Xtreme Drilling & Coil XDC.TO 1.61 [-0.10] announced solid Q4 results last week beating consensus and analyst estimates. After a long and painful 2012, the ship is finally turning around with 2013 setting up for a solid operational year with plenty of free cash flow.
Xtreme is a drilling & coil services company with one of the youngest fleets in the industry. It markets high-spec drilling rigs that perfectly fit today’s deep & complex wells. The company is mainly active in the hottest liquids plays in the US right now with a small footprint in Canada and Saudi Arabia.
I originally featured this company last February as an undervalued drilling company on the cusp of strong growth. However, the stock just got more undervalued, they had to raise money and the cusp of strong growth turned out to be a few months too early.
But the last quarterly results finally confirmed XDC has turned the corner.
To begin with, XDC’s $220+million expansion capital program from 2011-2012 is finally OVER. The company added 8 new XDR 500 drilling rigs, converted 3 older one to XDR 500 and built 5 XSR coil tubing units. For 2013, the company will be spending $15M in maintenance capex.
There’s a huge difference between a capex of $15M and $112M in 2012 and $115M in 2011.
XDC exited 2012 with $142M of debt on its $150M bank lines with a 3.6 debt to cash flow ratio, substantially lower than the peak of 5.7 registered in Q2-12. The company is targeting 2013 year end debt at $100M. This means debt to cash flow should drop below 3.0x, still high but at least stabilizing and heading in the right direction.
Operationally, 20 of its 21 XDR drilling rigs are currently at work including 3 of them in Canada. The remaining rigs are contracted to operators in the Bakken/Three Forks play in North Dakota and the DJ Basin/Niobrara play in Colorado. Xtreme has no drilling contracts up for renewal in 2013 – cash flow visibility is excellent for the year.
On the XSR front, this segment swung into a $2.6M profit from a loss of $0.7M. Out of 7 units, 4 were working at the end of the year – 2 in the Eagle Ford shale play and 2 in Saudi Arabia. XDC expects 2 more XSR rigs to start working in Q2 and Q3 later this year. The high margin Saudi Arabian rigs are up for renewal later this year. The company submitted a renewal bid with higher pricing and will try to add a third rig to the program.
The free cash flow visibility is great but it does not mean there isn’t more to do. XDC will be focused on squeezing more profits from its operations; taking profit margins above 30% would be great – Q4 was %29.2, Q2 was 18.5%. The best part about this is that the company believes it can do much better:
“The company anticipates that continued efforts to improve operations can result in margins that are consistently near the upper end of the industry range.” so says the latest XSR News Release.
Besides that, it all comes down to flawless execution. Bar a collapse in the price of oil, I believe the stock should strengthen in the second half of 2013 as the market starts looking toward 2014.
The stock right now is trading at 0.4x book value compared to the drillers group at 0.9x. The upside is obviously clear given Xtreme’s book value is estimated at $3.91 by Altacorp. Should the market price XDC using the same metric, the stock would be trading at ~$3.50. Call it blue sky potential as I just don’t expect to see $3 any-time soon. The lower the debt goes, the more value oriented investors move in attracted by lower perceived risk. This takes time which is why closing in on book value is beyond 2013 in my opinion.
Finally, I like the fact that XDC operates mainly in the US, there’s a lot of drilling going on in the Niobrara, Eagle Ford and Bakken unconventional shale plays in the US. The company has a substantial amount of 2013 cash flow contractually locked with major operators. The price of oil remains strong and there’s no spring break up or oil price differentials to worry about – just the price of WTI oil which may see its differentials shrink substantially once the southern leg of Keystone XL enters operations prior to the end of the year.
What do you think of Xtreme?