Description

Newpark Resources (NR)

Price: $6.20

Mkt. Cap: $540MM

Debt:  $99MM

Cash:  $22MM

Ent. Value: $617MM

EV / LTM / 2025 EBITDA: 7.7x / 3-4x

ND / LTM EBITDA:  1.0x

18-month price target:  $11-14+ (75-125% upside from current levels)

Situation Analysis

• Newpark Resources (“NR” or the “Company”) is a business undergoing a transformation away from a cyclical, capital intensive and low margin oil and gas drilling fluids business toward a capital light power infrastructure rental and services business that features strong fundamentals with double digit top line growth, 30%+ EBITDA margins, strong cash flow and ROIC attributes. 
• The Company is actively looking to divest of its oil and gas-oriented segment which will generate meaningful cash and provide enhanced capital flexibility to allow NR to grow its infrastructure rentals and services business which has a strong and emerging growth backdrop.
• Our conclusion is that NR stock is mispriced as it is underfollowed (currently no sell side coverage) and is still considered by the market as largely an oil and gas services company. 
• As the Company divests of its oil and gas assets, earnings and cash flow growth will accelerate which should lead to a rerating of the stock closer to infrastructure services and rental companies which trade at substantially higher multiples (9-12x).
• We think the stock has close to 100% upside over the next 18 months with potentially even greater upside should management effectively allocate capital to further expand its Industrial Solutions segment.  With only HSD% market share, we see a compelling runway for growth.

Business Overview

• Fluids Systems (73% LTM of revs, 31% of pre-corp. EBITDA) – in the process of divesting
  • Provides drilling, completion and stimulation fluids for oil and gas extraction globally.  Key drivers of the business include drilling activity and rig counts. 60% of the fluids business is international with the segment doing business in 20 countries.
  • In Q422, NR exited its U.S.-based mineral grinding business and Gulf of Mexico fluids operation with the intent to create a more agile and capital-light business model.  The proceeds from the wind-down of working capital associated with these businesses were used to clean up the balance sheet (elimination of convert) and to repurchase shares. 
  • In late June of 2023, NR retained Lazard and announced it is exploring alternatives for the remainder of its Fluids System division.  Such alternatives may include an outright sale of parts or the entire Fluids segment and / or a continued wind-down of working capital through customer offtake agreements. 
  • As of 6/30/23 there is approx. ~$200-220MM of net working capital (A/R net of A/P and inventory) associated with this segment.
  • Fluids Systems generated $34MM of LTM segment adj. EBITDA. Given the international nature of this segment, corporate expenses needed to run the segment are disproportionate.  As a result, management is actively reducing corporate costs associated with the Fluids segment.  Net of corporate expenses, we estimate this segment to generate $20-25MM of LTM EBITDA.
  • We think the divestiture of this business may entail the individual sale of some geographic regions (e.g. Europe) along with customer offtake agreements to deplete w/c on the balance sheet (e.g., U.S).
• Industrial Solutions (27% of LTM revs, 69% of pre-corp. EBITDA)
  • The Industrial Solutions segment provides temporary worksite access solutions, including sales (~1/3 of segment), rental and transport (~2/3) of recyclable composite matting systems into various markets including power transmission and distribution (T&D), renewable energy, construction and oil and (E&P and pipeline) markets.
  • NR is a vertically integrated manufacturer of DURA-BASE thermoplastic matting which is used as an alternative to traditional wood mats used for temporary site access.   Composite mats are lighter to transport and are recyclable with significantly longer useful life vs. wood mats which currently comprise about 90% of the market.
  • Approximately $3BN is spent annually by the utility sector (growing ~8% annually on a consistent basis) for site access, which is currently dominated by wood mats. NR estimates they are approaching~10% market share.  NR is one of three players of scale in composite matting including YAKMAT and Sunbelt Rentals (rentals only).  
  • The Company is allocating most capex (82% for 1H23) toward this segment with the intent to grow its rental fleet to support its presence in the power transmission sector.  As a result, end market exposure has shifted away from oil and gas toward utility and industrial end markets, which now comprise 75% of 1H23 segment revenues (utilities around ~50%), growing at a CAGR of 16% since 2016, 2x the market.
  • The former head of this division, Matthew Lanigan (former GE Capital) became CEO of NR 1.5 years ago and is spearheading the Company’s transformation which includes acceleration of growth of the Industrial Solutions rental and services segment.  

What is of Value?

