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National Oilwell Varco Full Of Pride

Posted: Mar 14, 2008 12:28 PM by Will Ashworth

Tickers in this Article: GRP, NOV

Back in 2005, National Oilwell and Varco International merged to create a formidable business unit: National Oilwell Varco (NYSE:NOV). Now it's three years later, and the combined entity is close to finalizing the acquisition of Grant Prideco (NYSE:GRP), initially announced in December, 2007.

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This will further strengthen its leadership position in oil and gas equipment. Let's just hope the company can find a catchier name than "National Oilwell Varco Grant Prideco".

Grant Prideco provides state-of-the-art drill bit technology that gives clients greater data reliability during the drilling process, helping reduce costs. Overall, it's a great addition to an already strong business. (To learn more, check out The Advantages Of Investing In Aggressive Companies.)

Before and After
Let's look at what we have before and after the merger. Currently, you have two businesses, National Oilwell Varco and Grant Prideco. They produced revenue in 2007 of $9.7 billion and $1.9 billion, respectively, while net income for National Oilwell Varco was $1.3 billion and $530 million for Grant Prideco. After a quick calculation, you'll notice that Grant Prideco's after-tax margin is double that of its acquirer. National Oilwell is buying an extremely profitable company.

When combined, the two have revenues greater than $11.6 billion, net earnings of $1.8 billion, and a market capitalization of approximately $28 billion. Add to this the benefits of any possible synergies, and you're looking at an even greater level of profit than currently exists with the two companies separately. (For more on creating cost synergies, check out The Wacky World Of M&As.)

Can National Oilwell Pull it Off?
National Oilwell Varco offered $23.20 per share in cash and 0.4498 of its own shares for every Grant Prideco share. When the deal was first announced, National's stock traded in the $77 range, while Grant Prideco's was at about $47.50. Based on these numbers, National was offering to buy each Grant Prideco share for about $58, a 22% premium. That's not unreasonable given Grant Prideco's profitability.

But since then, three months have passed and its value has changed. Based on the $60-per-share range National's stock now trades at, it would pay only about $50 per share to complete the deal, reducing the premium to only about 6%, and making the date the deal closes extremely important. During the fourth quarter and year-end conference call, CFO Clay Williams believed the transaction would close sometime in April. Until then, Grant Prideco shareholders will have to hope National Oilwell's stock moves back to prices seen prior to the merger announcement. (To learn more, see our tutorial Mergers And Acquisitions: Doing The Deal and Why They Can Fail.)

What Does the Future Hold?
As mentioned earlier, Grant Prideco is extremely profitable and so is National Oilwell. Its current return on equity is 22.9% for the trailing twelve months, while Grant Prideco's is 31.1%. Both have operating margins greater than 20%, yet each is trading at only less than 17 times trailing earnings. Most interesting of all is that the combined net income of the two firms in comparison to capital expenditures. In 2007, they spent $375 million to produce $1.8 billion, or in other words were able to generate $4.80 in earnings for each dollar of capital spending. Now that's what you call management efficiency!

Bottom Line
Regardless of the final cost of acquiring Grant Prideco, the end-result for National Oilwell Varco is a worthwhile exercise. In this instance, it seems like 1 + 1 = 3.

By Will Ashworth

Will Ashworth lives and works in Toronto, Canada. He's worked in and around the financial services industry for much of his adult life. He loves investing and is passionate about helping others learn how to put their money to work.

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