Shotbydave
Drive NGS fields
I mentioned Pure Fuel Companies Group (NYSE:NGS) up to now, and you’ll learn right here the newest article printed on July 6, 2023. Over the previous yr, it has modified its technique to maximise using its rental fleet, strengthen its working revenue margin. Though it has minimize leased models and horsepower following decrease pure gasoline costs, its deal with shale fields centered on crude oil has paid dividends. I feel within the long-term, it’s going to have extra contracts for prime capability models, which can stabilize its money circulation within the medium to long run. Surveying his unused fleet, he means that many such belongings might be upgraded to sensible techniques.
Nevertheless, funding in new belongings led to money circulation outflows within the first quarter of 2024. Inflationary pressures in labor and lubricants might also maintain working margins beneath strain within the brief time period. Nonetheless, it is sensible a wholesome steadiness sheet ensures that its funds is not going to exit of steadiness even when power costs change negatively. The inventory is fairly priced relative to friends. I recommend buyers “maintain” the inventory.
Why am I leaving my score unchanged?
In my earlier article printed on July 6, 2023, I talked about how NGS maintains stability in its compressor models and capability regardless of difficult trade circumstances. I additionally mentioned the rising price of latest pure gasoline compression tools. I wrote:
Within the first quarter, it accelerated its building schedule and awarded $20 million to $25 million in contracts. Her companies are “offered out” for 2023. Nevertheless, new pure gasoline compressor tools is changing into dearer. The sharp drop in pure gasoline costs is unlikely to result in a pointy restoration anytime quickly, though it might present gradual enhancements.
Nearly a yr after the final article, NGS has shifted its operations to the oil-dominated shale fields and upgraded its fleet. This helped to enhance the utilization of the rental fleet. It additionally raised costs in chosen classes, which might average the inflationary impression. Nevertheless, within the first quarter of 2024, the variety of pure gasoline compressors within the leased fleet and pumping capability decreased. By inserting a number of new divisions, it depleted working capital, making free money circulation damaging. Given the pretty affordable relative valuation, I maintain my score at “maintain”.
The value of crude oil and its penalties
In its Q1 earnings report, NGS administration was upbeat on its outlook, citing primarily the comparatively steady value of crude oil. Over the previous yr, the value of oil has elevated by 10%. Given the present momentum, I count on power manufacturing to extend within the close to to medium time period. The soundness has supported demand for the corporate’s tools leases as a result of 75% of its energetic fracking fleet is in oil-dominated shale basins.
Key methods
One of many foremost NGS methods is to optimize the prevailing fleet in use. Rental fleet utilization elevated from 62% in FY2021 to 66.5% in FY2023. It remained steady at this degree within the first quarter of 2024. Subsequently, the corporate considers it useful to stabilize the utilization when it comes to sustaining a steady working margin. It’s also deliberate to monetize short-term belongings. As present belongings lower, this may improve the corporate’s working capital. The method is predicted to generate $12 million in money by fiscal yr 2024. As well as, to strengthen profitability, the corporate is elevating costs in sure classes, which can even soften the impression of inflation.
The corporate initiated the method of checking its unused fleet. An estimated 650 such amenities might be upgraded to sensible techniques, together with electrical drives or high-pressure gasoline raise installations. This may occasionally cut back working time within the coming quarters. It has elevated automation to enhance the interface and supply extra correct customer support.
As well as, the corporate will increase its rental fleet. Because the power surroundings improves with increased crude oil costs, it might place high-capacity models beneath long-term contracts. Nevertheless, it’s going to take a cautious strategy to capital expenditure on this regard. Contract phrases will enhance and NGS will proceed to pursue M&A alternatives to strengthen its progress trajectory.
Working margin stays excessive
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As of March 31, 2024, NGS had 1,245 leased models with greater than 444,220 horsepower. Which means that the variety of pure gasoline compressors within the leased fleet decreased in comparison with the quarter earlier than. Whole HHP, nevertheless, was comparatively steady because of the activation of latest massive capability models. Not solely did unit occupancy enhance within the first quarter, however so did gross margin and adjusted EBITDA.
My evaluations
Reflecting the restoration, NGS expects adjusted EBITDA progress within the vary of 34%-47% in fiscal 2024. Such sturdy progress can considerably enhance an organization’s monetary efficiency (and valuation), provided that a good portion of its income is recurring. As such, it’s going to have steady and rising income related to long-term contracts, which is prone to put it on the next pedestal than a few of its opponents.
Over the previous 12 quarters, NGS’s EBITDA has grown by a median of 32%. It’ll maintain an in depth eye on sustaining stability, though short-term inflationary price pressures will dampen its outlook. So I feel administration’s estimates are a bit extra optimistic than they need to be. I might fairly take into account EBITDA progress of 15%-25% over the following 4 quarters.
