Here is the write-up that Michael Schaefer did on WRN. Just FYI, I did check with Michael prior to posting the report. I also had a brief but informative discussion with him regarding his write-ups and was informed that the company's he writes on do NOT pay for coverage, he must "believe" in them.
Salut,
Leigh McBain
Outstanding Investments
In the natural resource sector
Michael Schaefer
February 1, 1998
Westrend Natural Gas, Inc.
Investing in growth
Despite its name (which will soon change), Westrend Natural Gas (WRN.V) is not a natural gas company. Instead, it is an extremely interesting "early stage conglomerate" with a focus on providing a range of advanced technology services to the energy industry.
Admittedly, "early stage conglomerates" is a bit of an oxymoron, especially, considering that shares in Westrend currently sell for only Cdn $0.50 and the company has only 24,000,000 million shares outstanding. However, as you'll soon see, the opportunity in this company actually comes from its size. Or, to be more specific, the fact that it will not remain small for long.
A Man With A Mission
Mark Roberts, President and CEO of Westrend, comes from a family of Oklahoma oil men. Both his father and his grandfather were in the business, and he got an early start, getting his feet wet in the black stuff while still in high school.
After finishing college, Mark embarked on his first entrepreneurial entry into the business, forming an independent drilling company in Oklahoma. This quickly became one of the top three exploration drillers in the state, drilling five wells a month for five years with an average success ratio of hitting a pay zone 76% of the time. That's a lot of drilling. During this period, the stock of his company soared from 10 cents to over $5.00.
It was around this time that Mark began noticing that, while the oil wildcatters and explorationists were putting their necks on the line with each new well . and suffering greatly when they came up dry, the heads of the companies supplying the drillers were driving nice cars and eating real steady. Years later, these memories were the force behind Westrend's corporate vision: to become the leading supplier of advanced technology services to the energy industry.
You see, Mark Roberts is intent on becoming the Bill Gates of the oil services sector. While ambitious, it is not out of the question. The reason I say that is that, despite the fact that the energy industry is the richest business in the world - there is more money spent daily on energy than on anything else on the planet - the business is surprisingly "low tech." For reasons which escape me, the big oil companies have reinvested relatively little of their money in the researching and developing of new technologies.
This reliance on outdated technology becomes obvious when you consider that the vast majority of drilling is still done the "old fashioned" way, using rotary drills based on the same design created by Howard Hughes' father back in the 1920's. There is a huge gap between what there is, and what might be. To name just one example of this phenomenon, it has been only very recently that the industry saw the introduction of advanced technology horizontal drilling, and it is already having a major impact on the business. Ditto for the 3-D seismic. In short, the industry is at the onset of a whole new age, driven by the need to find new reserves and optimize those which are known to exist.
It is Mark Roberts' intention to position Westrend at the cutting edge of this paradigm shift to modern technology by using stock and cash to merge and acquire niche technology companies, and by doing so build a diversified high tech provider of services to the industry. A conglomerate, if you will. Just like a Microsoft in the oil services industry.
He is off to a great start.
The Mercedes of Oil Rigs
Unless you've worked in the oil business, you've probably never heard of Taylor Rigs. However, from the very beginning of the company in 1978 it had enjoyed a reputation as one of the industry's premier rig builders, and it was immensely profitable. So much so that, just three years after starting up, it's Oscar Taylor was able to sell his company to Nucor for a combination of $11 million in stock and cash.
But then the bottom dropped out of the oil market, and Nucor, which had taken advantage of the soft lending practices of the Texas S&L's and banks to rack up debts of $440 million dollars in an acquisition binge, went belly up. At the time of Nucor's demise, however, its Taylor Rigs business was debt-free, and putting better than $600,000 in net profits to the bottom line each month. But, as is often the case with these things, it went down the tubes along with the rest of the Nucor companies. When it went away, so did most of the stock options which Oscar Taylor had accepted for his company.
With the long sorry state of the oil business which followed the oil bust, Oscar Taylor licked his wounds and sat on the sidelines, until 1997 when the trend in the oil business started to turn. That was when he called Mark Roberts and suggested that it was time to start up Taylor Rigs again. Mark took a look, liked what he saw, and agreed to provide the start-up capital in exchange for a 72. 5 % interest in the business.
The business plan called for leveraging Taylor Rig's reputation in the market, while introducing a whole new generation of technologically advanced drilling rigs. The reputation part was easy, because the Taylor Rig's built in the company's earlier life are still highly sought after and command a premium of 25% more. The reason for the premium is simple. Unlike other drill rig manufacturers, Taylor builds its rigs using the highest quality parts from big name companies such as Cat, Detroit Diesel, even Mercedes. By doing so, the company assures:
™ Its rigs are of the highest quality.
