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J.P. Morgan Senior Energy Analyst Sees Upside In Offshore Oil Development To Benefit Capital Equipment - J. David Anderson

67 WALL STREET, New York - February 13, 2012 - The Wall Street Transcript has just published its Oil & Gas: Exploration & Production Report offering a timely review of the sector to serious investors and industry executives. This Special feature contains expert industry commentary through in-depth interviews with public company CEOs, Equity Analysts and Money Managers. The full issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.

Topics covered: International Increase in Capital Expenditures - Rising Costs of Equipment and Services - Shale, Offshore and Deepwater Drilling - Consolidation to Achieve Economies of Scale

Companies include: TGS-Nopec (TGS.OL); Aker Solutions (AKSO.OL); Anadarko (APC); BP (BP); Baker (BHI); Bourbon (GBB.PA); and many more.

In the following brief excerpt from the Oil And Gas Special Report, expert analysts discuss the outlook for the sector and for investors.

J. David Anderson recently joined J.P. Morgan as an Executive Director and is a Senior Analyst covering oilfield services and equipment. He spent most of his career at UBS, where he was the large-cap oil services Analyst, after several years of covering small and midcap exploration and production companies. He earned a bachelor's degree in electrical engineering from Lehigh University, a master's degree in ocean engineering from the University of Connecticut and a master's degree in civil engineering from Stevens Institute of Technology.

TWST: What events will need to take to place for activity to pick up overseas?

Mr. Anderson: In our estimate, we see about an 11% increase to spending in 2012, but I think most of the risk is probably to the downside. We are looking at three regions, in particular, to see the spending increase. First off, onshore North Africa - obviously, with Libya and Egypt having some political issues over the last year - we are just starting to see that come through. Algeria has been a country which has been plagued by a lot of political issues as well. So there are a number of political issues that need to be resolved to start seeing that pick up in the North African land. Offshore West Africa is another big area that can really turn the tide on the international market. In Nigeria and Angola, in particular, there is a tremendous amount of exploration and development activity that needs to go ahead.

Once again, it sort of goes back to the political issues there as well, and really kind of energy loss needs to be resolved in both of those countries. We are obviously seeing some positive signs out of East Africa as well with Anadarko (APC) making a number of recent discoveries. So we see a huge amount of promise on the offshore market for West Africa. But the big key for it all will really be Middle East land. Within our forecast of 11% spending, we are including a 14% increase in the Middle East rig count. Saudi is always the biggest player there, and we are getting mixed signals from Saudi in terms of how fast they are going ahead with some of their expansion plans.

TWST: What are the metrics you use to evaluate your stocks that a savvy investor also would want to be sure he or she understands?

Mr. Anderson: The first thing we do is we try to figure out in terms of valuation where these stocks are trading in terms of relative valuation metrics. I am not talking about simply looking at how these stocks are trading on EPS compared to last cycle. What we rely on most heavily for our longer-term valuation trends is normalized earnings. And so what we do is we base this on return on capital. We are big believers in return on capital and how that trends and how that impacts valuation. The best example is probably FMC Technologies (FTI). Most investors or many investors at least think that the stock is overvalued because they're simply looking at earnings and where it's trading right now on p/e compared to last cycle.

However, that's discounting the fact that return on capital has doubled over the last four years. What we do in our numbers is we take a look at average return on capital and apply it to the capital base to calculate normalized earnings. On that basis, we can see very clearly where the stocks are trading in terms of fair value. Going back to FMC, while many think the stock is overvalued, on normalized estimates, it's actually trading in line with normalized estimates. Looking at stocks like any of the large-cap service companies, Halliburton (HAL), Schlumberger (SLB), Baker (BHI) combined, those stocks are trading more than 40% below fair value when you're using this metric. So that's one methodology that we look at pretty closely in terms of where we are in the stocks. But really what you need to understand though is what's driving all these stocks in terms of their revenue, and it goes back to our upstream spending analysis.

We continue to believe that North America will be the driver for most of these service stocks, so we still want to leverage that trend as the market is underestimating the power and the resiliency of this market. I know that there are a number of signs that things are peaking, but we still think there is upside here. So when I look across the large-cap services, as I said, North America has more upside, international has more downside, but right now, we want the most exposure quite frankly to offshore development. That leads us to NOV (NOV), FMC Technologies and Dresser-Rand (DRC).

The Wall Street Transcript is a unique service for investors and industry researchers - providing fresh commentary and insight through verbatim interviews with CEOs and research analysts. This special issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.

The Wall Street Transcript does not endorse the views of any interviewees nor does it make stock recommendations.

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