* The end of an era, a turning point, double upgrade to Buy
We’ve been Underperform on Vallourec for three years, but we believe now is the
most attractive opportunity to be buying a depressed set of earnings combined with
a compelling share price entry point and we double upgrade Vallourec to Buy. We
think Vallourec has just one more cut to earnings, before profits bounce over the
next two years and we reflect this in EPS cuts we make, highlighted below. We
apply higher multiples to these depressed earnings and raise our PO to EUR40,
giving 20% upside potential, which we believe can be achieved in the near term.
* After seven warnings, we expect one more cut to earnings
Vallourec has been through a challenging period in the last three years, with seven
warnings, each time leading to double digit earnings downgrades. With the first five
relating to company specific issues, mainly centred around new mills, the recent two
downgrades related more to macro issues, with demand declining, particularly in
Brazil. Over the next one to two years, we hope for some of the recent negative
macro trends to improve, including the US gas rig count, and for demand in Brazil
and EAMEA to tick up. We see scope for one more cut to earnings, but we expect
this will end the downgrades and see a turning point in earnings.
* New EUR40 PO, on depressed earnings gives 20% upside pot’l, Buy
We revise our estimates on Vallourec, mainly on margin expectations. For 2014
there is no change to our earnings, however we cut 2015E by 19% and 2016E by
14%. For 2014-16E these changes leave our estimates 2%, 9% and 12% below
consensus. In terms of our price objective, we revise it up to EUR40 (from EUR35).
Our PO is constructed by blending a PE of 15x 15E, an EV/EBITDA multiple of 8x
15E and a DCF analysis. We increase the multiples towards the higher end of the
range we would use for an OCTG company, which we look to offset what we believe
to be depressed and bottoming earnings. Our new PO gives us 20% upside,
leading us to double upgrade Vallourec to a Buy rating.