™ The company does not have to manufacture any components, rather they
simply assemble their rigs in innovative combinations, integrating
the newest technology. That keeps capital costs way down, and
allows for a far higher profit margin than the company's
competitors.
™ Most importantly, from the standpoint of customer satisfaction,
buyers are able to quickly and easily replace a part, even in the
remotest corners of places like Indonesia.
By contrast, Taylor's competition largely build their rigs out of
proprietary components. As a result, if a component breaks while on
a drilling project in some remote corner of the globe - and the
nature of the drilling process means components break all the time
the driller has to contact the manufacturer and hope they have the
parts in stock and can get it to them within a week. though longer
delays are frequent. Alternatively, the drillers can stockpile just
about every part on the rig, but that is a big added expense and
hassle.
In any event, with Mark Roberts' help, and following the same
profitable manufacturing model which Oscar Taylor had already proven
to be a winner, Taylor Rigs was soon back in business and, in July of
1997, opened their doors and started taking orders. When they did,
what they found surprised even them.
A Desperate Market
As in some detail elsewhere in this report, there is a serious bottleneck in the oil services sector. In the case of oil rigs, the shortage is so severe that Superior Auctioning, the biggest auctioneer of used oil service equipment in the Southwest, ran an auction last year on a used 1981 rig which, after 20 minutes of frantic bidding, sold to a group of Russian drillers for $1.2 million. Yet, Taylor can build and sell a better rig to do the same work for $800,000. new! In a clear sign of the times, Superior Auctioning has now completely run out of rigs and can't find any with which to hold an auction. The situation is now so desperate that they recently called Taylor Rigs and asked them to allow the company to auction off future production slots!
The signs of a tight market are everywhere: the average day rate on a land-based drill rig has almost doubled, from $5,500 a day on average to over 10,500 a day in just the last nine months.
As you might imagine, oil executives around the world are finally realizing that all the rigs are gone. and these executives are becoming increasingly desperate. This is only compounded by the fact that the oil rig manufacturers have backlogs of a year and a half or more, and some have simply stopped accepting orders.
In short, if there was ever a time to be on the supply side in the oil rig business, this is it. And, thanks to their reputation and the innovative reengineering they have done to improve even further on the coveted Taylor Rigs design, orders are rapidly stacking up.
Smart Management
Everyone knows how fickle the energy business can be. Historically it has always been a cycle of feast and famine. In order to meet the kind of demand it is now encountering, it is clear that Taylor Rigs will have to expand its current facilities, which could cause problems further down the road as the supply of rigs begins to catch up with demand. To counter these threats, Taylor Rigs is following a number of very smart business strategies:
1) No Debt. When someone orders a rig, they give the company a non-refundable deposit of 50%, and a 50% letter of credit. Alternatively, the buyer has the right to come in and inspect their rig once it is built to 50%, and pay the next 25%, with the final payment due after 75% of the rig is built. In other words, at no time does the company go into debt to build its rigs, and it always maintains control. Mark Roberts has been in the business 21 years, and he knows how to stay in business.
2) A Focus on Overseas Markets. Westrend and its Taylor Rigs division focus their marketing activities on large companies working overseas. companies which typically order five or more rigs at a time.
The overseas market has two advantages over the U.S. First, the primary focus of most larger companies is now overseas, where there are still some decent prospects. Secondly, oil companies working in foreign countries typically are awarded their concessions by the local government. this is in contrast to the U.S., which is one of only a few countries which allows private ownership of energy resources. The governments in countries such as Venezuela, Mexico, China etc., now have a lot of experience in resource management, and know that an oil well has only a limited life before it is tapped out. In Venezuela, for example, the average "depletion curve" is about 25% annually. As a consequence of the threat that this depletion represents to foreign exchange earnings, these countries require that the oil companies working in their countries must drill "X" number of wells and generate "X" amount of new production each year in order to replace depleting reserves. If they do not meet these minimums, they lose their concessions. The long and short of it is that the spot price of oil matters far less to drillers operating in these countries than it does in the U.S. In the U.S., a lower price might cause a drill company to simply back off on exploratory drilling. In almost every country outside of the U.S., however, that is simply not an option. because if they did, they would lose their franchises. As a result, oil executives working in foreign countries around the world are constantly having to drill new wells, and service the ones they already have working. As the U.S. is the leading source, by a wide margin, for new and used rigs (remember, more wells have been drilled here than in any country by an order of magnitude), it is the U.S. to where they go on buying trips. But what they are finding is simply that there are no rigs available, used or new! Unless, of course, they can get in line for a Taylor Rigs. and a new Taylor Rigs. At between $460,000 and $750,000, these currently sell for less than most of the old beat-up ones. Couple this with the fact that Taylor has only recently returned to the business, and so its backlog is nowhere near as severe as its competitors, and you can see why the outlook for the Taylor Rigs component of Westrend is so promising. In a moment, we'll show you how the cash flow from Taylor Rigs gives us a fat cushion under today's share price, and some immediate short-term potential.
