Dawson Geophysical 3rd Quarter 2007 Update
The following post on Dawson Geophysical (NASD: DWSN) was originally posted August 27, 2007 at odysseyroad.com.
I need to be better about circling back and updating my valuations on companies after earnings. Dawson comes first because it seems like every quarter they re-write what’s possible. First the numbers as compared to their fiscal second quarter numbers.
| (in millions) | 2Q 2007 | 3Q 2007 |
|---|---|---|
| Revenues | $59.9 | $68.6 |
| Cost of Goods Sold | $45.6 | $49.8 |
| Operating Profit/Gross Inc. | $14.3 | $18.8 |
| Other Expenses | $5.5 | $5.8 |
| Taxes | $3.4 | $5.5 |
| Net Earnings | $5.4 | $7.6 |
| Depreciation & Amortization | $4.2 | $4.7 |
| Capital Expenditures | $10.9 | $31.3 |
| Growth Capex | $5.4 | $25.3 |
| Owner Earnings | $4.0 | $6.2 |
| Shareholder Equity | $131.2 | $139.2 |
| Shares Outstanding | 7.7 | 7.7 |
| Market Capitalization | $413.0 | $517.2 |
| Owner Earnings Per Share | $0.53 | $0.81 |
| Gross Profit Margin | 23.9% | 27.4% |
| Net Profit Margin | 9.0% | 11.0% |
| Return on Equity | 18.1% | 25.4% |
The owner earnings adjustment assumed $24 million in maintenance capital expenditures in a year or $6 million in this quarter. I think this table is illustrative of the growth occurring at Dawson as they add crews and expand channel count in their existing crews.As part of their expansion, Dawson announced that their capital expenditure budget will increase by $16.9 million to $55 million. The company also indicated that they will be deploying their 15th crew this fall. The company currently owns in excess of 102,000 recording channels and 113 vibrator energy source units.This is a big quarter, but it is time to annualize it so that existing crews are included going forward. I will account for the additional crew in my DCF growth numbers.
Estimated Full Year Earnings
My assumptions will be similar to my initial discussion of Dawson. I’ve only increased the maintenance capital expenditures to $24 million per year.
| (in millions) | Proforma |
|---|---|
| Revenues | $274.5 |
| Cost of Goods Sold | $208.7 |
| Operating Profit/Gross Inc. | $65.9 |
| Other Expenses | $25.2 |
| Taxes | $15.9 |
| Net Earnings | $24.8 |
| Depreciation & Amortization | $19.6 |
| Capital Expenditures | $59.0 |
| Growth Capex | $35.0 |
| Owner Earnings | $20.4 |
| Shareholder Equity | $131.2 |
| Shares Outstanding | 7.7 |
| Market Capitalization | $413.0 |
| Owner Earnings Per Share | $2.65 |
| Gross Profit Margin | 24.0% |
| Net Profit Margin | 9.0% |
| Return on Equity | 20.8% |
A couple of other things I want to point out in this estimate is that I have bumped up depreciation and amortization from $17.6 to $19.6 million based on the increased capital budget. This may prove to be very conservative. I have also kept the gross margins at 24% despite 27.4% margins in their most recent quarter.
Valuation
Year over year growth in earnings was 65% for the quarter and 69% for the nine months ending in the most recent quarter. This includes new crews, more favorable contract terms, and increased channel count. Previously I had estimated that a new crew would contribute to 9% revenue growth. I’m sticking with this and only estimating 15% growth per year. We already have evidence that the 15th crew is on its way. Demand continues to be very strong with all crews booked through the end of the 2007 calendar year and several crews booked well into 2008. Visibility is strong over the next six months, and I would expect only upside surprises.
In my valuation scenarios, I have assumed a 10% discount rate and 15% growth for the first year in all cases, with a range of growth rates for years 2-5. I then assume a reversion based on a 5-year PEG. As growth rates decline, so do the reversion values. Of course the inverse is true as well.
| Year 2-5 Growth | Intrinsic Value |
|---|---|
| 6% | $32.63 |
| 9% | $46.67 |
| 12% | $63.48 |
| 15% | $83.38 |
| 18% | $106.73 |
In the past, the seismic data business has been very cyclical. It currently shows no signs of slowing down based on Dawson’s bookings. I think it is entirely possible that earnings could be great for the next couple of years, followed by some contraction or leveling off in demand. A way to plot the valuation of this effect is to assume something like 30% growth for next year followed by 9% the following. The intrinsic value based on this scenario would be about $53 per share. Quite a bit below the almost $70 per share that it trades at today.
Trading Ranges
Annualizing Dawson’s earnings numbers results in annual earnings of $3.92 per share. It looks like it has traded between 14x and 25x earnings. This results in a trading range of $54.88 to $98 on a foreward looking basis. Based on this trading range and a 25% discount to a likely intrinsic value of $83 per share, a good place to add shares would be below $62 per share.
Disclosure
I initially bought shares of Dawson in April of 2006. It has become my largest holding despite selling two small blocks of my initial position since then. I will likely hold until I see some weakness in demand, and will likely not add any shares unless the price drops below $55. I believe Dawson to be an extremely well run company and have no complaints about management since my initial purchase of shares except that they tend to keep increasing their capital expenditures. I really can’t fault them considering the almost 70% earnings growth year over year.
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