Company’s oil and gas exposure fell to 38% in 2015
Juri Zguri | Ubika Research Analyst | June 14, 2016: Badger Daylighting Ltd.’s (TSE:BAD) stock price has suffered in the past couple of years due to its perceived overexposure to the oilpatch. The Company’s versatility, though, could signal more prosperous times ahead for its investors.
Badger Daylighting: Clear Leader of the Pack
Badger is a provider of non-destructive excavating services. The Company works for contractors and facility owners in the utility and petroleum industries. Badger operates in three divisions: rents and sell various lines of trench shielding used to shore and strengthen trenches dug for a range of purposes; provides sewer inspection services and limited sewer flush services, and provides general vacuum truck and auxiliary services to the oil and gas industry, focusing primarily on production tank cleaning and removal of waste oil and sand. Badger’ technology, Badge Hydrovac, is used for digging in congested grounds and challenging conditions. The Badger Hydrovac uses a pressurized water stream to liquefy the soil cover, which is then removed with a vacuum system and deposited into a storage tank. Badger manufactures its truck-mounted hydrovac units. The Company provides hydrovac services to various clients in Canada and the United States.
Recent Activity
Badger’s share price has not been performing well ever since the oil-price slump began in the second half of 2014. Indeed, at that time, the industry represented over 50% of Badger’s overall revenues. With depressed oil prices, investors accumulated concerns regarding equally depressed capital expenditure plans for the exploration and production sub-sector. This, in turn, would lead to top-line trouble for Badger and its stock.
Badger Daylighting’s stock price dropped following disappointing 4Q15 results, which outlined a 6.7% decline in revenue to $101 million. The Canadian geographic segment fell by ~28%, while the U.S. segment (based in $C) rose 11%, somewhat offsetting the Canadian weakness. To top off the bad news on March 17, 2016, Badger announced the retirement of its CEO, Mr. Tor Wilson, who led the Company since 2000.
As a result of the news, Badger’s stock has been trading near the ~$22/share mark, representing a 20% decline from its 2016 highs of ~$28/share on March 7, 2016.
Figure 1. Badger Daylighting’s Price & Volume Trend over Last Year
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Source: Yahoo Finance, Ubika Research
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Badger Daylighting is a leading provider of Hydrovac services in North America, and in that space, is ~7 times larger than its nearest competitor (source: BMO). The following factors should be taken into account when determining Badger’s competitive advantage and intricate business model:
• Badger has incorporated a vertically-integrated business model
Using a ~67,000 square feet facility, Badger builds its own hydrovac trucks. This lean business model enables one of its key competitive advantages: maintaining a strong grip on capital expenditure plans during down and up cycles in the broad economy. During times of economic weakness, Badger is able to curb production (an initiative currently taking place) and thus sit on the sidelines in terms of growth. However, when investment and demand for their services ramps back up, Badger is in full growth mode and can instantly begin production again.
An example of its versatile model is witnessed during the depths of the Great Recession in 2008-2009. During that time, its top line took a significant hit. However, by reducing its fleet growth and size, it was able to defensively pay for $12 million in debt, and continue its dividend payment. In addition, its operations seemed to have been stagnant with an EBITDA margin decrease of only 1%, a feat unheard of for most companies during such times.
This adaptable business model also has magnificent economics in place: manufacturing these trucks on its own, Badger incurs a cost of 15-20% below the market price of an equivalent OEM truck. As a result, investors should expect less volatile earnings, especially when coupled with its revenue segment diversification story.
• Badger continues to diversify from the volatile oil and gas sector
Since inception, the oil and gas industry contributed the majority of Badger’s revenue. While throughout the years leading to 2013 the number has been declining, it still represented 55% in 2013, and was still a majority of 51% in 2014. However, following the enormous world supply glut and lower WTI crude-oil prices, oil and gas only represented 38% of 2015 revenue. To be sure, this is an ongoing initiative for management as it attempts to diversify its revenue segments.
Figure 2. Oil and Gas Revenue Segmentation
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Source: Company Filings, Ubika Research
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Investors often think of Badger as an oil services company due to its operations of hydrovac technology as well as being based in the western Canadian oil and gas market. However, as the Company continues to prove, its technology can be extended into different sectors, such as utilities. As seen in Figure 3, Badger’s end-market revenue segmentation is already quite diverse. Moreover, 13% of the 38% from oil and gas is generated through pipeline work, which is known to be far less volatile and more recurring in nature.
Figure 3. Badger’s Revenue by End-Market
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Source: BMO Capital Markets Estimates, Company Filings, Ubika Research
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Risks
• With long-term CEO Tor Wilson stepping down, Badger is in search of a new CEO. The hydrovac excavating business is growing, and we believe Wilson provided much of the vision necessary to attain such growth. Investors should continue to monitor this closely.
• While Badger is 7x larger than the closest hydrovac competitor, competition is still a key risk for the Company. Specifically, if big-name conventional excavators were to incorporate a hydrovac segment into their business, Badger’s growth may begin to slow and it could lose market share.
Conclusion
Badger Daylighting is an unconventional play in the growing infrastructure story in North America. The stock is undervalued due to heavy selloff from negative investor sentiment regarding falling oil prices. However, with Badger’s versatile business model, which can adapt to changing economic times, as well as its diversification away from the volatile sector, we believe the stock is set for significant appreciation.