3) Specializing in Service Rigs. While Taylor Rigs builds both drilling rigs and service rigs, they focus on the latter. The difference between the two is that, where a drilling rig is typically on a target site for one to four weeks, a service rig is in use on a well for its entire life span, which can run to as long as 15 years. The reason is that every oil or gas well requires regular maintenance and servicing - often once a week - in order to continue producing. The upshot of this is that the demand for the Taylor Rigs service rigs should continue even if lower energy prices were to cause a cutback in exploration (the odds of which we would rate as "slim").
4) Diversification. As further insurance against the "feast or famine" nature of many energy related businesses, the company has recently begun diversifying into the extremely interesting "carrier" truck business. These are the heavy-duty truck chassises which Taylor builds to carry its oil rigs. but which can also be used as the base for everything from garbage trucks, to tanker trucks, to the utility trucks you see by the side of the road with the high lift baskets. They are a big business in the world, and Taylor has been able to parlay its reputation for quality into a contract with one of the largest water well drilling companies in the West to provide them with two carrier trucks. The client was so happy with the product that Taylor has just been invited to bid on a second, much larger, contract (up to 60 carriers), which could catapult the company into the carrier business. As with the rig business, Taylor follows its successful model of assembling parts from top quality manufacturers, so even a serious entry into the carrier truck business is still extremely inexpensive - about $500,000 in additional start up costs. However, with a sales price of $160,000 to $190,000 per carrier, it represents a very lucrative, high margin business. As importantly, by separating the carrier truck manufacturing business from the oil rig manufacturing, Taylor should be able to free up floor space and boost its oil rig production to 12 a month. enhancing profitability even more.
Impact on Share Price
Taylor Rigs, which is really only now gaining steam, is currently manufacturing four rigs a month, with an expansion to six within the next few months. Should the diversification into the carrier truck business proceed, freeing up much needed rig manufacturing facilities, a year from now the company should be producing twelve or more rigs per month.
From its Taylor Rigs division alone, Westrend should conservatively earn after-tax profits of close to Cdn $0.47 per share on sales of $28,000,000. And those figures do not take into account the potential expansion of either its carrier business or the associated increase in rig manufacturing. It also doesn't take into account the revenues which Westrend earns from its Alamo Logging Service business, a high-tech supplier of "wire line" services to deep well horizontal drillers, which we'll talk about in a moment.
Put another way, at Cdn $0.50 - where it is selling as I write - Westrend is selling for close to the projected 1998 net profit of just its Taylor Rig division, and ignores the extreme upside of this company.
The Upside
The important factor in understanding the upside opportunity in this company goes back to my earlier comments on the generally low tech nature of the energy industry. In that lie the seeds of Westrend's upside, because it is on the fast track to building a group of complementary high tech businesses to capture market share. It is for that reason that, instead of relying on an old design - no matter how good - the first thing which Mark Roberts and Oscar Taylor did when restarting Taylor Rigs was to do a redesign, so that their rigs now boast a number of advancements which none of the competition offers.
Pushing against the tech envelope was also why Westrend bought Alamo Logging Services, a "wire line" company which uses advanced technology to help producers analyze production and monitor performance at all stages during the life of a well, with a focus on those involving deep horizontal drilling. That's good, because while the last oil boom was driven by taxes, this one is all about profits - with horizontal drilling at the heart of it.
But here's the important point. Taylor Rigs and Alamo Logging Services are just the first two acquisitions in Mark Roberts' quest to build the Microsoft of the energy services business. His management approach is simple: Find great companies run by great people, and provide the financial support needed to develop innovative products and services. then step back and let proven management take the acquired companies to their full potential.
As I write, Mark Roberts is involved in negotiations with a number of top rung niche technology companies, and new acquisitions should be announced soon.
As an investor, a bet on Westrend has nothing to do with the kind of overnight 10-for-1 returns which can occur when a big field is discovered. Rather, it is a more conservative bet that Westrend can continue to successfully pursue its mission of becoming a dominant player in the high tech side of the energy services industry. If it succeeds, then a 10-for-1 is a distinct possibility, but it won't happen overnight. On the other hand, the company has two successful divisions currently operating, providing positive cash flow which should accelerate, perhaps dramatically, over the next year.
At today's prices, Westrend, which trades under the symbol WRN.V, represents a fairly safe double on your money, after which you can take a free ride on the possibility that Mark Roberts will translate his vision into reality. |
