I recently purchased some shares in Pulse Seismic. I have been loosely following Pulse for several years but never in any detail. It has been profiled on a couple of blogs some time ago.
I mentioned on twitter way back in August that I was looking at O&G service companies again.
Thankfully I didn’t have to look far. My thought process for investing in oil and gas companies in the current environment is:
- Must have the ability to cut expenses and run at or near break even (on a full year basis) at the current level of activity
- Must have a clean balance sheet so the company can use the downturn as an opportunity to expand the business
- The last thing I want is to have the company do a large dilutive share raise and multi-year lows in the share price
- Must have a capable management team with high integrity and spacial awareness to understand where the current opportunities are
The idea is to find a company that can ride out the downturn and be a larger business providing more value for all stakeholders during the eventual recovery. If I am able to find a company that meets all three of these, then I should theoretically be hoping for a long pronounced downturn as it will only expose more opportunities for the business to grow.
Brief description of Pulse
Pulse Seismic Inc. is a Canada-based seismic data library company. The Company is engaged in the acquisition, marketing and licensing of two-dimensional (2D) and three-dimensional (3D) seismic data for the energy sector in Western Canada. The Company has a seismic data library in Canada, which includes approximately 28,600 net square kilometers of 3D seismic and 447,000 net kilometers of 2D seismic. The Company’s library covers the Western Canada Sedimentary Basin (WCSB). The Company’s seismic data is used by oil and natural gas exploration and development companies to identify portions of geological formations that may to hold hydrocarbons. The Company’s seismic data is used in conjunction with well logging data, well core comparisons, geological mapping and surface outcrops to create a map of the Earth’s subsurface at various depths. It designs, markets and operates participation surveys and grants licenses to the seismic data acquired to parties that participate in the surveys.
Let’s take a closer look at Pulse to see if it ticks all the boxes.
- Ability to cut expenses to get to breakeven.
Given the nature of their product and the overall cost of the survey relative to the large expense of drilling for oil, they are able to maintain high margins regardless of activity. Their product is a very minor expense relative to the overall cost to drill. They are not interested in racing to the bottom in regards to pricing. That only damages their brand and will be very hard to claw back in the eventual upswing. Pulse has less than 20 employees and most costs for shooting the surveys are contracted out. As you can see below they have been able to maintain their margins with less business activity. The last chart shows that they have reduced opex to align with business activity. It’s reassuring that they are not sitting on their hands waiting for a recovery. They have also cut their dividend to preserve cash.
2. Clean balance sheet to leverage as opportunities arise.
The company has paid back all the debt it took on from a large acquisition in 2010 and is now in a net cash position. They have also purchased shares and used to pay a dividend.
Given the ability to mirror opex with business activity, this company could take on a decent amount of debt without concern.
3. High integrity management team with ability to see opportunities.
This part of the due diligence process is subjective. The qualitative part of an investment is always the trickiest. The board is completely independent, experienced in the industry, versed on capital markets, and together own over 30% of the company. They also give a skill matrix in their MIC.
Management compensation is reasonable for a company this size. Their competition is global, were as they are not. So they need to know the geography inside and out. As well, the sales team needs to know the ins and outs of every project in the territory.
They have a couple of levers in regards to business growth.
- They can make a straight up purchase from E&Ps directly. The value of the contract may not be material to the overall costs associated with drilling for oil. Having said that, during a downturn all options are explored to be monetized.
- They could buy surveys from a competitor. Though not likely, it is always possible.
- They could conduct another participation survey. They help by doing some pre-funding but most initial costs are paid by end users.
Summing it all up
I think Pulse ticks all three boxes. In order to invest in this company you have to get comfortable to their exposure to oil and gas.
- able to mirror expenses with activity quite easily
- high value add product to customers
- no debt
- given how unique the business is, growth opportunities may not present themselves
- they never really get expensive on a P/E or EV/EBITDA valuation
- It’s likely from the fact that their revenues are not recurring and they have exposure to an industry which is extremely cyclical
Let me know if you are finding any value out there.