Q2/21 Preview
Our Sector Thesis & Industry Outlook Remain Unchanged As E&Ps Pledge Discipline and D&C Activity Underperforms
TD Investment Conclusion
Industry Outlook Remains Unchanged, Despite Improving Oil Price Macro:
Our E&P team recently updated its commodity price deck assumptions (full report) that featured increases in our 2021 (US$65.00/bbl, +13%), 2022 (US$65.00/bbl, +18%), and long-term (US$55.00/bbl, +10%) WTI crude oil price forecasts. However, we continue to observe significant capital discipline from North American E&Ps despite this strength. Earlier this week, we heard from multiple Canadian E&Ps at TD Securities annual Energy Conference that continue to promise investors a combination of minimal production growth, strong free-cash-flow generation, debt reduction, and other shareholder-friendly activities like increased dividends and share repurchases. As a result, the Drilling and Completions (D&C) activity continues to underperform the commodity. However, as we show in Exhibit 1B, share-price performance of the coverage universe has more closely mirrored WTI and suggests that a strong sector recovery is already priced-in.
Q2/21 Preview: As Q2/21 is typically a seasonally slow period in Canada, there are often limited takeaways from second-quarter results. In this light, our focus in the upcoming quarter will be on the outlook. See page 4 for details.
Our Sector Stance: MARKET WEIGHT
Our top four ideas for oilfield services sector exposure have a combination of recurring and/or production-weighted revenue profiles, capital-light business models, strong growth outlooks, attractive free-cash-flow generation, and positive ROIC. Notably, these ideas are not reliant on an improving drilling and completions activity environment. We highlight the following, in particular (listed alphabetically):
CES Energy Solutions (CEU-T, BUY, $3.75 Target Price): CES' Q1/21 drilling fluids market share was 22%, up from ~13% in 2019 (Q1/21 Results), indicative of the company's competitive product portfolio.
Enerflex (EFX-T, BUY, $14.00 Target Price): Enerflex continues to evaluate a broader strategy to grow its bioenergy, carbon capture, and hydrogen exposure. We believe that Enerflex's focus on energy transition initiatives will be positive for both financial performance and valuation.
Secure Energy Services (SES-T, BUY, $6.50 Target Price): Having secured Tervita (full report), Secure has the opportunity to optimize its existing asset base with synergies of $75 million, while improving the competitive landscape of its core business.
Shawcor (SCL-T, BUY, $9.00 Target Price): Shawcor has made significant improvements to the cost structure of its core pipe coating operations