Sid Arora September 1, 2015 CVEO Long Thesis 1 “Started from the bottom, now we here... “ Recommendation: Long CVEO Price: $1.95 ($210M impl. market cap, 33% 15’ UFCF Yield, 0.3x TBV and 4.8x 15’ EBITDA of $137M) Price Target: $4.50 (8x 2016E Consensus EBITDA of $110M, 11% ’16 Unlev. FCF Yield) Upside/Downside: ~4:1 (+130% Upside/ 30% Downside) Recommended Portfolio Allocation: 2-3% Investment Thesis • Civeo Corporation (NYSE:CVEO), which spun-off from Oil States International (OIS) mid last year under pressure from JANA Partners, is an underfollowed workforce accommodation provider for oil and mining workers in remote areas in the Canadian oil sands, Australia and the US. Its facilities (lodges/mobile open camps) are located in close proximity to the lowest cost producers of oil and met coal. At its peak as the Accommodations Division of OIS, this business generated $500M in EBITDA and grew its topline every single year until 2013. • The stock has gotten pummeled over the past year (off 93% its 52 week high of $26.13) and appears to trade deceivingly similarly to an entity destined for bankruptcy, due to (i) the dramatic drop in commodity prices (both oil and coal) as well as CAD/AUS currency headwinds; (ii) the decision to pursue a redomicile transaction in Canada in favor of a REIT conversion which was looked down upon by the street, and more recently, (iii) overblown concerns around its level of liquidity (fueled by inaccurate assumptions put forward by a misinformed short seller). • CVEO’s management team has done an excellent job given the circumstances to proactively address these issues head on and weather the downturn: they have (i) successfully completed CVEO’s redomestication to take advantage of lower tax rates and more efficiently utilize future cash flow, (ii) paid off a third of company debt with cash on hand and amended the credit facility and leverage covenants which alleviates near-term liquidity related concerns, (iii) secured multiple new contracts (contributions from which will show up in 2016 financials), (iv) reduced headcount 38% since Sep 2014 (with 35% overhead reduction in Canada this year and over 20% redn. in Australia over the past couple years), (v) reduced working capital 14% YTD, and above all, (iv) communicated transparently with investors on the state of affairs, issuing conservative, achievable guidance (they blew past Q2 EBITDA guidance by 31% and Q1 results came in at the upper end of guidance) and there’s reason to believe they will hit their FY2015 numbers ($530-545M in Rev and $131-143M in EBITDA) given 90% of their 2H15 Lodge Rev (over 75% of the business) is already contracted. • Although I expect some near-term volatility, I believe CVEO can trade up to 130% above today’s levels to $4.50 / share over the next 12-18 months, as the debt paydown, headcount reductions, lower taxes from the redomestication and new contracts secured begin to reflect in the financials (as early as Q3) and the stock reappears on institutional investor radars. Fidelity’s small cap fund recently established an opportunistic 13% position (Aug 10) and despite some investor fatigue from having gotten burned last year, I expect several others to follow suit. CVEO’s performance is no doubt geared heavily to the commodity/currency markets but this exposure can be hedged to some extent via commodity ETFs/currency hedges. At a 33% 2015 Unlevered FCF Yield, CVEO still represents one of the more attractive value plays out there on the eventual recovery of the oil and gas/met coal markets. CVEO Capitalization ($M, except as noted) Share Price, as of 08/31/15 $1.95 FDSO 107.459 Equity Value $209.5 Debt Outstanding $497.6 Cash Outstanding $50.5 Noncontrolling Int $0.7 Enterprise Value $657.4 Consensus '15 FCF $70.0 Impl. FCF Yield 33% 6/30 LTM EBITDA $264.0 EV/LTM EBITDA 2.5x 2015 Mgmt EBITDA $137.0 EV/15' Mgmt EBITDA 4.8x
• Civeo Corporation (NYSE:CVEO), which spun-off from Oil States International (OIS) mid last year under pressure from JANA Partners, is an underfollowed workforce accommodation provider for oil and mining workers in remote areas in the Canadian oil sands, Australia and the US. Its facilities (lodges/mobile open camps) are located in close proximity to the lowest cost producers of oil and met coal. At its peak as the Accommodations Division of OIS, this business generated $500M in EBITDA and grew its topline every single year until 2013.
