RNGR - Ranger Energy Services: Resilience Coupled With Improved Financials

2023-07-10 22:39:22 ET

Summary

• Despite a downturn in drilling activity, Ranger Energy Services has leveraged strong demand for its products, resulting in growth in both earnings and cash flows.
• The company has significantly fortified its balance sheet by reducing debt and building up cash reserves, preparing it to endure market weakness.
• Ranger Energy Services' shares currently trade at a considerable discount compared to industry leaders and its own five-year average, making it a compelling consideration for investors.

You know how the old saying goes, "make hay while the sun shines" Well, it's all about seizing the day and making the most out of good times. Companies that grab opportunities when things are going well typically have the resilience to weather the storm when times get tough. But those who drop the ball during prosperous times? They often find themselves struggling when things go south.

Now, take Ranger Energy Services ( RNGR ) as an example. They played their cards right during the sunny days, and guess what? Now that the oilfield services industry is navigating choppy waters, Ranger Energy Services is not just holding its own—it's positioned to thrive.

Rig Count Numbers

Last year bore witness to a substantial growth phase for many oilfield service companies. As oil and gas producers deployed rigs to either maintain or boost production, drilling activity saw a marked increase. According to Baker Hughes (BKR)' data, the rig count climbed over 30% in 2022, escalating from approximately 590 rigs at the year's commencement to nearly 780 rigs by year-end. This year, however, presents a different picture, as I’ve discussed in my previous articles ( here and here ).

Rig count has been predominantly on the decline this year, with the drop-off becoming more prominent since April. Excluding three weeks, the last 15 weeks have seen a decrease in rig count week-over-week (WoW). As of the week ending July 7, the rig count stands at 680 rigs – a modest increase of six rigs from the previous week. However, the same period last year saw 752 rigs operational in the U.S., indicating a significant reduction in drilling activity year over year.

Data source: Baker Hughes Rig Count (link provided earlier)

This downward trend puts oilfield service providers, particularly those operating within the U.S., in a challenging position. Among these is Ranger Energy, a smaller entity with a market cap of $250 million. Ranger Energy offers a broad spectrum of well completion and production services such as high specification onshore well service rigs, wireline services, and processing solutions to U.S. oil and gas producers. These services are also indicative of the company's three key segments: High specification rigs, Wireline services, and Processing solutions & ancillary services. High specification rigs, constituting nearly half of Ranger Energy's revenues last year, are its most significant segment. This division is comprised of the company's fleet of 428 well service rigs, which facilitate well completion, workover, and maintenance services.

Fortifying Balance Sheet

Operating conditions for Ranger Services have become less favorable compared to the previous year. Despite this, Ranger Services maintained strong performance in 2023, significantly boosting its revenues, earnings, and margins. The first quarter saw a 27% YoY increase in revenues to $157.5 million, a 109% increase in adjusted EBITDA to $20.9 million, and a 500 basis point growth in adjusted EBITDA margin to 13%. The company swung from a GAAP net loss of $0.31 per share in the previous year to a profit of $0.25 per share, alongside generating $12 million in free cash flows.

This solid performance is a continuation of the previous year's trend when revenues more than doubled to $608.5 million. Although GAAP net income saw a slight increase from $0.63 to $0.65 per share, adjusted EBITDA rose significantly from $9.1 million to $79.5 million once one-time items were excluded. This period also witnessed the generation of $30.7 million in free cash flows.

In Q1-2023, along with last year, Ranger Services reported double-digit growth in adjusted earnings across all three segments. This achievement, paired with margin improvement and increased free cash flows, can be attributed to the substantial growth in rig count, particularly during the first quarter, and the positive effects of a 2021 acquisition. The margin increase suggests that Ranger Energy also profited from an improvement in prices.

Yet, in my view, one of the most remarkable aspects of Ranger Energy is how it has used high profits and robust free cash flows to strengthen its financial health. By reducing debt and building up cash reserves, the company has significantly fortified its balance sheet.

Data source: RNGR SEC Filings (link provided below)

Ranger Energy has made impressive strides in reducing its debt from $62.5 million at the end of 2021 to $15.6 million at the end of Q1-2023. Simultaneously, its cash reserves have seen a sharp incline. The company's cash reserves sat close to zero at the end of 2021, yet, by the end of Q1-2023, they had risen to $14.4 million, thanks in large part to the strong free cash flows.

Looking Ahead

Despite a downturn in drilling activity over the past few months, Ranger Energy Services has effectively leveraged the strong demand for its products and services, resulting in growth in both earnings and cash flows. I anticipate that Ranger Energy Services will maintain its strong performance and outpace its competitors in the future, and I attribute this forecast to five specific reasons.

