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Schlumberger, Wells Fargo crack global best ideas list

Lex Hall  |  08 Jan 2019Text size  Decrease  Increase  |  
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Oil field

International revenue at Schlumberger could jump 40pc in four years, says Morningstar

Oilfield services giant Schlumberger has joined integrated utility Entergy Corp and financial powerhouse Wells Fargo & Co in Morningstar’s global equity best ideas list. 

Schlumberger, which carries a five-star rating, is trading at a 41 per cent discount to its fair value estimate of US$62.

Morningstar last month cut Schlumberger’s fair value estimate by US$3, to US$62 from US$65, because of a slightly lower long-term oil and gas capital expenditure forecast, which is a key source of revenue.

However, Morningstar equity analyst Preston Caldwell is bullish on its prospects, and says the company will deliver strong returns on capital and gains in market share.

“We think Schlumberger's international revenue can grow 40 per cent cumulatively through 2022, owing to market share gains stemming primarily from the company's integrated business lines, such as Integrated Drilling Services and Schlumberger Production Management,” Caldwell says.

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Schlumberger has delivered strong returns on capital for decades via its ability to develop and sell differentiated products and services in the oilfield service industry, Caldwell says.
Often these differentiated products are new, or novel variations of older technologies, which particularly limits competition and ensures high margins and returns on capital for Schlumberger.

Wells Fargo puts account scandal behind it

Also entering the best ideas list is American bank Wells Fargo & Co. The company is America’s top deposit gatherer and carries a five-star rating and a wide moat - or sustainable competitive advantage.

It is trading at US$47.95 – a 32 per cent discount to its fair value estimate of US$67.
The US$67 fair value estimate is 13.5 times Morningstar’s 2019 earnings estimate and 2.1 times tangible book value as of September last year.

The upbeat assessment comes despite years of cultural, reputational and legal upheaval following a fake accounts scandal that erupted in 2016.

The bank was fined US$185 billion after it emerged that millions of fraudulent savings and checking accounts were created on behalf of Wells Fargo clients without their consent.

Morningstar is however confident the worst is over, and that Wells will have its asset cap, imposed by the Federal Reserve in 2017, lifted sometime this year.

“Wells is not a growth story but instead a story of declining expenses and improving sentiment,” Morningstar says.

The bank’s competitive edge stems from cost advantages and customer switching costs in its core banking operations, which provide the bulk of profits, and switching costs and intangible assets in wealth management.

Entergy winds down nuclear ops

The third entrant to the best ideas list is Entergy Corp, which, at US$84.80, is trading at a 11 per cent discount to Morningstar’s fair value estimate of US$96.

Founded in 1913, Entergy is an integrated utility with more than 25 gigawatts of power generation capacity. However, it is shrinking its merchant generation business and plans to retire its four remaining merchant nuclear units by 2022.

Its five regulated integrated utilities generate and distribute electricity to about 3 million customers in Arkansas, Louisiana, Mississippi, and Texas.

By 2023, almost all of Entergy's earnings will come from its five regulated utilities in jurisdictions with average or above-average regulatory frameworks, which allow utilities to consistently earn a spread above their costs of capital.

Entergy's utility rate base is expected to grow by more than 8 per cent annually during the next five years, largely because of strong industrial customer growth. This growth rate tops most peers and is driven by what could be the largest expansion of gas-fired generation by any US regulated utility, Morningstar analysts say.

“We believe the market is too concerned about Entergy's declining operating EPS as earnings from the nuclear plants are lost instead of focusing on the strong growth of its utilities and the attractive and expanding dividend.”

is senior editor for Morningstar Australia

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