt, the company's debt/equity ratio comes in at a paltry 3%. It's been able to boost revenues over the past five years by an average 17.3% and earnings by a really impressive 30.5%.

The buy thesis
There's no denying that National Oilwell is one of the best positioned equipment providers in the space and that the company has a history of profitability and rewarding shareholders (the stock has grown by a compound annual rate of over 20% over the last 10 years). It also pays a 0.7% dividend, but with a 10.5% payout ratio, that number has the ability to dramatically increase over the years. However, despite positive earnings and a good chance that the company will win major contracts from companies like BP and Petrobras, the stock is down in line with oil, about 20% over the past month. This is a greater drop than competitors Halliburton (NYS: HAL) , Weatherford (NYS: WFT) and Schlumberger (NYS: SLB) , which have seen price decreases of 19%, 9.9%, and 13.7%, respectively.

The company now trades for a P/E of 15.5 and a forward P/E of 11.6. Just for context, over the last five years, the company's average P/E has been closer to 16.5. As long as margins stay relatively flat over the next few years and assuming a forward EV/EBITDA multiple in 2012 of about 10, the company could be worth as much as $97, providing a truly remarkable 49% upside to where the stock sits now.

It might take awhile to inch its way back up to that territory, but if you're a buy-and-hold investor who believes in the long-term demand for oil, then this is one company you don't want to pass up.

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At the time thisarticle was published Jordan DiPietroowns no shares mentioned above.The Motley Fool owns shares of Petroleo Brasileiro and Schlumberger.Motley Fool newsletter serviceshave recommended buying shares of National Oilwell Varco and Petroleo Brasileiro. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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