Schlumberger inks a deal
On August 28, 2015 Schlumberger announced an agreement to purchase oil service provider Cameron International in a $US14.8 billion transaction surprising the market. Upon announcement the shares lost 5 per cent to $US70.00 (not unusual), but have since rallied back 8.5 per cent to the high 70s.
The deal price of $US66.36/share represents a hefty 56 per cent premium to Cameron's stock price. Cameron shareholders will receive 0.716 shares of Schlumberger and $US14.44 of cash per Cameron share, resulting in a 78 per cent equity deal.
Schlumberger expects $US300 million of synergies in the first year post closing and $US600m in the second year. Thus, the company expects the deal to be accretive in the first year. The deal is expected to close in the first quarter of 2016. Analysts were generally positive.
Overall, the acquisition will firmly establish Schlumberger as the most diversified oilfield service provider. Total estimated revenues for the combined entity are some $US46bn in 2015.
The premium paid might seem excessive but given Cameron’s valuation is severely depressed, it seems fair on a more “normalised” earnings basis (taking historical ranges into account), only represents a small premium to its median PE of 17X, and should be viewed positively given the target for immediate earnings accretion in year one (adding 13 per cent to SLB’s 2016 EPS). As well, SLB has a strong historical track record of execution, particularly in M&A.
So what is SLB getting in the deal?
Cameron International Corp (CAM US) is a Fortune 500 company and a global provider of pressure control, processing, flow control and compression systems as well as project management and aftermarket services for the oil and gas industries.
Cameron generated $US10 billion of revenues in 2014 and has 24,000 employees. It is a global player with 65 per cent of business non-US and has 80 strong product brands in 300 locations around the world.
It supplies a good part of the underwater control infrastructure essential for deep water drilling and production which SLB lacks in its product portfolio. Management believes the combined product portfolio and complementary technologies should result in greater market shares and higher profitability for the combined company.
Houston, Texas-based Cameron International has 4 main divisions:
- Drilling and Production Systems (23 per cent of revenues)
- Valves and Measurement (26 per cent of revenues)
- Compression Systems (28 per cent of revenues)
- Subsea (14 per cent of revenues)
Not surprisingly, CAM/SLB were already in a 60/40 joint venture named OneSubsea, which uses CAM’s subsea production systems (trees etc) and SLB’s reservoir and completions capabilities. Clearly SLB sees the potential.
The company believes front end synergies should be mostly attributable to cost rationalisation through back office and supply chain integration, and also in driving further manufacturing efficiencies. That said, the true value of the deal lies in the considerable later stage revenue opportunities, particularly as the surface and downhole technologies are integrated.
Strategically (and this is important), Schlumberger is making a long-term bet on a resurgence in deepwater drilling, as much of Cameron’s expertise involves state of the art blowout preventers and subsea pumping systems capable of operating at high pressure 10,000 feet (3km) underwater. I can’t disagree here as big oil has to increasingly go “deep” and in hostile environments.
Schlumberger is our only pick in the oil services sector and is included in our Model Portfolio. To read how well the company is managing the industry downturn please refer to Global equities scorecard: Solid numbers all around (July 27, 2015) and Global stocks: Earnings season takes off (April 27, 2015).
For background on SLB’s size, scale, and technological competitive advantages, please refer to the initiation piece Schlumberger: Energised for Growth (August 25, 2014).
Splunk earnings look solid
Splunk reported a very solid second quarter where it grew net income 240 per cent to $US4.1m from a prior $US1.2m. Revenues were $US148.3m ( 46.0 per cent Y/Y) and beat consensus by some $US7.99m.
License revenues were $US87.96m (up 41.7 per cent) and Maintenance and Services were $US60.4m (up 53 per cent) reflecting very solid growth Y/Y. Expansion of current customer base and addition of new customers (especially in security which is now 40 per cent of new business) were the drivers here.
Splunk announced it signed more than 500 new customers to end the quarter and now has in excess of 10,000. Large deals (>$US100K) came in at 327 versus 227 previously.
Operating cash flow was $US13.6m; free cash flow of $US10.8m, in line with the street.
The company has guided up for the next quarter seeing revenues of $US158m-$US160m, higher than the previously expected $US155.1m.
Splunk also bumped up full-year guidance for revenues to $US628m-$US632m, up from a previous $US610m-$US614m, and higher than a consensus of $US616m.
An excellent result. Splunk remains one of our highest conviction buys in the analytical software space dealing with “big data”. The company’s products are continuing to make inroads in a number of software sub-industries (security, ITOM, business analytics) due the flexibility of the core platform. In complex IT environments customers are therefore able to optimise their investment spend hence the rapid and wide adoption of Splunk.
I would urge readers to refer back to initiation piece Splunk: Big Data, big opportunities (August 18, 2014).
The recent market correction has provided an attractive level (low 60s) to pick up the shares. Splunk is one of my highest conviction ideas.
Ambarella earnings beat the street
Ambarella reported Q2 EPS of $US0.88 which beat consensus by $US0.08. Revenues of $US84.2m were up 79.3 per cent Y/Y which was $US2.47m ahead of the street.
Ambarella guided on its Q2 earnings call (webcast) for Q3 revenue of $US90-93m, in line with a $US92.3m consensus. However during the call, Ambarella announced that action camera video processor revenue is expected to be down Q/Q and Y/Y in Q3. This surprised the market. Ambarella blames the shortfall on product launch timings – major camera launches/ramps occurred in Q2 this year rather than Q3. Not a major issue in my opinion.
The company also stated that IP security camera, wearables (more and more US police forces are using “body cams”), drone-related demand is expected to be stronger in 2H 2015 and their China business is “very strong”.
Gross margin (non-GAAP) rose 50 bps Q/Q and 20 bps Y/Y in Q2 to 65.3 per cent; Q3 GM guidance is at 62.5-64 per cent. Operating expenses rose 29 per cent Y/Y to $US22.7m. As previously forecast, drones (boosted by DJI/Yuneec product launches) made up over 10 per cent of revenue for the first time.
The company insists its competitive position in the UAV market hasn't changed and argues its video expertise will help it fend off the likes of Intel and Qualcomm, which are looking to sell app processors/SoCs into the drone market.
Ambarella fell to $US82.65 after hours.
Now we recommended Ambarella on September 29, 2014 at $US42.00 and wrote that “Ambarella, Inc. (NASDAQ: AMBA), is a leading developer of low-power, high-definition (HD) video compression and image processing semiconductors. The company’s products are used in a variety of HD cameras including security IP-cameras, sports cameras (GoPro), wearable cameras, automotive video camera recorders and mobile phones. Ambarella compression chips are also used in broadcasting TV programs worldwide.
“The investment case for Ambarella certainly revolves around its success with GoPro but also with the multiple opportunities in the security camera market, “wearables” and dashboard cameras. New areas such as 4K video and UAV (unmanned aerial vehicles, also known as drones) will also provide future growth for the company.” (see Capturing Ambarella’s disruptive technology, September 29, 2014))
The stock was a great performer, executing well and delivering every quarter. The shares literally tripled going from $US42 to $US125 on July 24 of this year at which time we went to a hold.
Last week with the shares back under $US90.00 we resumed our buy recommendation (see Correction opportunities, August 31). The reaction to the company’s guidance is clearly a buying opportunity.