Summary
- The commodity price ramp up offers a massive tailwind for mineral drilling services.
- Geodrill offers the best operating metrics among mineral drilling service firms.
- The company boasts the lowest industry valuation based on numerous metrics.
- The stock has potential upside north of 100% assuming steady state earnings and EBITDA.
- Expansion into new geographies and metals drilling will smooth the revenue cycle and de-risk the company.
Photo by Morsa Images/E+ via Getty Images
Geodrill Ltd. (
TSX.GEO,
OTCMKTS: GDLLF,
Forum) is a mineral drilling services company offering exploratory drilling, blast drilling, and water services to mining companies in Africa and recently South America. CEO, Dave Harper built the company from a single drilling rig to a company that recently announced over $30 million of revenue and .13 EPS in the most recent seasonally weak quarter, while still sporting a share price around $2.
It is worth noting that the recently announced quarter does have some investment gains and currency losses, making a more normalized EPS number of .11/share. Still, given current pricing in both gold and base metals, along with strategic growth initiatives from the company, recent earnings should serve as a base to grow from rather than a peak. The company continues to expand capacity while sporting industry-leading operating metrics. At the same time, Geodrill trades at a significant discount to competitors.
I love a good entrepreneurial story and Geodrill fits the bill. The company was founded by the current CEO with a single rig and a mission to provide better drilling services in West Africa. Historically, West Africa was an afterthought for drillers who would send second-rate equipment to the area and eek out what they could. Geodrill saw an opportunity to provide something better, offering modern first-rate drilling equipment and premium service, while tenaciously monitoring their own operating metrics. That single rig has now grown to 68 rigs, operating near-maximum capacity with international expansion plans underway.
They are a relatively small company compared to industry leaders like major drilling with revenues of $80 million in 2020 versus over $400 million for major drilling. Despite their small size, Geodrill is simply a better-run company, offering superior operating metrics to virtually every other player in the industry while sporting a valuation that is absurdly cheap and a fraction of competing companies. At the same time, the industry as a whole has strong tailwinds, suggesting further upside to current operating numbers. I'm not going to provide specific price targets but an upside in excess of 100% is not unreasonable.
Operating metrics
Let's first do a short walk through with charts of what some of those operating metrics look like relative to competitors.
Return on invested capital
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Return on assets
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Gross margin
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Operating Margin
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Very consistently and across the board, Geodrill has maintained some of the best operating metrics in the industry. In most cases, they have had the best operating metrics.
Despite their best in business operating metrics, the company trades at a significant discount to peers.
In some ways, it's not surprising that Geodrill trades at a discount. It is the smallest of the companies highlighted, which makes one wonder how they manage to outperform these larger competitors. I think the simple answer is that entrepreneurial spirit I referenced and a common sense approach to operations.
Here's an example:
Drillers provide the rigs as well as the crew, but functionally, renting a crew and rigs is not like renting an auger at Home Depot. Drilling companies aren't paid a flat rental fee. They are paid based on how many feet they drill. That means an idle crew costs money and doesn't provide any revenue. This is a particular problem in West Africa where the company primarily operates because the logistics of buying consumables and getting them to a drill site can leave crews sitting idle. When drills aren't running, the company doesn't make money. To address this, Geodrill built their own workshop in West Africa, where they manufacture their own consumables like drill rods. That has dramatically reduced downtime and kept the drills running. As the company describes it "Keep them turning, keep them earning" is how they provide industry-leading margins. It's also how they managed to stay consistently profitable when the industry hit a cyclical downturn after the last commodity boom.
Expansion plans
Officially, the company is currently operating at 75% capacity although it is functionally closer to 100%, given there are always rigs under maintenance and repair. That offers growth opportunities and the company is pursuing those on multiple fronts. They took a 6 million dollar loan after quarter's end to add additional drilling equipment to take advantage of those opportunities.
The company, of course, has weaknesses as well as opportunities. One thing I like is they are pursuing revenue opportunities in a way that also helps mitigate the company's weaknesses. In effect, they are killing two birds with one stone.
First, it's impossible to not recognize that operating in West Africa entails geopolitical risk. Terrorist attacks in the fourth quarter of 2019 hurt the company's earnings. As of a year ago, all of their operations were in West Africa, concentrating that political risk. In addition, the company's revenue is currently overwhelmingly tied to gold mining and exploration. That makes sense, of course, given their operations are in West Africa. So, the company has historically had risks tied to operating in a single area and being heavily tied to a single commodity. What are they doing as part of their expansion plans? They are diversifying into different regions that mine different commodities.
