NCSM - NCS Multistage Prepares For More International Activity In 2023

2023-04-10 01:21:13 ET

Summary

• NCS Multistage Holdings provides an array of oil & gas fracturing equipment and services in the U.S., Canada, and overseas.
• I'm cautiously optimistic about NCSM's growth prospects in 2023, assuming macroeconomic conditions don't deteriorate.
• My outlook is a Hold for NCSM.

A Quick Take On NCS Multistage

NCS Multistage Holdings ( NCSM ) provides oil & gas well site fracturing and related systems and services in the United States, Canada and overseas.

NCSM has grown revenue as the industry rebounds from the pandemic's demand drop.

My outlook on NCSM is a Hold.

NCS Overview

Houston, Texas-based NCS Multistage was founded in 2006 to provide engineered products for onshore hydraulic fracturing systems extracting oil & gas hydrocarbons from unconventional formations in the U.S. and elsewhere.

The firm is headed by Chief Executive Officer Ryan Hummer, who has been with the firm since 2014 and was previously a Director at Lazard and an Associate at Credit Suisse.

The company's primary solutions include the following:

• Fracturing systems

• Well construction

• Tracer Diagnostics

• Enhanced recovery

• Repeat precision

The firm acquires customers through its in-house direct sales, marketing and business development efforts and through referrals.

NCS Multistage's Market & Competition

According to a 2022 market research report by Verified Market Research, the global market for hydraulic fracturing (as a proxy for the fracturing equipment market) was estimated at $33.8 billion in 2021 and is forecast to reach $61.3 billion by 2030.

This represents a forecast CAGR of 6.6% from 2023 to 2030.

The main drivers for this expected growth are a shift in exploration activity toward 'developing unconventional assets including shale, tight gas, tight oil, and coal bed methane.'

However, public concerns about the environmental side effects of fracking include water usage, seismic activity and water contamination, to name a few.

The firm faces a variety of competitors in a fragmented industry.

NCS's Recent Financial Trends

• Total revenue by quarter has trended higher per the following chart:

• Gross profit margin by quarter has been trending lower in recent quarters:

• SG&A expenses as a percentage of total revenue by quarter have been moving lower in recent quarters, a positive sign of increasing efficiency:

• Operating income by quarter has been trending slightly higher in quarterly cycles:

• Earnings per share (Diluted) have varied according to the following chart:

(All data in the above charts is GAAP)

In the past 12 months, NCSM's stock price has dropped 52.4%, as the chart indicates below:

As to its Q4 2022 financial results, total revenue rose 11.4% year-over-year but gross profit margin dropped 4.4 percentage points due to inflationary pressures on parts and labor.

SG&A expenses as a percentage of total revenue have been trending lower and operating income has been working its way higher in successive four-quarter cycles.

For the balance sheet, the firm finished the quarter with cash and equivalents of $16.2 million and no debt.

Over the trailing twelve months, free cash used was $2.4 million, of which capital expenditures accounted for $1.0 million. The company paid a hefty $6.0 million in stock-based compensation in the last four quarters.

Valuation And Other Metrics For NCS

Below is a table of relevant capitalization and valuation figures for the company:

(Source - Seeking Alpha)

Future Prospects For NCS Multistage

In its last earnings call (Source - Seeking Alpha), covering Q4 2022's results, management highlighted the recovery of the industry and the company during 2022 due to continued higher demand for energy products.

Leadership believes the industry is 'still in the early stages of this multiyear recovery, with a moderating rate of industry activity growth in North America…'

The company is in the process of expanding its operational footprint in Canada and seeks to further invest in its product development for a broader array of customers domestically and internationally.

Looking ahead, management expects to generate free cash flow in 2023, with revenue at $182.5 million at the midpoint of the range and adjusted EBITDA at $22.5 million at the midpoint.

Regarding valuation, the market is valuing NCSM at an EV/Revenue multiple of 0.5x on robust growth.

The primary risk to the company's outlook is the volatility in hydrocarbon E&P activity, which may moderate if macroeconomic conditions slow in the period ahead.

Another risk is the continued impact of inflation on costs, which have been pressuring gross profit margins.

If inflationary pressures remain 'embedded', profitability growth will be hampered, assuming management cannot pass through price increases, which may be increasingly difficult with the larger E&P companies in the U.S.

Additionally, a moderating demand growth profile in N. America will likely lead to increased competition for existing business opportunities, driving down prices and dampening revenue growth.

This has occurred before in recent cycles in the hydraulic fracturing industry in the U.S. and Canada, as service providers seek to fully utilize their fleet capacity and lower prices to keep their crews working.

Also, technological advances in the industry have been significant in recent years, leading to 'haves and have-nots' as firms have differentiated themselves from their technology development.

For fracking service firms to obtain the best contracts and best prices, management has to invest in R&D efforts to keep abreast of the latest innovations in fracking technologies; offering customers increased efficiencies and lower costs is increasing the requirement for getting new business.

Furthermore, the hydraulic fracturing industry in the United States has changed in composition from numerous small and midsized firms to a number of larger giants and some midsized firms, with many smaller firms being squeezed out due to poor historical performance.

So, larger E&P firms that have come to dominate the major U.S. shale regions have outsize bargaining power with smaller service providers like NCSM.

These cost and utilization pressures can lead to worsening cash position, increased debt or equity issuance and deteriorating stock performance if oilfield service provider management teams are not disciplined in their approach.

A potential upside catalyst to the stock could include stronger domestic U.S. growth without a slowdown as consumers continue to spend their excess savings.

Management expects U.S. and Canada industry-level growth to be 'up to 10%' in 2023, while it believes international industry growth to 'at least 10%' with the potential for higher growth than North America in the near term.

However, international expansion may be more costly due to being further afield of the company's core operational footprint in North America.

While I'm cautiously optimistic for NCSM, that could change if economic conditions deteriorate.

My current outlook on NCSM is a Hold as we await further North America demand condition data.

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