• The stock has gotten pummeled over the past year (off 93% its 52 week high of $26.13) and appears to trade deceivingly similarly to an entity destined for bankruptcy, due to (i) the dramatic drop in commodity prices (both oil and coal) as well as CAD/AUS currency headwinds; (ii) the decision to pursue a redomicile transaction in Canada in favor of a REIT conversion which was looked down upon by the street, and more recently, (iii) overblown concerns around its level of liquidity (fueled by inaccurate assumptions put forward by a misinformed short seller).
• CVEO’s management team has done an excellent job given the circumstances to proactively address these issues head on and weather the downturn: they have (i) successfully completed CVEO’s redomestication to take advantage of lower tax rates and more efficiently utilize future cash flow, (ii) paid off a third of company debt with cash on hand and amended the credit facility and leverage covenants which alleviates near-term liquidity related concerns, (iii) secured multiple new contracts (contributions from which will show up in 2016 financials), (iv) reduced headcount 38% since Sep 2014 (with 35% overhead reduction in Canada this year and over 20% redn. in Australia over the past couple years), (v) reduced working capital 14% YTD, and above all, (iv) communicated transparently with investors on the state of affairs, issuing conservative, achievable guidance (they blew past Q2 EBITDA guidance by 31% and Q1 results came in at the upper end of guidance) and there’s reason to believe they will hit their FY2015 numbers ($530-545M in Rev and $131-143M in EBITDA) given 90% of their 2H15 Lodge Rev (over 75% of the business) is already contracted.
• Although I expect some near-term volatility, I believe CVEO can trade up to 130% above today’s levels to $4.50 / share over the next 12-18 months, as the debt paydown, headcount reductions, lower taxes from the redomestication and new contracts secured begin to reflect in the financials (as early as Q3) and the stock reappears on institutional investor radars. Fidelity’s small cap fund recently established an opportunistic 13% position (Aug 10) and despite some investor fatigue from having gotten burned last year, I expect several others to follow suit. CVEO’s performance is no doubt geared heavily to the commodity/currency markets but this exposure can be hedged to some extent via commodity ETFs/currency hedges. At a 33% 2015 Unlevered FCF Yield, CVEO still represents one of the more attractive value plays out there on the eventual recovery of the oil and gas/met coal markets.
CVEO Capitalization($M, except as noted)Share Price, as of 08/31/15 $1.95 FDSO 107.459 Equity Value $209.5 Debt Outstanding $497.6 Cash Outstanding $50.5 Noncontrolling Int $0.7 Enterprise Value $657.4 Consensus '15 FCF $70.0 Impl. FCF Yield 33%6/30 LTM EBITDA $264.0 EV/LTM EBITDA 2.5x2015 Mgmt EBITDA $137.0 EV/15' Mgmt EBITDA 4.8x
Sid Arora September 1, 2015 CVEO Long Thesis
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Business Model
• As mentioned above, CVEO provides permanent (Lodges) and temporary (Mobile and Open Camps) workforce accommodations for oil and mining workers in remote areas of Canada, Australia and the US. The company also provides associated catering, facilities management, and logistics services, basically functioning as a full-service hotel for these workers (see pictures in Appendix).
• CVEO has over 14,400 rooms in Canada (68% and 66% of LTM Rev and EBITDA, 42% market share among 3rd party providers and 20% overall including operator owned), over 9,000 rooms in Australia (24% and 32% of LTM Rev and EBITDA,34% market share overall) and over 900 rooms in the US (8% and 4% of LTM Rev and EBITDA). On an LTM basis as of 2Q15, the business generated $777M in Revenue and $264M in EBITDA (34% margin) and for 2015, CVEO is well on track to generate between $530-545M in Revenue and $131-143M in EBITDA (~26% margin).