Issues and threat components
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U.S. pure gasoline manufacturing elevated final yr via February 2024. Nevertheless, the EIA expects pure gasoline manufacturing to fall 2% from Q1 to Q2 because of low pure gasoline costs. In line with the EIA, in 2025 the amount of manufacturing is deliberate to extend by 2%. I feel the pure gasoline market will stay risky within the close to time period, with a damaging bias, after considerable provide and low costs.
Whereas the general surroundings for drilling has been favorable, pure gasoline manufacturing has not seen vital progress, particularly because of the uncertainty surrounding LNG exports. Equally, a sudden drop in crude oil costs can have a extra extreme impression on its efficiency. Buyers ought to understand that the commodity market tends to fall shortly beneath damaging affect.
In 2022, inflation has negatively affected the US financial system. Whereas inflation has been beneath management because the rate of interest hike, I see the chance that inflation may hit once more in 2024. This might improve NGS’s price construction, together with labor prices, the price of elements, lubricants and different objects utilized in its operations. The corporate often passes on price will increase to customers via value will increase. Nevertheless, this additionally lowered its benefit in a aggressive market.
Evaluation of labor for the first quarter
NGS paperwork
In an earnings press launch issued on Might 15, the corporate reported that its gross sales have been up barely in Q1 2024 in comparison with This autumn 2023. Regardless ofa decrease, decrease unit rents, increased capability packages and improved costs supported a steady degree of income.
The corporate’s adjusted gross margin elevated 40 foundation factors (quarter-over-quarter) within the first quarter. As the corporate has deployed comparatively new fleets, restore and upkeep prices have fallen. Nevertheless, buyers ought to understand that extra labor and overhead prices will improve as the scale will increase. Because of this, the latest momentum in margin growth could not proceed, and its gross and EBITDA margins could come beneath strain within the close to time period.
Debt and money flows
Within the first quarter of 2024, regardless of increased revenues, NGS’s money circulation from operations (or CFO) fell sharply (by 69%) in comparison with a yr in the past. The working capital downside is primarily because of the improve in accounts receivable as the corporate launched a number of new divisions. The corporate is working to resolve these points and expects to make progress within the second or third quarter of 2024. Capital expenditure additionally fell. Thus, free money circulation (or FCF) remained damaging in Q1 2024, however improved over a yr in the past.
In 2024, the corporate estimates capital spending will stay at $40 million to $50 million, down 16% from fiscal 2023. The corporate’s liquidity (money and money equivalents plus accessible borrowings from the credit score facility) as of March 31, 2024 was ~$46 million. Its leverage (debt-to-equity ratio) is decrease than its friends (NOA, CCLP and AROC). Subsequently, a fall in capital funding with steady liquidity will maintain the steadiness sheet beneath just a little pressure within the close to time period.
Goal value and relative valuation
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NGS’s present EV/EBITDA ratio (8.6x) is increased than its five-year common (6.4x). So it appears to be overrated in comparison with the previous. If the inventory is buying and selling at its five-year common, that may end in a 40% drop. The share value has greater than doubled since my final publish on July 6, 2023, thus erasing any upside potential.
NGS’s a number of of ahead EV/EBITDA versus present EV/EBITDA is much less steep than its friends. As such, adjusted EBITDA is predicted to develop much less sharply than friends over the following 4 quarters. This normally leads to a decrease EV/EBITDA ratio. Its present EV/EBITDA ratio (8.6x) is decrease than its friends (NINE, OIS and PTEN). As such, the inventory is fairly priced relative to friends at this degree.
As I mentioned earlier within the article, I count on adjusted EBITDA progress of 15%-20% over the following 4 quarters. Factoring these values into the EV calculation and assuming the ahead EV/EBITDA a number of holds, the inventory may commerce between $19.2 and $22.1, implying slight draw back within the close to time period. Nevertheless, given my expectations for a restoration in pure gasoline costs, I additionally suppose buyers can count on progress within the medium time period.
Score of analysts
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Three sell-side analysts rated NGS a “purchase” (together with a “sturdy purchase”), whereas none rated it a “maintain” or “promote,” in line with knowledge offered by In search of Alpha. The consensus value goal is $31, implying a 42% upside from the present value.
What’s NGS?
In the hunt for an alpha
NGS is concentrated on rising the utilization of the rental fleet to enhance working margins. It lowered fleet leases within the first quarter from 1 / 4 in the past because it monetized short-term belongings to enhance working capital. With a greater power surroundings, it’s going to contract high-capacity models beneath long-term contracts. Given the recurring nature of revenues, long-term contracts will improve earnings stability and money flows within the coming quarters. As such, the inventory has considerably outperformed the VanEck Vectors Oil Companies ETF ( OIH ) over the previous yr.
Nevertheless, the continued decline in pure gasoline costs compelled NGS to restructure its operations, leading to elevated working capital necessities. As well as, there are issues about price construction inflation associated to labor prices, the price of elements, lubricants and different objects. The corporate has a low degree of debt. Given the affordable relative valuation, my expectations for working revenue margin progress and its impression on valuation, I feel buyers will need to “maintain” it at this degree.