McDermott's Struggle: Will It Drown or Keep Sailing?


Things haven't been too smooth for McDermott International (NYS: MDR) since it started moving into subsea and deepwater work. Nevertheless, it could turn out to be a good bet if you just show a little patience. Let's take a closer look.

All's not so bad
The two most painful issues for McDermott lately have been slumping revenues in the Middle East and project delays. In its third quarter, revenues from Middle East slipped 34% because of reduced marine activity -- a repeat of the second quarter.

Operational and installation glitches and weather disturbances also hit five of its projects in the past quarter. McDermott suffered costs amounting to $50 million, and its bottom line thus almost halved to $10.9 million. from $20.8 million a year ago.

But McDermott is unfazed. It expects four out of the five delayed projects to be up and running next year. If it happens that way, considerable pressure will be off McDermott's margins.

Another plus has been the rise in McDermott's backlogs, a key indicator of future revenues. They went up to $4.3 billion in the third quarter from $3.6 billion last year -- particularly noteworthy when peer Global Industries' (NAS: GLBL) third-quarter backlogs slipped 17% to $228.2 million.

Winds should turn
The Middle East holds a lot of promise, and fellow Fool Rich Duprey rightly points out howthings should be changing there. McDermott is ready when they do. It's planning a fabrication yard there and has also set up a dedicated engineering company in Saudi Arabia. McDermott believes it is well poised to take advantage of its strong engineering capabilities in the Middle East in the future.

You get a better idea about Middle East prospects if you see how other construction companies also have their eyes glued to it. Chicago Bridge & Iron (NYS: CBI) , for instance, has various projects running there, including a big LPG project in Abu Dhabi.

Foster Wheeler (NAS: FWLT) , too, has designing and services projects from Oman and Saudi Arabia running. What's more, it just signed a three-year services agreement with the LNG giant Qatargas for its facility near Doha. Jacobs Engineering's (NYS: JEC) involvement in servicing projects with a Saudi Arabian utility company strengthens the Middle East argument further. Remaining positive on the Middle East looks sensible, then.

The "emerging" rescue
McDermott's lucky to have the emerging-market advantage. Revenue from the Asia-Pacific region surged by a staggering 90% from a year ago to $528.5 million in McDermott's last quarter. McDermott's revenues thus shot up 20% to $879.9 million, in spite of dismal Middle East sales.

This emerging-markets rescue is crucial for the entire construction industry. Not just revenues but a good chunk of the recent contracts that construction companies are bagging are originating in developing markets.

Meanwhile, Chicago Bridge & Iron is working on a big LNG plant project with energy giant Chevron (NYS: CVX) in Australia. It's also winning contracts from regions like China and the Philippines. And Foster also bagged contracts and signed deals in South Africa, India, and Chile last month. McDermott, though, isn't out of the race, having won a contract from Indian oil giant Oil and National Gas Corporation recently. McDermott is also wisely tapping new markets like Brazil, with plans for a fabrication yard.

Fingers crossed
McDermott's hopes are hanging on a lot of things -- such as in the Caspian region. When Royal Dutch Shell bid goodbye to a huge Kashagan project some time back, it raised fears of a death knell not just for the project but also for Kazakhstan's future in oil expansion. McDermott couldn't escape the blow of Shell's exit, but it is hoping the projects in the high-potential region will bounce back to life soon.

McDermott can also stage a coup if it wins some of its total outstanding bids, which now stand at a huge $5 billion, rising by 50% in the third quarter alone. What's interesting is that almost $3.3 billion of the bids are in the Asia-Pacific region -- McDermott's big revenue bank.

McDermott must also be praying for a spike in oil prices, considering that how active its customers are largely depends on them. Higher oil prices will mean increased activity, which is good news for McDermott.

The Foolish bottom line
McDermott's challenges are far from over, and it remains to be seen how it deals with them. The company expects its major marine activity levels to fall next year, which could add to costs and dent its operating margins. Furthermore, three of its vessels are lying in dry dock (for repairs and maintenance) and won't be out to work before the second half of 2012.

Speculation is also ripe about how McDermott will ramp up its core business line after losing some of its diversification since it spun off Babcock & Wilcox (NYS: BWC) last year.

Due diligence, however, says there are lots of things to watch out for in McDermott's case. You may want to watch from the sidelines now, but remember McDermott's line of business is very strong. And as projects start running and awards flow in, McDermott could be the highflier.

Make sure you keep yourself updated on the status of McDermott's projects and bids, along with how macro factors like oil prices play up. The easiest way to stay on top of things is to add McDermott to your stock Watchlist. It's a free, personalized stock-tracking service from The Motley Fool to keep you updated on all your favorite companies.

At the time thisarticle was published Fool contributor Neha Chamaria owns no shares of any of the companies mentioned in this article.Motley Fool newsletter services have recommended buying shares of Chevron. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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