• CVEO’s facilities broadly fall into one of two categories: Villages/Lodges (76% of LTM Revenue) and Mobile/Open Camps (24% of LTM Revenue). Villages and lodges are typically permanent styled structures with multi-year take-or-pay contracts (typically 1-3 yrs) which help mitigate short-term commodity price exposure on new capital (majority of CVEO’s contracts have termination provisions but customers incur a material termination fee).
o CVEO’s lodge facilities are large high quality properties (they’re not dinky Howard Johnsons) where guests receive the amenity level of a full- service hotel plus three meals a day. And to get an order of magnitude of these facilities, CVEO’s Wapasu Creek Lodge is the second largest lodging property in N. America (behind a Vegas hotel, likely MGM). CVEO currently operates 7 lodges and 6 open camps in Canada, 9 villages (no open camps) in Australia and 4 open camps in the US.
o Mobile/open camps are smaller, more temporary facilities that can be quickly deployed on short-term contracts (typically 16-18 months), usually to support transient drilling, pipeline, seismic work.
• CVEO’s largest customers include large, investment grade blue chip energy and mining names like Exxon controlled Imperial Oil (10+% of its revenue), Fluor Canada and BM Alliance Coal Operations (an alliance between BHP Billiton and Mitsubishi) –well-capitalized industry behemoths who are making multi- billion dollar investments to develop their prospects which generally have estimated reserve lives of 10 – 30+ yrs; these investments are therefore dependent on those customers’ longer- term view of commodity demand and prices. Existing projects have costs closer to C$30/bbl to operate and cover overhead. I believe CVEO's clients, mostly big names, will actually benefit longer term as small, leveraged players go out of business.
• Demand for CVEO’s accommodations services generally originates from their customers’ projects, most significantly during the development or construction phase and, to a lesser extent, the operations and production phase. Demand for the company’s customers’ services is primarily driven by these customers’ capital spending programs related to the construction and development of oil sands projects, mines and other resource developments including associated resource delineation and infrastructure.
o Demand in Canada will be driven by increased investment in the Canadian oil sands. Acc. to a WSJ article, existing oil sands surface mines can make money at about $30 a barrel, and the most efficient underground oil sands projects can stay in the black at $35 a barrel. That is still above the break-even levels of many traditional oil wells, but below those of other unconventional sources of crude, including most production from the Bakken Shale formation in North Dakota. Given the number of variables influencing oil prices, it is difficult to time the recovery but per a recent WSJ article (published 8/31), it appears things will get better before they get worse as oil prices are already up 29% from their 8/24 low.
o Demand in Australia will be driven primarily by the outlook for met coal, whose pricing and growth in production is influenced by levels of global steel production. Growth in worldwide steel demand decreased from 3.8% in 2013 to 2% in 2014 on the back of a construction slowdown in China which is beginning to change course as monthly home prices begin to climb back up (see here, and here). Met coal prices have slumped to their lowest level in the last 3 yrs (see Appendix) to below $100/t but the Bowen basin and Australia in general represents one of the lowest cost coal producers in the world.
• CVEO has had a number of recent wins demonstrating success at winning contracts despite commodity price weakness and has a robust pipeline of opportunities it is pursuing. The company was recently awarded a contract from LNG Canada (led by Shell Canada) to support development of Sitka Lodge (436 rooms, 4Q15) which could expand to a ~2K room relationship (mgmt. alluded to this target on their Q2 call and latest Aug 25 investor presentation). Other recent contract extensions announced totaling US$120M+ include:
o Two contract awards for Moranbah Village totaling 260 room and $32 million over five years o C$22 million contract to support redevelopment of Mariana Lake into a 526-room open lodge. o C$31 million extension at Wapasu Creek for an average of 500 rooms through the end of 2017 o C$64 million of contract awards and extensions in Athabasca, comprised of accommodations, operations
and manufacturing mandates.
Liquidity
• Understanding liquidity is absolutely critical to this investment thesis as this has been the biggest concern. CVEO formally amended its credit facility on Jul 17, 2015, which in addition to permitting the redomiciling to Canada, provided additional lending capacity in Canada, reduced both the existing U.S. term loan and U.S. revolver and increased the maximum leverage ratio allowed under the credit facility.