Currently, the company has historic operations in Ghana, Burkina Faso, Mali, Ivory Coast, and Zambia. Expansion is targeted for Peru, Egypt, and Brazil with either revenue already started, contracts signed, or expansion planned.
A view of the company's current and planned geographic expansion.
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Peru
The company began operations in Peru in the fourth quarter of 2020 sending 3 drilling rigs. Currently, 1 of those rigs is operational, and the company expects to have the other 2 running this year. Peru provides both commodity diversification and geographic diversification. Peru is primarily a location for mining of base metals, copper, in particular. The company smartly entered Peru partnering with an existing customer who already had operations there. They get a toehold in South America, with guaranteed revenue and additional diversification into copper.
Egypt
The company announced in their latest quarterly filing that they have signed a contract for drilling services in Egypt and sent 3 rigs there. This moves them into North Africa spreading out their operations within the continent.
Brazil
The company recently formed a legal entity in Brazil to pursue mining opportunities there. They do not currently have a contract in Brazil, but this expansion would offer diversification into other base metals like iron ore.
Service diversification
The company recently added blast drilling to their suite of services. Blast drilling offers revenue stream diversification tied to the mining cycle itself rather than geographic or mineral diversification. The company's historic operations have been tied to exploration budgets. Blast drilling services more business as usual functions for existing mines, meaning the move to offer blast drilling will help smooth the revenue cycle for time periods where exploration budgets have been reduced.
Industry tailwinds
There has been a great deal of chatter about a commodity supercycle over the past few months. Gold has obviously hit records recently and currently sits over $1800 per ounce. This is a significant tailwind for exploration budgets. Denis Larocque, Major drilling CEO, stated in a recent conference call that gold exploration should be well supported at prices under $1400 per ounce.
" We used to talk about 1,350 as being -- once things are over 1,350, then there's lots of projects that make sense, and we're well above those thresholds."
- Denis Larocque March 5th 2021 earnings conference call
More from the major drilling conference call:
"For a number of years, the mining industry has seen under investment and will need steady exploration activity and, of course, associated specialized drilling services to replenish reserves for years to come. To conclude, we believe that we are in the early stages of a strong upcycle in the drilling business"
- Denis Larocque March 5th, 2021 earnings conference call
This pattern repeats with other players.
We are encouraged by the strong increase in customer demand we are experiencing across our operations and we believe this positive momentum will continue to be supported by the strength of gold and copper prices, and as macroeconomic conditions continue to stabilize.
- Orbit Garent earnings press release March 12th, 2021
Given that Geodrill is actively expanding as the industry as a whole is turning up suggests we can likely expect further operational improvements. The company generated $10 million in EBITDA in Q1. It generated $19 million of EBITDA in 2020. Enterprise value based on Q1 filings is $88 million, resulting in a trailing EV/EBITDA value under 5. If you assume, as I do, that last quarter's EBITDA is a good indication of future earnings power, the forward EV/EBITDA is barely over 2.
Financial stability
Another strength of the company is their balance sheet, offering them significantly more financial flexibility than competitors. They did take an additional equipment loan subsequent to quarter's end as noted earlier. However, the latest financials show:
| Book value (USD) |
1.62 |
| Working capital (millions) |
40 |
| Cash (millions) |
5.9 |
| Debt (millions) |
6.5 |
* source author's calculations
Notable risks
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The company is heavily tied to gold prices at present
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Operations are subject to geopolitical risks
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There is an ongoing dispute with the Burkina Faso tax authorities that the company has not reserved for. They do not believe they will incur liability. However, a final adverse ruling would be a headwind for further capital expansion plans.
I would also like to note that the company does currently pay a small dividend of .01/share twice a year. This is a sweetener for those who prefer income, and while I'll take it, I would rather see the money go to expanding operations.
Conclusion
Geodrill offers the best operating metrics in an industry with enormous macro tailwinds while trading at a valuation that can only be described as dirt cheap even based on current operating metrics. As the mining boom unfolds, and the company executes their business plan, share prices should re-rate to a significantly higher level.
To find out more, visit www.geodrill-gh.com
FULL DISCLOSURE: Geodrill Ltd. is a client of Stockhouse Publishing.