National Oilwell Varco (NOV) reported better-than-expected second quarter 2009 earnings. Recurring earnings were $0.90 per share, above our expectations of $0.85 and market expectations of $0.87 per share. National Oilwell Varco beat estimates as its rig technology business held steady despite a downturn in the oil service business.

The earnings were negatively impacted by one-time charges of $0.37 per share. Accounting for these charges, net earnings were $0.53 per share.

Segmental discussion

Revenue in the Rig Technology segment slightly increased year-over-year to $1.92 billion. Of this, revenue out of backlog was $1.43 billion, up 7% year-over-year. The segment’s operating profit was up 6% year-over-year to $536 million, and operating margin stood at a record high of 28%.

Following the merger, Grant Prideco’s operations have been included in the company’s existing Petroleum Services and Supply segment. On an adjusted combined basis for the merger for both periods, revenue for this segment was $913 million, down nearly 19% year-over-year.

The negative comparison was due to significant declines in rig count, particularly in North America. Operating profit in the Petroleum Services and Supply segment was considerably down from the year-ago period to $96 million. Operating margin was 10.5% versus 23.8% in the year-ago quarter.

Distribution Service revenue was down more than 28% year-over-year to $305 million. Operating profit was $10.0 million, compared to $25 million in the year-earlier quarter. Operating margin was 3.3%, compared to 5.9% in the year-ago period.

Backlog

During the quarter, National Oilwell Varco added $616 million of orders to its capital equipment backlog, including a major drillship package order. The company also removed $108 million of discontinued orders on cancelled projects. Backlog for capital equipment orders for the company’s Rig Technology segment was $8.7 billion at June 30, 2009, compared to $9.6 billion at March 31, 2009.

Outlook

Looking forward, we believe that the likelihood of economic recovery in 2010 is strong, which will improve demand for National Oilwell Varco’s products and services. Consequently, we think that the company offers substantial upside potential from the current price levels.

We are maintaining our Buy recommendation on NOV shares. This reflects the company’s healthy backlog, solid balance sheet and strength in its international operations, particularly in the Middle East and Brazil.
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