• Strong Performance of Industrial Solutions Segment with Strong Fundamental Backdrop
  • On an LTM basis, Industrial Solutions revenue and EBITDA increased 20% and 43% respectively, driven by continued penetration of utility projects with a significant pipeline of scheduled rental projects and product sales opportunities for 2H23 and beyond.
  • Management believes that its investment in its composite mat fleet will drive sustained double-digit annualized revenue growth, driven by market adoption toward composites along with increased fiscal spending directed toward electrification and renewables.
  • Utilities are adopting composite matting given ecological and transportation benefits.  Composite mats are 3x lighter than wood.  Capitalizing such expenses (vs. wood which have a limited useful life) allows utilities to incorporate the expense when presenting base rate increase requests with public utility commissions.  
• Industrial Solutions Feature Compelling Growth, Margin and ROIC Characteristics
  • Industrial Solutions segment EBITDA margins have averaged 34% over the last six quarters driven by strong rentals and services revenue.  Management estimates that corporate expense required to run this segment is in the $15MM range annually.
  • An HDPE composite mat costs approximately $1,000 to produce.  The payback for is approximately 2.5 years with a useful life of around 12 years.
  • Once rental mats come off fleet at the end of their useful life, NR can refurbish, recycle and redeploy the mats into the market providing incremental margins leading to very strong returns on capital.   
  • In some cases, NR can repurchase fully depreciated mats back from the customer for 20 cents on the dollar by providing credits toward the purchase of new mats.  The next generation of mats (8000 series) are lighter and more durable so once old mats are recycled, NR can produce 1.15x mats for each unit repurchased from the customer.
• Continued Deleveraging of Balance Sheet from Oil and Gas Segment
  • Since 2019, NR has paid down over 40% of its debt (~$100MM) outstanding from exiting oil and gas assets and will continue to do so through 2H23 as working capital from this segment continues to decline.    
  • With over $200MM of net working capital remaining in Fluids, we estimate NR should be debt free (with ~$20MM of cash generated from w/c depletion in Q3 and likely the same in Q4) in relatively short order, providing greater balance sheet flexibility to allocate capital to accelerate Industrial Solutions growth and / or return cash to shareholders.

 Valuation Considerations

• On an LTM basis, NR trades at 7.7x with lower contribution from Fluids and related disproportionate corporate expenses with one turn of leverage.
• The Industrial Solutions Segment is on track to generate $80MM of EBITDA this year, pre corporate expense.  Given the strong growth backdrop, we think it is reasonable for EBITDA to grow at least LDD% annually, which gets us close to $100MM+ of run rate EBITDA by 2025.
• With corporate expenses of $15MM, we think it is reasonable that on a standalone basis, Industrial Solutions will generate at least $85MM of EBITDA after corporate expenses in 2025.
• As previously mentioned, capital requirements for this segment are relatively low.  Management estimates approximately $30MM annually, including $10MM for growth capex.
• Given the strong fundamentals for utility and power infrastructure spending over the next decade, we sustained growth in Industrial Solutions should lead to a multiple rerate.
• Power and Infrastructure contractors (EME, MTZ, PWR) trade at a median of 11x EV / 2024 EBITDA, while non-heavy capital equipment, infrastructure-oriented rental and services companies (WSC and MGRC) trade around 9x EV /2024 EBITDA.

Industrial Solutions Segment Performance and Projections

• Our analysis assumes that 1) NR fully exits (either through an outright sale or w/c wind down) of its oil and gas segment over the next 12 months and in the process generates between $180mm and $220MM of cash proceeds, 2) Industrial Solutions EBITDA grows at a LDD% CAGR (vs 43% LTM) over the next two years, 3) Corporate expense drops from a mid-20s run rate to mid-teens and 4) Industrial Solutions standalone generates approximately $40-50mm of cash flow annually.

Valuation Sensitivities

Risks

• Prolonged downturn in oil and gas drilling / market volatility pushes out divestiture plans.
• The market for site access mats can be price competitive and composite products are more expensive than wood given their useful life.  NR leverages its background in providing mission critical solutions in the oilfield and its rental program to differentiate itself from a service standpoint.
• Main input costs include plastics, so price spikes in underlying commodities may affect margins if NR cannot pass through such costs.  NR is increasing its ability to recycle used mats to reduce its exposure to HDPE.  Conversely, lower timber prices may make wood a preferable substitute.
• Change in utility capex spending patterns, although site access spending has grown annually in all economic environments.

Catalyst

• Continued elimination of oil and gas assets / w/c.
• Repositioning of Company as a power infrastructure services provider.
• Initiation of research coverage (in progress) will create greater investor awareness.