An Energy Stock That Can Clean Up
By ALEXANDER EULE
IT'S BEEN A MESSY FEW MONTHS for Tetra Technologies, a provider of oil services primarily in the Gulf of Mexico. But, with shares down 48% since July, The Woodlands, Texas-based company seems to have plugged a leak.
Tetra's biggest business is the removal of exhausted or damaged oil and gas platforms in a process known as "decommissioning." Tetra also makes lubricant fluids that facilitate drilling and compressors used to maximize oil and gas flows.
The company sits atop a massive market. Billions of dollars worth of cleanup efforts are still on tap in the hurricane-ravaged Gulf of Mexico.
But the Gulf of Mexico work has been slow in coming, and a series of managerial missteps and insurance battles set Tetra back in 2007. The unexpected detour has forced improvements that should pay dividends for investors.
Tetra has restructured its decommissioning strategy to better allocate equipment resources. The company has also taken write-downs for unpaid insurance claims and expedited a contract on better-priced ingredients for its fluid line.
"We think it's a hidden value play," says Mark Madsen, an analyst with investment firm Wasatch Advisors. He thinks Tetra shares, trading at around $16 a share, could fetch $25 to $26 by the end of the year.
One well-placed source is similarly bullish. Tetra Chief Executive Officer Geoffrey Hertel bought $1 million worth of stock in mid-January, following Tetra's poorly received 2008 guidance announcement.
Shortly after the purchase, he told Barron's Online, "I just decided that the stock was so cheap I had to buy it."
The move reversed a long pattern of selling for the CEO, who said he was lightening up his exposure to the stock as part of a strategy of diversifying his holdings for retirement. (See Inside Scoop, "Tetra CEO Makes a $1 Million Buy," Jan. 18, 2008.)
As of Thursday, Tetra traded at a rather cheap 10.5 times 2008 estimated earnings. (The company shouldn't be confused with Nasdaq-listed Tetra Tech, an engineering-services business.)
Based on Tetra Technologies' recent 2008 guidance, the well and platform abandonment and decommissioning unit is expected to represent about 50% of revenue and 47% of gross profits this year. (Those figures include the contribution of a Tetra-owned exploration-and-production company that exploits mature oil and gas properties.)
The decommissioning process includes plugging wells hundreds of feet below the surface, salvaging the massive platforms and cleaning up debris.
Of the 118 Gulf of Mexico platforms destroyed in 2005 by Hurricanes Katrina and Rita, only 20% have been removed to date, according to the U.S. Department of the Interior's Minerals Management Service.
Each of the remaining downed platforms represents a lucrative opportunity. Earlier this month, Tetra rival Superior Energy Services signed contracts worth $750 million with BP, Chevron and Apache to decommission seven downed platforms in the Gulf over the next three years.
On Jan. 3, news of the contracts sent Superior shares up 19%.
Lehman Brothers analyst James West says Superior's deal locks up much of the company's assets, leaving Tetra better positioned to grab new deals. Madsen now estimates that removal costs will average between $50 million to $100 million per downed platform.
At a Glance
Tetra Technologies (TTI)
Stock Price: $15.65
52-Wk High: $30.20
52-Wk Low: $13.56
Market Cap: $1.16 billion
Est. 2008 EPS: $1.49
2008 P/E: 10.5
Est. Long-Term EPS Growth: * 12%
Est. ('08/'07) EPS Growth: 43%
Revenue (trailing 12 months): $959 million
Dividend Yield: None
Chief Executive: Geoffrey Hertel
Headquarters: The Woodlands, Texas
* Based on analyst estimates looking ahead three to five years.
Sources: Barron's Online, Yahoo! Finance, Thomson Financial.The unpredictable, big-order nature of the decommissioning business, however, has scared off some investors, especially after Tetra ramped up its capacities heading into 2007 only to see the market slow from its immediate post-hurricane rate. According to RBC Capital Markets analyst Victor Marchon, E&P companies are not necessarily incentivized to plug damaged wells and decommission platforms in a fast manner.
"We would agree the market is there," Marchon says. But "the timing is very difficult to handicap."
The Superior deal, though, could suggest E&P companies are returning their focus to the enormous decommissioning task.
Meanwhile, Marchon says that a disappointing year for well abandonment and decommissioning "put a cloud over other [Tetra] businesses that seemingly are in better shape."
Those steadier businesses include drilling fluids, pressure/volume testing and wellhead compressors to improve the flow of gas and oil.
For fiscal 2008, the fluids unit is forecast to make up 30% of revenue and 20% of profit, with the remaining compressor/testing, or "production enhancement," unit comprising 20% of revenue and 33% of the profit.
"I think part of the problem is that people have forgotten about how good some of these businesses are," says Wasatch Advisor's Madsen.
Madsen says the company has been quiet about its compressor line known as Compressco, as it seeks to spin off the assets into a master limited partnership, or MLP. Such a move would provide tax advantages for the business and its predictable source of cash flow, according to Joe Gibney, an analyst with Capital One Southcoast.
Tetra is also among the leading providers of completion fluids, or lubricants, for use in the drilling process. After producing narrowed margins in 2007, the business looks to get a boost in 2008 and beyond as Tetra takes advantage of a lower-cost supply contract for key ingredients used in the fluids.
Of course, after a 2007 in which Tetra first lowered its annual guidance and later withdrew the forecast entirely, the company faces skepticism on Wall Street.
Gibney calls shares "exceptionally cheap" but says Tetra is "very much a show-me story" when it comes to execution and hitting guidance.
Gibney notes that a lack of regulatory standards does little to force platform removal, making it an inherently slow-moving market.
Nonetheless, at some point down the road, billions of dollars remain to be spent on removing damaged platforms. And, in the near term, should Tetra manage to achieve its rather conservative guidance, investors could be the ones cleaning up.