• As of Jul 27, 2015, subsequent to the completion of the redomestication, CVEO’s total debt balance stood at roughly $500 million (after a $275M debt paydown), with cash on hand of $50.5 million. On a PF basis, this amounts to Total Debt/LTM EBITDA of 1.9x vs a Sep 2015 covenant of 3.5x which steps up to 4x in Q4 2015, 4.25x in Q1 2016 and to 4.5x for the remainder of 2016.
o Assuming the company hits its projected guidance of $20-25M in EBITDA for Sep 2015 and there are no further debt paydowns, the leverage ratio would stand at 2.6x as of Sep 30, 2015 (off ~$194M in LTM EBITDA). Further, assuming the co. hits its FY2015 EBITDA of $131-143M and there is no additional debt paydown (highly unlikely given expected 2H15 FCF generation), we’re looking at a 3.6x leverage ratio (vs 4x covenant) which is tight but still manageable.
o Over the next 12-18 months, I expect the situation to get better as debt paydowns continue and I take comfort in that fact that management made it explicitly clear on their Q2 call that this was a top priority before any other value enhancing initiatives were undertaken.
• CVEO is one of the few accommodations providers that service the entire value chain from site identification to long- term facility management and there are no real US listed comps. The company’s closest Canadian listed comps are Black Diamond (BDI) and Horizon North (HNL), both of which are much smaller businesses which have traded in the 7-9x EBITDA multiple range over the past 5 yrs
o BDl trades closer to the 9x multiple and is the more relevant comp as a pure play vs HNL which derives 85% of its business from camps (which I argue should be valued at a lower multiple given the shorter-term nature of the contract and lower margin (23%) vs CVEO’s lodges (traditionally 30+%)) and 15% comes from a matting business which is essentially a solid surface over unstable ground conditions to facilitate heavy equipment movement).
o CVEO has a greater share of the market vs both of these players and these competitors do not have the breadth or scale of their lodge operations and should command a premium.
• Assuming (i) consensus 2016 trough EBITDA of $110M (which could be meaningfully lower than what 2016 shapes up to be given the recent contract extensions) at an 8x multiple, and (ii) the business pays down an additional $50M in debt (off $60-75M FCF generated over the next 15 mo.), I arrive at a $4.5 target (no changes in cash/NCI).
• My downside price, $1.35, is derived from an illustrative liquidation value analysis (see Appendix) where I’ve taken significant (50+% haircuts for the majority of line items) to all assets, with liabilities being paid out at face value.
Risks
• CVEO is highly correlated to the strength of the oil/gas/met coal markets and as the past twelve months have shown, any bulls dismissing/underestimating commodities exposure have been proven dead wrong. This thesis is predicated on the debt paydown and management navigating the downturn successfully, not on growth opps.
• Inability of mgmt. to renew additional contracts / customers shift workers to customer operated rooms. • FX translation risk involving AUD and CAD which to an extent has been mitigated by redomiciling to Canada.
Sid Arora September 1, 2015 CVEO Long Thesis
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Disclaimer: The above text is the view of the author alone and is for informational and educational purposes only. It should not be construed as investment advice or a solicitation to buy or sell securities. The author may hold a position in the securities mentioned, and does not have to provide updates for changes to his view. The author does not warrant his work for correctness or accuracy. Perform your own due diligence before making investment decisions.
I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.
Sid Arora September 1, 2015 CVEO Long Thesis
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Appendices
Stock Price Performance (Since CVEO began trading in late May 2014)
United StatesUS Open Camp Rooms State 2010 2011 2012 2013 2014 2Q15West Permian TX 166 310 310 Three Rivers TX 106 274 274 274 Killdeer ND 126 235 235 Stanley House ND 199 199 157 157 Total Open Camp Rooms 305 765 976 976
Source:CVEO Investor Presentation (Aug 25, 2015)(1) Temporarily closed due to lower expected activity in the region.(2) Permanently closed in Q4 2014.(3) Permanently closed in Q2 2015.
