Petrofac Limited (LSE: PFC) (NASDAQOTH: POFCF) slumped by as much as 20% during early trade last Friday, after the company warned that profits for 2014 will come in below expectations.
Unfortunately, this was Petrofac’s second profit warning during the space of the last six months and as the rule of three dictates, profit warnings usually come in threes. So, is it time for investors to jump ship before the company warns on profits yet again?
Why did it decline?
Petrofac’s shares slumped as the company’s management predicted a fall in current-year income and trimmed forecasts of future earnings. The company now expects to report income of $580m to $600m for 2014, down from the $650m net profit reported during 2013.
This lower outlook now means that the company is unlikely to achieve its long-term goal set back during 2010, to double net income by 2015.
The troubles can be traced back to Petrofac’s Integrated Energy Services division, which was created to help the company meet its long-term growth target. A number of IES projects were delayed during the period and some contracts were cancelled by customers.
What’s the outlook?
Petrofac’s IES division was set up to take on more risky, production enhancement projects and at the time of creation, many analysts expressed their doubts over the division’s ability to meet the targets set out by the group’s management.
Now the IES division’s ambitions have been pinned back, and the division, led by a new management team, is scaling back activities over the next year, with the goal of lower capital spending and improving cash flows.
Still, Petrofac’s IES project is not a total failure. The division has the highest profit margins of Petrofac’s main divisions, with a margin of 15% reported last year; Petrofac’s overall profit margin was 10%.
The case for value
Despite the troubles at Petrofac’s IES division and the lower earnings forecast, Petrofac’s underlying business remains strong and after the profit warning, the company’s shares now look seriously undervalued.
Indeed, even with lower than expected profits forecast for 2014, Petrofac currently trades at a forward P/E of 10.7, a valuation lower than almost all of the company’s competitors. Additionally, the company’s return on capital (equity plus total debt) was 18% during 2013, three times the average of its main competitors.
Petrofac’s project backlog for the first quarter rose to $18.6bn, from $15bn reported at the end of 2013.
Foolish summary
Overall, despite Petrofac’s profit warning, the company remains a leader in the field of oil services.
Further, after the profit warning the company’s shares now trade at a valuation which places almost no value on the company’s order backlog and impressive return on capital figures.
All in all, it seems as if you shouldn’t turn your back on Petrofac just yet.
