We have reaffirmed our Neutral recommendation on Dril-Quip Inc. (DRQ) on January 8, 2013, reflecting its advantageous position from the increased deepwater activity over the near term, recent capacity additions and a solid backlog. However, we remain concerned about the company-specific risks, which include new product growth challenges, manufacturing difficulties and potential backlog losses. The company holds a Zacks Rank #3, which is equivalent to a short-term Hold rating.
The offshore drilling equipment maker – Dril-Quip – is likely to benefit from increased deepwater activity over the near term, recent capacity additions in Brazil and Singapore, as well as ongoing capacity expansions, over the coming years.
The company is also pursuing several other large projects – Royal Dutch Shell plc’s (RDS.A) Malakai TLP project, off Malaysia as well as Woodside’s TLP projects in Australia. The award of these contracts is likely to be announced in 2013.
Dril-Quip’s backlog increased in the third quarter on a sequential basis. The company also enjoys a favorable position given its solid backlog, including a debt-free balance sheet. In 2013, we expect large orders from the Gulf of Mexico (GoM) and Brazil, with rising demand and activity level in these regions. This gives it the financial flexibility to take advantage of new growth opportunities while returning capital to shareholders.
For the fourth quarter of 2012, Dril-Quip expects earnings between 65 cents and 75 cents per diluted share, excluding any unusual or special charges. Currently, the Zacks Consensus Estimates for the fourth quarter is projected at 74 cents per share, representing a year-over-year slip of 4.2%. Over the last 60 days the stock has witnessed no earnings momentum for the fourth quarter of 2012.
Additionally, based on improving market conditions, Dril-Quip anticipates its full-year adjusted earnings per share between $2.83 and $2.93, higher than its 2011 earnings per share of $2.44.
However, in the third quarter, Dril-Quip’s gross margin slipped, primarily due to some negative shift in the mix from higher project-related shipments as well as fairly lower absorption as it ramps up capacity.
Additionally, delays in deepwater infrastructure awards may also hinder the growth prospect of the company.
Other Stocks to Consider
While we prefer to remain on the sidelines for Dril-Quip, there are other stocks in the sector that appear rewarding. These include Sunoco Logistics Partners L.P. (SXL) and Cabot Oil & Gas Corp. (COG), which are expected to perform impressively over the next few months and carries a Zacks Rank #1 (Strong Buy).
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