Firstly , Ranger Energy Services primarily focuses on production services, unlike many oilfield service providers who concentrate on drilling and completion services. While both fall under the umbrella of oilfield services, the treatment from oil and gas producers can vary, particularly in a weakened market. In such conditions, producers often cut back on drilling activities, as is currently being witnessed. They achieve this by reducing their capital expenditures, which inevitably leads to a decrease in drilling and completion work. Despite these cuts, they continue to spend on operational expenses to maintain, repair, and enhance their existing wells. This is the segment where Ranger Energy has its stronghold and from where it generates a significant portion of its revenues. In a market downturn, as oil and gas producers scale back on rigs, they are likely to trim CapEx but not operational expenses. This implies that Ranger Energy could potentially maintain a steady demand for many of its products and services, even in challenging market conditions.

Secondly , Ranger Energy prides itself on the flexibility of its operations, having the capability to rapidly relocate assets in response to shifting market trends. For example, in the past quarter, the company experienced a decline in the pivotal Well Services segment in the Haynesville shale patch. However, by swiftly moving its assets to the Permian Basin, a leading US shale oil region where demand for its service rigs was robust, Ranger Energy effectively counterbalanced the impact of market weaknesses in one region. This adaptability enabled it to uphold its utilization rates and price levels, and by extension, its earnings and margins.

Thirdly , Ranger Energy's business model involves low capital expenditure (CapEx) requirements. Minimal funding is needed to maintain its fleet of service rigs, with a total CapEx planned for this year standing at merely $25-$35 million. This is a low figure for a company that generated over $70 million in operational cash flow on a trailing-twelve-month basis. Consequently, the company has been able to convert approximately 60% of its adjusted EBITDA into free cash flows, which can then be utilized to reduce debt levels.

Fourthly , Ranger Energy has significantly fortified its balance sheet, a trend expected to continue as it keeps generating free cash flows. The goal is to reduce net debt to zero, a target likely to be met within a few months. Its adjusted net debt has already dropped from nearly $80 million at the end of Q1-2022 to just $9.3 million at the end of Q1-2023. If the company manages another quarter of strong free cash flows, mirroring its performance in Q1-2023 when it reported $12 million of free cash flows, then it could hit this target in months. A robust balance sheet prepares the company well to endure market weaknesses, even if they persist. Companies with a solid financial foundation not only have a higher resilience during difficult times but can also leverage downturns as opportunities for potential acquisitions, thus boosting their earnings. This avenue remains open for Ranger Energy.

Fifthly , the reduction of debt may not only facilitate potential acquisitions but could also create opportunities for rewarding shareholders via dividends and buybacks. It's worth noting that the company's board pledged to return 25% of the annual cash flows to shareholders through a combination of buybacks and a 5% per share quarterly dividend. However, this was planned to commence only after the company achieved its debt reduction target. With that goal now in sight, possibly to be achieved within a few quarters, the initiation of dividends and buybacks is imminent.

Takeaway and Risks

In my assessment, Ranger Energy Services has demonstrated its ability to seize opportunities in favorable market conditions and is poised to outperform its peers should market weaknesses persist. The company's solid financial performance in the upcycle, paired with its fortified balance sheet, significantly enhances its resilience in the face of downturns. Debt reduction should positively influence the company’s valuation, possibly leading to a re-rating of the stock. Additionally, the upcoming buyback and dividend program could not only boost the company's valuation but also enhance shareholder returns. Therefore, in my opinion, Ranger Energy Services is a compelling consideration for investors.

At present, the company’s shares trade at just 6.09x forward earnings estimates, according to Seeking Alpha, a figure considerably lower than the sector median of 9.15x. This compares favorably to industry leaders like Schlumberger ( SLB ), Halliburton ( HAL ), and Baker Hughes ( BKR ), all of which are trading around 10x-20x forward earnings estimates. Despite Ranger Energy being a smaller player, I believe such a large price discount seems excessive. The company’s shares are also trading lower than its own five-year average of 16.2x forward earnings multiple. Based on these observations, I am inclined to rate this stock as a 'buy'.

However, potential investors should also be mindful of associated risks. Like all oilfield service providers, Ranger Energy is subject to the volatility of the oil market, and a downturn in oil prices could negatively impact the stock’s performance. Persistent weakness in the oil market could trigger a larger-than-expected downturn in the oilfield services sector. Although Ranger Energy is likely better equipped than its peers to manage such a situation, it could still face detrimental effects on its stock performance. A continued decline in rig count and exacerbating weakness in the oilfield services industry could result in pricing pressure, potentially impacting the company's earnings, margins, and cash flows. This could push its shares lower, a factor investors should take into account before investing.

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