China Oilfield Technology: IPO Summary and Valuation

China Oilfield Technology (COT) is an IPO in process.

Business

COT provides customised technical solutions for Its customers, incorporating its proprietary technology and techniques in tertiary oil recovery to enhance the extraction of oil. COT is principally engaged in the research, development, manufacture and sales of customised integrated equipment and products, which are used during chemical flooding and during treatment of resultant residual liquids. In addition, COT provides energy saving and other equipment. Its customers are mainly located in the PRC.

COT’s production and research facilities are located in the Hi-Tech Development Zone, Daqing City, Heilongjiang Province, PRC. COT also has research and development facilities in Beijing.

COT’s products can be categorised under the following segments:-

I. Enhanced Oil Recovery
a) Polymer injection equipment
b) ASP injection equipment
II. Environmental Protection
a) ASP residual liquid treatment system
b) Mobile underground water treatment equipment
III. Energy Saving and Others
a) Integrated electrical control station
b) Energy saving equipment for oil pumping units
c) Customised pumps and parts

COT’s direct materials comprise mainly steel plates, steel pipes, pumps, valves, electrical components, meters and spare parts. Some of these components are manufactured in-house, while others are outsourced to third party manufacturers who will produce these components according to COT’s specifications. The various components are fabricated in our Daqing production facility and assembled in accordance with COT’s blueprints and later delivered to the site where they are to be installed. Installation is performed by independent contractors hired by COT's customers and supported on-site during installation by COT’s customer support staff.

Most of COT’s products are sold to customers in the upstream oil industry. COT’s major customers comprise mainly operating units of Daqing Oilfield Co., Ltd., a wholly-owned subsidiary of PetroChina. COT’s production facilities are located in Daqing while our research and development activities are conducted primarily in Beijing.

The revenue breakdown above shows that COT’s business overwhelmingly comes from oil recovery services.

Competition

China Oilfield operates in a competitive environment where players in its industry generally compete by providing integrated tertiary oil recovery equipment and technical services to adequately address the needs of PRC’s oil extraction companies. The barrier to entry is relatively high due to high research and development cost, extensive oilfield experience and technological know-how required for the business. As such, there are only a limited number of companies providing integrated tertiary oil recovery equipment and technical services. China Oilfield’s main competitors are:-
(i) for Polymer Injection Equipment, Daqing Long Di Petrochemical Technology Co., Ltd; and
(ii) for ASP Injection Equipment, Daqing City Pu Luo Petroleum Technology Co., Ltd
.
Industry

Increasing demand for tertiary oil recovery technology and equipment in the PRC
• The PRC is one of the largest oil producing countries in the world, but is a net importer of oil because of continued growth in consumption as a result of strong economic growth
• Prolonged use of water injection as a means of secondary oil recovery technique has caused a slowdown in extraction efficiency in some of the major PRC oilfields

Favourable development trend for tertiary oil recovery technology
• Daqing Oilfield Co., Ltd. plans to extend the use of tertiary oil recovery technique in more than 80% of its oil extraction sites in Daqing oilfield in the next 15 to 20 years
• By the end of 2006, tertiary oil recovery in Daqing oilfield had reached an output of more than 10 million tonnes per year, accounting for approximately a quarter of the total crude oil output in Daqing oilfield
• Other PRC oilfields, such as Shengli, Changqing and Xinjiang, have gradually expanded the scale of their tertiary oil recovery processes as their oilfields approach maturity
• Leveraging on Daqing oilfield’s established record in tertiary oil recovery, COT believes it can further enhance its credibility and reputation in the industry to attract potential domestic and overseas customers

Notes

China Oilfield has a long accounts receivable period of 225 days, but this is matched by an accounts payable of about 200 days.

Financials

A simple extrapolation of FP2007’s performance to FY2007 gives an EPS of RMB 22.62 cents (=2.89/2.08 * 16.28), based on a 15% revenue growth rate and a 39% increase in earnings. It appears that China Oilfield is going through the economies of scale stage where operating leverage increases and profitability per marginal revenue dollar increases.

At 31 May 2007 China Oilfield has net assets of 261044 on 396571 of total assets for a debt/assets ratio of 34.17%.

Rough Valuation

The projected EPS of FY2007 pre-IPO is RMB 22.62 cents = 4.5 sg cents. At the IPO price of $0.60 this gives the pricing a forward pre-IPO P/E of 13.3.

The NAV per share pre-IPO at 31 May 2007 is $0.43 RMB. The $3 RMB offering price is a P/B of 7x. Post offering this translates into a P/B valuation of 300/91 = 3.3.

Post IPO the market cap of the company is RMB$3 * 728595000 = RMB $2185785000. This gives a projected forward P/E of $2185785000/$135935596 = 16.08.

This is not necessarily a cheap valuation, but that should be weighed against the strong growth prospects of the tertiary oil extraction industry in China, and COT's competitive positioning in this industry.