Dril-Quip Inc. (DRQ) has reported second-quarter 2011 earnings of 55 cents per share, missing the Zacks Consensus Estimate of 58 cents and deteriorating 21.4% from the year-ago profit level of 70 cents. The underperformance was mainly due to the decrease in sales of offshore rig equipment.

The company registered total revenue of $137.0 million in the quarter, down 3.5% from the year-ago level of $142.0 million.

Operating income fell more than 22% to $30.4 million in the quarter from the year-earlier level of $39.3 million. The company also faced a considerable increase in costs. On an annualized basis, although selling, general and administrative (SG&A) expenses fell marginally to $16.0 million from the year-earlier level of $16.1 million, its engineering and product development costs rose 21%.

Backlog

As of June 30, 2011, the company had a backlog of $727 million, compared with $538 million at the end of the same period last year. Although orders remain strong, higher engineering expenses and testing of equipment prior to manufacture in a post-Macondo environment is affecting the company’s ability to turn backlog into revenues.

Capex

Capital expenditures in the quarter were $13.0 million, compared with $14.4 million in the year-earlier quarter.

Guidance

Dril-Quip expects third quarter earnings to range between 50 cents and 60 cents per share, essentially flat with the reported quarter.

Outlook

The key positive in the Dril-Quip story is its strong leverage to continued strength in the global deepwater drilling markets, especially in South America and the Asia-Pacific region.

Given the operator’s’ long-term outlook on the projects, deepwater drilling and other related services will remain relatively stable despite usual fluctuations in commodity prices.

However, we believe the Gulf of Mexico glitches will remain at least in the near term and Dril-Quip’s underlying business fundamentals may be affected as a major portion of its total revenue comes from this region. Start-up delays have affected revenue conversion of the company’s backlog, with the Gulf of Mexico moratorium and permitting delays restricting top-line results. Further, competition from Cameron International Corporation (CAM) is also a concern.

Our long-term Neutral rating for Dril-Quip shares remain unchanged at this stage. The company holds a Zacks #3 Rank (short-term Hold rating).


 
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