Wood ready to crack

Few corners of the market have suffered as badly as oil services over the past year, but that suffering has been far from uniform. The MSCI World Energy Equipment and Services index has contracted by 23.4 per cent, yet John Wood has lost just 4.9 per cent of its market value over the same period. The group has fared much better than the likes of Amec Foster Wheeler (AFW) and Petrofac (PFC). What's more, John Wood's shares actually look expensive by historic standards on a PE basis trading at 13.4 times next-12-month earnings, based on Bloomberg consensus data, compared with a five-year median average of 12.6 times. Why should this be?

It's generally held that the oil service provider's business mix, with its bias towards operational and maintenance (O&M) contracts, provides a degree of resilience against cutbacks in upstream development spending within the oil and gas industry. We think that while this belief is partially warranted, it has been given too much credence.

John Wood's O&M activities account for the lion's share of revenues, with the O&M-focused production services division accounting for 61 per cent of sales. However, the proportion of group profits that come from the division are lower at 56 per cent - a reflection of the lower margins available. This is all the more pertinent when you consider that activity levels in subsea and pipelines - a key growth area for John Wood - have been in decline with fewer large subsea capital expenditure projects coming to market.

Low net debt helps mitigate bottom-line pressure and around $30m in savings were generated through cuts and project deferrals earlier this year. The group also delivered a solid full-year result for 2014, complete with a consensus-beating adjusted operating profit of $550m (£350m). So no one is suggesting that John Wood isn't delivering on the operational front. But following a succession of forecast downgrades, JPMorgan Cazenove is predicting a 22 per cent fall-away in underlying EPS this year followed by a 15 per cent decline in 2016. On that basis, it's hard to justify an earnings multiple of 15 times 2015 forecasts, rising to 17 times in 2016.

Admittedly, crude oil prices appear to be stabilising, but that won't be reflected in the work undertaken by John Woods over the second half of this year. Much of the work contracted prior to the oil price crash will have run off, replaced by deals predicated on far less favourable price assumptions.