Parker Drilling, Over 13.25% Yield-to-Maturity, August 2020

  • Q2 adjusted EBITDA growth of 39% year over year.
  • Consecutive quarterly revenue growth of 8.1%.
  • Gross margin as a percentage of revenues increased to 22.8%, up from 16.5% in Q1.
  • Q2 interest coverage ratio of 2.4x.

This week, Durig Capital looks again at Parker Drilling, a company that provides contract drilling / drilling related services and rental tools to the oil industry. (Durig Capital reviewed Parker Drilling in June 2015). Having survived the unprecedented declines in oil prices over the past three years, Parker Drilling has emerged as a leaner, more competitive company. Its most recent quarterly results show a company that continues to perform.

 

  • Q2 adjusted EBITDA growth of 39% year over year.

  • Consecutive quarterly revenue growth of 8.1%.

  • Gross margin as a percentage of revenues increased to 22.8%, up from 16.5% in Q1.

  • Q2 interest coverage ratio of 2.4x.

 Parker’s second quarter results were primarily driven by the company’s rental tools segment. During Q2, this segment grew at a higher rate than the U.S. rig count. Increased activity in the major shale basins are most likely driving the increased demand for Parker’s products. With the price of oil somewhat stable, Parker is investing additional amounts in its rental tools segment, given its good margins and quick return on investment. The company’s 2020 bonds are trading at a significant discount, giving them a fantastic yield-to-maturity of over 13.25%. With this excellent yield, these bonds are ideal for additional weighting in Durig Capital’s Fixed Income 2 (FX2) Managed Income Portfolio, the most recent performance of which is shown below.

 Second Quarter Results Reflect Continued Growth

Parker Drilling’s second quarter results show that the company continues to make strides in growing revenues both in consecutive quarters as well as year-over-year growth. The company registered revenues of $118.6 million in Q2, an 8.1% increase over Q1 2018, and a 8.2% increase over Q2 2017. PKD also increased operating gross margin in Q2 by 49.2% to 27.0 million. Gross margin as a percentage of revenues also increased to 22.8%, up from 16.5% in Q1 2018. Lastly, adjusted EBITDA showed a healthy year-over-year increase of 39%, from $13.5 million a year ago to $18.7 million in Q2.

 

Increased activity in the onshore drilling space in the continental United States definitely helped Parker Drilling to increase revenues in its two main business lines – drilling services and rental tools.  U.S. drilling segment revenues increased 135.7% over first quarter 2018, mainly due to increased utilization rates in the second quarter. Similarly, U.S. rental tools segment revenues also increased 21.3% to $42.1 million, up from $34.7 million in the first quarter.

 

About the Issuer

 

Founded in 1934, Houston-based Parker Drilling is an international provider of contract drilling and drilling-related services and rental tools.  The company has three business segments – US Drilling, International & Alaska drilling and Rental Tools. Parker is among the most geographically experienced expertise in drilling geographically difficult wells and in managing the logistical and technological challenges of operating in remote, harsh areas.  Its rental tools business supplies premium equipment to exploration and production (E&P) companies, drilling contractors and service companies (both on land and offshore) in the United States and in select international markets. For 2017, drilling revenues (U.S., Alaska and International) made up 58.7% of total revenues, and Rental Tools Services made up 41.3% of total revenues. For its latest quarter, drilling services accounted for 60% of revenues and rental tools accounted for 40% of revenues.

 

Looking Ahead

 

On the company’s last earnings call, Parker Drilling’s management gave some details about what they anticipate for the rest of 2018 and into 2019. Some specifics include:
 

  • For the third quarter, consolidated revenues are expected to be flat with second quarter levels.

  • Full year gross margin is forecasted to be between $65 million and $75 million.

  • Parker has raised its 2018 projected capital expenditure from $60 million to $75 million, with the bulk of the increase going to the rentals tools business segment. Management expects these expenditures in the last half of 2018 to show minimal effects (in terms of revenues) this year, but will definitely have an impact in 2019.

