Our view: We continue to view Pason as an attractive way to gain exposure to E&P drilling capex spend. The company's differentiated offering allows pricing to remain resilient during market volatility, while its investments beyond the drilling market should drive growth in the medium to longer term an $18 price target (prior $17). Pason is on the RBC Canadian Small Cap Conviction List.
Key points:
Differentiated market offering keeps pricing resilient. Pason's North America revenue per industry day of $975 (RBC $934) marked a record level, increasing 12% y/y on higher product adoption and improved pricing. We continue to expect Pason to benefit from increasing rig complexity, leading to more data collection, processing, transmission needs. The company's strong market share should allow it to modestly grow revenue/ industry day by about 5% annually. We see Pason's revenue growing 5% in FY24, ahead of the land driller average of 3%.
International segment to contribute further growth. In 2024, we forecast Pason's International revenue to grow 10% y/y, outpacing North America. The segment benefits from the general upcycle we are seeing in Latin America, the Middle East, and Australia. Cash gross margin increases 13% with 146bps of margin expansion.
Funding longer-term growth potential includes IWS investment. As expected, Pason funded the remaining two tranches of preferred shares in IWS, for $10MM total. Pason has invested $65MM in IWS and has a call option extending to October 2, 2025, to purchase the remaining shares. Pason believes IWS's market size could equal its drilling market in North America based on 3x higher revenue/day and one-third the number of operating frac spreads versus drilling rigs, which we view as substantial growth optionality.
Estimate changes. We increase our 2024 EBITDA estimate by 4% to $185MM, as noted in Exhibit 1. The changes are driven mostly by tweaked NAM revenue and margins. We expect Pason to generate $114MM pre- dividend FCF in 2024, mapping to a 10% yield and 29% margin of revenue (land driller average of 26% and 12%).
Favourable relative valuation. Pason currently trades at 2023E/24E EV/ EBITDA multiples of 5.6x and 5.3x. Pason historically has traded at a 3.4x premium (~1.2-1.6x current) to land drilling peers. We expect the premium to be largely restored through the cycle.
Maintaining Outperform rating with $18 price target ($17 prior). Our $18 price target is based o e of our revised 2024E EBITDA. We assign a premium multiple relative to our Canadian OFS coverage group based on stock-specific factors within our valuation framework.