Let's be normal
SECTOR REVIEW
Lowering 2009, introducing 2010 and
Normalized EPS
Let's be normal about this. We think using a normalized earnings valuation
framework is logical for services at this point, especially given our outlooks for (1)
earnings troughs in 2010 (but at too high an EPS to comfortably apply prior cycle
multiples to them) and (2) a softer U.S. recovery than in prior cycles (see below).
On a normalized view, we see upside to shares. We are applying an average 11x
P/E multiple to normalized earnings, to reflect conservatism on market multiples and
discounting back from the “normal” year (we think 2012 may approximate).
Yet with EPS expected to be down again in 2010, it is too early for us to be
saying “buy the stocks”. The OSX YTD performance flat versus the S&P500 down
17% seems to us likely to based, at least in part, on 2010 optimism; we anticipate
near term downside and choppiness as expectations reset.
We are upgrading HAL and downgrading BHI. Our normalized approach drives a
longer term view as basis for our ratings. Strength in longer term positioning leads
us to upgrade HAL to OP from Neutral and downgrade BHI to Neutral from OP.
Downgrading FTI and NOV to Neutral; maybe early, but we think a normalized
view favors services over equipment/infrastructure. The Credit Suisse Energy
team’s new more measured recovery in oil price to $70 long term denotes a
sluggishness in demand that we think does not support dramatically higher
infrastructure spending versus 2008 peaks. That leaves the equipment “group”,
which has outperformed by 700 basis points YTD, a little less attractive, in our view.
Lowering '09 again, although this likely won’t be the last time. We are lowering
our average rig count estimate to trough in Q3 at 900. Our new average EPS decline
among service coverage is 50% yr./yr., and we are now 11% below consensus.
2010 EPS should be lower than 2009. 2010 brings a recovery in the U.S. by H2,
we think, but a tentative one. We are looking for a U.S. rig count in 2010 to average
1,105 (+5% yr./yr.) but US EBIT to be 24% below 2009. Add downside in 2010
outside of North America, we look for an average EPS decline for service names of
26% yr./yr. (and are 38% below Consensus).
What’s in our normalized earnings. We accept the argument that fewer rigs are
needed in the U.S. to produce enough gas to meet demand; overcapitalization is
only partially offset by higher service intensity and we assume NAM revenues down
23% versus 2008 and EBIT down 52%. Outside of North America, revenues
average 7% above 2008 but margins are 300 bps below due to competitive pressure.

Table of contents
Summary Exhibits 3
Ratings Changes 8
2009 Discussion 10
We are cutting Q1 2009 EPS estimates 10
Lowering 2009 EPS estimates 11
2010 Discussion 14
Normalized Earnings Discussion 16
What is normal? 16
Return on Capital 18
Valuation/Price Targets 19
Schlumberger (SLB) 21
Halliburton (HAL) 25
Baker Hughes Inc. (BHI) 29
Weatherford International, Inc. (WFT) 33
Smith International, Inc. (SII) 37
BJ Services Co. (BJS) 41
National Oilwell Varco (NOV) 45
FMC Technologies, Inc. (FTI) 49
Cameron International Corp. (CAM) 53
Exterran Holdings (EXH) 56
Global Industries, Ltd. (GLBL) 60
Oceaneering Intl, Inc. (OII) 64