GEOSPACE TECHNOLOGIES CORP GEOS
December 07, 2015 - 9:16am EST by
carbone959
2015 2016
Price: 11.11 EPS 0 0
Shares Out. (in M): 13 P/E 0 0
Market Cap (in $M): 146 P/FCF 0 0
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 146 TEV/EBIT 0 0

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  • Seismic
  • High Short Interest
  • Commodity exposure
  • No Debt

Description

Geospace Technologies principally makes seismic instruments for oil&gas exploration. These are either sold or rented out. There is also a small non-seismic segment that they're using to diversify and leverage technologies in their portfolio. Demand for seismic equipment was among the first things to crater as part of the current industry downturn. The company has zero debt, experienced and responsible management, a long-term focus and durable competitive advantages.

They forecast being cash positive in FY2016 and they say there's more fat to cut if needed. I believe it's fair to assume they'll have ample time to set up a cash break even year in FY2017 as well, and in FY2018 it should be even easier. So GEOS will successfully emerge for the inevitable resumption of exploration initiatives that have been shelved. By the time they do, book value should roughly equal today's number minus the proper impairments; under such a valuation I get 0.67x adjusted book.


Business Description

GEOS designs and manufactures instruments and equipment used in the oil and gas industry to acquire seismic data since 1980. They also design non-seismic products when they can leverage their expertise, including thermal imaging products; sensors and tools for vibration monitoring, mine safety application and earthquake detection; cables for power and communication for the offshore oil and gas and offshore construction industries and water meter cables and other specialty industrial cable and connector products. They plan to invest lots of effort trying to grow the non-seismic business (because it offers diversification).

They have pioneered certain technologies in the seismic equipment industry and in some of their products they are strong market leaders. Customers typically standardize equipment across their company so once a customer relationship is established it isn’t easily taken away by competitors. Nevertheless, some products are more commoditized and GEOS isn't trying too hard to win these. Sales for the commoditized products has been flat or down since 2010 and is forecast to keep declining. The future for the company is in higher margin specialty products, a direction it which is has anyway been gradually shifting over a couple of decaces.

There are 3 groups of seismic products:

1) Traditional – Products for traditional (wired) data acquisition systems, includes geophones, geophone strings, hydrophones, connectors, wires, cables, retrieval and steering devices and various other products. There are products to be used on land and other at sea. Some of these products are more commoditized than others. Of all these may be rented or purchased but most are purchased.

2) Wireless – data acquisition systems which are wireless. The land-exploration system is GSX and the marine-based is OBX. The company has typically pushed rental of these systems to entice customers to purchase. Indeed, in the end GSX became mostly a purchased product (though the GSX business done right now is more rental). GSX purchase demand has declined very sharply recently due to  under-utilization of customer-owned equipment. OBX is still mostly rental. A client recently signed a $17mm 9-month OBX contract. This is considered a long contract and so there is potential that they'll keep and purchase that equipment. With shorter periods like 2-3 months, the equipment typically gets returned.

3) Reservoir (PRM) systems – a PRM is used to monitor a reservoir over many years as it evolves, it also exists in land and sea versions. Not many of these systems have been sold (by anyone, in general) and every single sale is big revenue. A sold system will include many custom features. In November 2012, GEOS received an order from Statoil for $172mm, with the revenue recognized in 2013 and 2014. GEOS has been the most successful player in this business and they expect to receive future orders – they just can't know when. Still, every competitor implements PRM differently and there is a possibility that in the future contractors perceive someone other than GEOS as the best. Either way, opportunities will come in lumps and some will translate into revenue for GEOS. Another important characteristic of PRM is that it's not very correlated to the market's ups and downs because it depends on decisions about monitoring a reservoir over decades. Here's a good article that does a quick tour of the PRM market:
http://www.oedigital.com/drilling/fluids/item/3017-changing-the-prm-value-proposition

No customer comprised 10% of the company’s revenue during FY2015 but it did when they recognized the Statoil contract in the prior 2 years. The following table shows the revenue breakdown:

  FY2015 FY2014 FY2013
Traditional seismic exploration product revenue 30,083 52,001 49,782
Wireless seismic exploration product revenue 25,070 78,636 87,316
Seismic reservoir product revenue 5,412 84,309 138,103
Non-seismic product revenue 23,758 21,420 24,578
Other 544 546 828
  $84,867 $236,912 $300,607

 


Valuation

In the current industry downturn there is much excess customer-owned seismic equipment available for immediate deployment. That, plus substantially reduced capital budgets means big sales of the wired and wireless equipment is likely to remain at depressed levels at least through FY2016. Profits are down due to reduced revenue, much of it in the higher-margin products like GSX, against a backdrop of certain fixed costs. GEOS is minimizing capex and has reduced workforce by a third since April 2014 but the one thing they want to preserve is R&D. Historically the company has kept R&D during tough times and re-emerged with a larger technological edge and they intend to do the same even in this cycle. They expect to be cash breakeven in FY2016 as there is more room to cut costs if needed. There's a $30mm line of credit also but it's not being used.

Book value is $289mm and the company has no long term debt. I calculate a more conservative book value by adjusting as follows:

$50mm – Inventories - in the latest call, when asked how much they can bring it down this year, they said: “30-50mm is way too high, we'd love to if there was a buyer”.  So, assuming that if they'd be happy with these kinds of amounts, it approximates the amount of excess, we conservatively deduct $50mm of value. It's notable also that this equipment lasts a long time and can be sold long into the future.

$10mm – Rental Equipment – GEOS has said rental could even go up if there's demand (the OBX contract they signed is something to take into account here). Also, a lot of inventories get converted into rental fleet. So that item is more solid. Still, I'm taking off $10mm.

$2mm – Short-term Investments – they're invested mostly in corporate bonds and I'm assuming it's worth $2mm less in case they sell some prior to maturity if/when the bond market goes through bad times.

$10mm – PP&E

Deducting these brings my conservative book value to $217mm. At a $146mm market cap, the stock trades at 0.67x. If they can remain cash positive, which they should be able to achieve, the rebound (or any large surprise orders before the rebound) will increase per-share book value off of that base.


Management

GEOS has 2 important core principles in how they manage the company: to reinvest profits in the business (new projects, more capacity, niche acquisitions) and to never have any long-term debt, which many competitors do have on their balance sheet. The people seem to be straight-shooters and don't pretend things are better than they are. Sometimes it's even the opposite. Two quotes to that effect:

“We expect this lowered demand to persist or worsen”

“second quarter revenues were sequentially 18% higher than reported in our first quarter; however, when compared to last year’s second quarter, our fiscal year 2015 second quarter revenues fell by $43.6 million or 64%”

Insiders are incentivized well enough. They have a decent size ownership and salaries are not high compared to similarly-sized companies.


Risks

- They generally market to seismic service contractors. There are about 50 operating worldwide and fewer than 20 who do marine. So concentration risk.
- They do business in Russia so there is geopolitical risk.
- Industry depression gets even depressier - though they're making efforts to go deeper into specialty equipment and non-seismic.
- They insist on keeping R&D at current levels and keeping their ability to serve any potential rebound even though this implied more fixed costs and this may lead to losses.

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.

Catalyst

- If they get a big contract, in PRM especially, the shares could jump. And short interest is still very high (which is absurd at these prices) so that adds potential juice.
- Otherwise it would probably just be an industry upturn, which will take a long time in my view.

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