     

Gary Rich, President and CEO of Parker Drilling commented on the current state of the oil and gas industry. “Given the air of uncertainty that still characterizes this market, we continue to approach our spending and investments with a high degree of prudence.”  Even as oil and gas prices have increased this year (see the graph below for YTD changes in WTI pricing), there has still been a degree of volatility, forcing oil and gas E&P companies to carefully weigh their capital spending.
 


 

Oil Outlook

 

JP Morgan recently came out with its projections for oil pricing and demand. The U.S. based bank issued revised guidelines for pricing as well as for demand. It indicated that Brent crude, long the benchmark for international oil, would average $70 per barrel in 2018 and 2019, up from its earlier forecast of $65 per barrel in 2018 and $60 per barrel in 2019. This new pricing, it said, is related to uncertainty surrounding the OPEC nations, budget constraints as well as sanctions. The demand forecast was also revised, now predicting less growth in 2018 of 1.2 million barrels per day, down from 1.4 million barrels per day. For 2019, the forecast edged up a bit to 1.1 million barrels per day.

 

Certainly, these numbers will be affected by things like the escalating trade war between the U.S. and China as well as the impending sanctions the U.S. is ready to enforce on the nation of Iran.

 

Interest Coverage and Liquidity

 

Interest coverage is of paramount importance for bondholders as it indicates the company’s ability to service its existing debt. For its latest reported quarter, Parker Drilling reported operating income (minus non-cash depreciation) of $27.0 million and interest expense of $11.2 million, for an interest coverage ratio of 2.4x.  The company also maintains a healthy liquidity level. As of June 30, 2018, Parker Drilling had total liquidity of $167 million, made up of $114.5 million in cash and $52.5 million available under its revolving credit facility.

 

Risks

 

The risk for bondholders is whether Parker Drilling can continue to grow revenues and cash flow in time to meet its debt maturities coming up in 2020. The company has $305 million in total of notes and ABL maturing in 2020. Company management indicated in its latest earnings call that they are “carefully evaluating options to enhance our capital structure in light of upcoming debt maturities”. While the exact nature of this evaluation is still unknown, the company will likely look for ways to pay off or roll over its debt.

 

Parker Drilling’s revenues are directly affected by the price of oil.  Since oil hit its recent low in early 2016, it has continued to seesaw, but WTI prices have seen a run-up in the past four to six weeks. As of the writing of this article, oil has hit new highs not seen since late 2014. The outlook for prices looks favorable. However, if oil prices were to experience another significant and prolonged decrease, it could affect Parker Drilling’s revenues and profitability.
 

Parker Drilling derives a substantial percentage of its revenues from a few key customers. The loss of one of these significant customers would have an adverse effect on the company’s revenues and profits. In 2017, Parker Drilling’s largest customer, ENL, accounted for roughly 32.3% of total revenues, while BP, the company’s second largest customer, accounted for approximately 9.7% of total revenues.
 

In general, bond prices rise when interest rates fall and vice versa. This effect tends to be more pronounced for lower couponed, longer-term debt instruments.  Any fixed income security sold or redeemed prior to maturity may be subject to a gain or loss. Higher yielding bonds typically have lower credit ratings, if any, and therefore involve higher degrees of risk and may not be suitable for all investors.
 

 

Summary and Conclusion

 

As the price of oil has increased over the course of this year, Parker Drilling has also increased its revenues. Its latest quarterly revenue results logged consecutive quarter increases as well as year-over-year increases. Increasing oil prices are indirectly responsible, as oil producers ramp up their exploration and production efforts to chase increasing commodity prices. The company is beefing up investment in its rental tools segment, which has good margins and a relatively quick payback on investment. With oil prices seemingly stable at this point, the company could begin to see additional increases in not only its rental tools segment, but also its drilling service segment. Durig Capital already has the 2020 Parker Drilling bonds in its  FX2 managed income portfolio. The company’s strong Q2, as well as this bond’s excellent yield-to-maturity of over 13.25%, makes PKD’s 2020 bonds an ideal addition to Durig’s FX2 Portfolio, the most recent performance of which is shown above.
 

Issuer:  Parker Drilling Company

Ticker: NYSE:PKD

Coupon: 7.50%

Maturity: 08/01/2020

Ratings: Caa2 / B-

Pays: Semiannually

Price:  90.2

Yield to Maturity: ~13.44%

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