Basic Energy Services (NYSE:BAS): Upgraded to Buy at Deutsche; Target raised to $18

Deutsche Bank is out with a major call on Basic Energy Services (NYSE:BAS) to Buy from Hold with a $18 target (prev. $6).

Upgrading oil leveraged small cap to BUY
Deutsche notes they continue to favor leverage to a recovery in marginal oil directed activity. With its strong market position in the oil weighted well-service/ workover market, BAS is well positioned to benefit from this trend. A pickup in US completion activity should benefit BAS' other services lines as well.

Pent up demand in completion & workover market
Historically, workover/ remedial activity has been roughly 70% oil directed and typically recovers before drilling activity. Despite the high returns associated these projects at current oil prices and recovery in the drilling rig count, activity has barely budged. Deutsche thinks this is a function of hard caps on 2009 CAPEX budgets and other producer priorities. As 2010 budgets kick in, they expect a powerful recovery in workover activity. An expected pickup in completions in early 2010 from drilled but not completed wells also bodes well and should benefit BAS’ drilling and completion services business.

With about 70% of its well service business coming from oil directed activity and its overall oil/ gas mix approximately 50/50, BAS is well positioned to benefit from the recovery in customer spending. Workover and well service activity (BAS’ primary business) typically recovers before (and is highly correlated to) drilling activity but has yet to do so in the current cycle. Firm thinks this is a function of hard caps on 2009 customer CAPEX budgets. With commodity prices (especially for oil) remaining strong, they expect the historical relationship to return as customers are able to access fresh capital in 2010

Raising estimates
Given current commodity prices and the pent up demand dynamic noted above, the firm expects the historical relationship between commodity prices/ drilling rig activity and workover activity to return to historical (highly correlated) norms. They are therefore significantly raising their 2010 and 2011 estimates to ($1.02) and $0.05 from ($1.53) and ($0.45), respectively.

Valuation and risks
With the cyclical recovery more clearly under way, Deutsche notes they are shifting their valuation methodology from trough to forward EBITDA. Specifically their target price is based on 6.0x 2011 EBITDA which is the average forward EBITDA multiple for BAS since it went public in 2006. The biggest risk to their thesis is deterioration in oil prices to which BAS has more leverage than other US leveraged companies. Renewed weakness in well service demand/ pricing in an additional risk.

Notablecalls: This looks like a major call from Deutsche. Not only is their $18 target the new Street high by a mile (prev. was $12), it also looks like their Buy rating is about the only one out there. I see several other tier-1 firms still on Sells/Underperforms.

Also, note that the closest listed peer to Basic (BAS) is Superior Well Services (SWSI). SWSI has been on tear lately while BAS has lagged. Make no mistake about it, BAS is a big mover once it gets going. Especially intraday.

I think Deutsche's call has the ability to wake up the monster in BAS. I would not be surprised to see the stock up 7-10% today. This is a small-cap energy services play, so I think general market action won't have much bearing on its performance.

So let's see if it can hit the $11.30-11.60 range today.