Petrofac has announced that it no longer expects to achieve its previous 2023 target of being broadly neutral at the free cash flow level. This is because there have been delays in securing advance payments on contracts secured this year.
The Board is reviewing a range of strategic and financial options with the objective of strengthening the group's balance sheet. These include the sale of non-core assets and discussions with financial investors who may take minority stakes in other areas of the business.
After a volatile start, the shares were up 36% by mid-morning.
View the latest Petrofac share price and how to deal
Our view
Petrofac designs, builds, manages and maintains oil, gas, refining, petrochemicals and renewable energy infrastructure. And we're impressed with its range of capabilities across the energy mix. It's making solid progress in rebuilding its order book and sales pipeline. But what investors really want to see is a return to profits and cashflows, and progress on that front has so far been disappointing.
The recent collapse in the valuation suggests that investors may be unsurprised by the revelation that this year's cash flow targets won't be met. The company's financial position, together with an increasing reluctance by debt providers to fund project workflows, means that there are significant concerns about the group's ability to deliver these contracts. That means recent wins may not convert to revenue. Until the balance sheet is strengthened, it may also prove challenging to win further new business.
The valuation has staged a partial recovery on the news that talks are under way to sell off parts of the business or attract investment for other activities. The Group's pipeline of potential contracts could well be of interest to industry players with the financial firepower to get the job done. Until clarity emerges on the shape of the business it makes it difficult to form a view about the future prospects for the group.
For now, there is no certainty that any external investment will be secured. Disappointments on this front would likely cast a shadow over the company's future and therefore sentiment towards the shares.
Should a solution be found, the key will be not just winning new business, but also securing strong commercial terms. Pricing discipline is essential, to avoid a race to the bottom. We also see headcount as a key metric to get right. Petrofac is a relative minnow in the energy equipment and services space. That also gives it less bandwidth to invest in hiring skilled engineers in anticipation of new business. Over-hire and the bottom line gets punished. Hold back and there could be problems delivering projects. The volatility we have seen in oil and gas prices of late makes this equation even harder to balance as Petrofac's customers evaluate whether or not to embark on new projects.
Petrofac has previously set out its stall of achieving $4-$5bn of sales annually and a returning to industry-leading margins over the medium term. Progress toward this could be rewarding for investors with some analysts even forecasting a return to dividend payments. But given the pressure on cash flows we don't currently see any scope for handouts to shareholders.
And in the immediate future we caution that its efforts to shore up the company's finances that are likely to be the key driver of Petrofac's valuation, and here there are no guarantees of success.
Environmental, social and governance (ESG) risk
The ESG risk to oil and gas service providers runs parallel to those impacting producers. Environmental concerns are the primary driver of ESG risk for this group, with carbon emissions and waste disposal being the main issues. Health and safety, community relations and ethical governance are also contributors to ESG risk.
According to Sustainalytics, Petrofac's management of ESG risks is strong. However there are concerns surrounding the strength of the company's disclosures.
It has a strong environmental policy and has appointed a management committee for ESG issues, but its ESG reporting doesn't align with leading reporting standards. Its whistle-blower programme is strong, reflecting changes to the governance regime following an investigation by the Serious Fraud Office. Although ESG targets have been included in executive performance reviews, they're not clearly outlined in the remuneration policy.
Petrofac key facts
All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.
This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. It was correct as at the date of publication, and our views may have changed since then. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.
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