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Oil-Services Stocks May Be the Next Big Trade

We all know that it hasn’t looked good for oil-service stocks for a while now. Reduced drilling, pricing pressure, and uncertainty have characterized the industry, and companies have gone through really hard times. But it is increasingly looking like these companies have hit rock bottom and are on the way to recovery.

After a 50% reduction in revenue in 2015 and a 60% reduction in revenue in the third quarter of 2016, Trican Well Service Ltd. (TSX:TCW) sees the light at the end of the tunnel and has released some positive expectations for the coming year.

A quick review of Trican’s (along with the whole oil-services group’s) results in the last few years clearly demonstrates how volatile this industry is. Revenue and earnings decreases are quite shocking, and investing in this industry is not for the weak of heart. Earnings per share at Trican decreased to a staggering loss of $5.52 per share in 2015, and there were questions as to whether the company was a going concern at that point. The message here is that when investing in these stocks, investors need a very watchful eye.

The volatility in earnings and losses should lead investors straight to the balance sheet to evaluate the financial strength of these companies and therefore the company’s ability to withstand further losses. At this point, Trican has $47 million in cash with a debt-to-capitalization ratio of 30%, which is quite reasonable.

And to be sure, if we look at the stock price performance in the last year, we can see that investors have been expecting an improvement and have therefore bid the stock price higher. Trican was trading at $1.62 per share a year ago and is now trading at $5.03 for a one-year return of over 200%.

Significantly lower cost structure

Fixed costs were reduced by $140 million per year since the downturn and now represent 25% of costs versus 50% before the downturn.

While 50% of the company’s equipment currently remains idle, management has stated that based on what they are seeing in the field, they expect to get some of this equipment working again this year. Management is expecting conventional capex to increase 50-60% in 2017 and sees pricing firming; they are raising prices for 2017 with a targeted increase of 10%.

As we are currently already seeing, because this is a very volatile sector, the returns that can be made on the way up are extremely high. And when these stocks are on the upswing, they can make a great part of a diversified portfolio and can provide some much-needed torque.

Trican is scheduled to report on February 23.

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Fool contributor Karen Thomas has no position in any stocks mentioned.

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