Mitchell Services Limited (MSV) Earnings Call Transcript

Ladies and gentlemen, thank you for standing by, and welcome to the Mitchell Services Limited analyst briefing 2020 half year results. We are joined today by Nathan Mitchell, Executive Chairman; Scott Tumbridge, Executive Director; Andrew Elf, Chief Executive Officer; and Greg Switala, Chief Financial Officer. [Operator Instruction] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your first speaker today, Chief Executive Officer, Andrew Elf. Thank you, and please go ahead.

Thanks very much, and good morning, everybody, and thank you very much for dialing in this morning. We'll take Page 2, the disclaimer as being read and move straight on to Page 3. Obviously, there, you would have seen the change in major holders with Scott Tumbridge, the founder of Deepcore joining the Board and becoming a major holder. And again, I think one of the big positives of this company is having 2 Executive Directors, such as Nathan and Scott, one with the name on the door and one a founder of a company that we'll talk about more today. Certainly, very invested and aligned with the company and the future direction that it wishes to take. On Page 4, with safety. I've spoken about this every time we present that it's a nonnegotiable in our business. If you're not safe in this industry, you do not have a business. And certainly, with the Tier 1 clients that we work for, their expectations are high, and very pleasing to see that the business as a whole has been recognized for the work that it is doing. Obviously, the Contract Miner of the Year, we're not a contract miner, but it's more of a service provider of the year award and up against Mona and some stiff competition. So that was a good win for the team and then our General Manager of People and Risk winning quite a prestigious AusIMM Award for some of the work that he's done in the safety space as well. On Slide 5, the overview. A solid first half and obviously, leading into a stronger second half. Guidance given there in regards to revenue and EBITDA, slightly above coverage from Wilsons' and Morgans' and the special dividend determined by the Board. They're payable in July. Revenue up. Obviously, there's a 1-month contribution from Deepcore in there. EBITDA of $14 million, which does include all transaction costs in relation to the Deepcore transaction that was completed, and that is performing exceptionally well in line with expectations, and the integration is going really well, too, and I'm sure Scott will talk about that further as we go through the presentation. On Slide 6, operational highlights. Point 1 there, we talk about the year-on-year growth and the EBITDA increase again, underlying improvement in the existing Mitchell Services business. That's going to be really kicking up as that Deepcore Drilling in EBITDA kicks in. Rig utilization, you've got 103 rigs in the fleet now. There were 78 rigs operating as at the end of December. As of today, there's approximately 83, 84 rigs running or thereabouts. The revenue diversity, we'll talk about that as we go through the presentation. But again, it continues to improve, and it really demonstrates that it's a better, stronger, really strong long-term sustainable business through the cycle. And lastly, there again, the quality of the revenue, and importantly, where that revenue actually comes from, it comes from Tier 1 clients on low cost mine sites that operate through the cycle. On Slide 7, you can see the average operating rig count down the bottom for the full years. You can see the average operating rig count for the first half, 58.7%. And as I said, right now, there's 84 or 83 rigs running. So certainly, when you look at this slide and you look at the revenue guidance and what we're going to do in the second half, it certainly is a very strong pathway leading into FY '21 and into the future. And obviously, we make the point there that the rig counts can change due to seasonality or other factors, but again, we talk about the pipeline being strong, and certainly, we've got a very good pathway ahead of us as a business. On 8, we've got some graphs here that show the diversity of the revenue for the business. Again, post-Deepcore transaction, the balance between surface and underground is better. You're sort of running at about 50-50 or thereabouts. The revenue by commodity, you've had an increase in exposure to gold and a reduction in exposure to coal, bearing in mind that this business is 100% met coal or coking coal focus. We have 0 exposure to thermal coal, and that's likely to stay the case. And by geography, again, it gets better as we move forward. But reduction in Queensland, increase in New South Wales, increase in Victoria, and that will continue to happen as Deepcore trades through in the second half. Obviously, as a team, we remain mindful of the diversity of all of these things, and it's -- again, the important point is that exposure to Victoria gold. And again, Scott will talk about that market in a little bit more detail further in the presentation. Slide 9 talks to the quality of the business and what makes us different. I think it's important to note that the quality of the Mitchell and Deepcore brands. They've been around a long time, and they really are viewed similarly to a Qantas-style quality of brand in the airline industry. So in line with the quality of those brands is the quality of our clients and the quality of our revenue. 90% of the revenue we generate comes from Tier 1 sites, so Kirkland Lake Gold, Newcrest, Newmont, BHP, South32, Evolution, Anglo, Peabody, Glencore, et cetera. So we are working for the world's best mining clients, and they've got the best sites. They're the lowest cost. They operate through the cycle, and they keep drilling through the cycle, and that's where you want to be. And those clients buy on quality and technical expertise and not necessarily on price, and that's exactly where we want our business to be. Down the bottom of that slide, revenue by stage of the mining life cycle. You can see there, again, it's not just who we work for, but where. And the majority of our work is coming from mine sites. And again, as far as the market goes, it's pretty strong in that brownfield space and, again, sets us up for a strong second half and a couple of years to come in the business. Slide 10, we talk about the stages of the cycle. Again, we've spoken to various people about this part. Stage 1, more rigs running, yes, that's happening; Stage 2, rigs work more ships or work a longer season, and that is happening as well; and Stage 3, we start getting price increases. And similarly to what we've spoken about with people before, as contracts roll, we're sort of still getting single-digit increases, mid- to high single digits. The market is certainly much more sustainable in a steady buildup than it has been in previous cycles. I think people are certainly still very mindful of the past. And -- then again, that greenfield exploration space certainly is still fairly subdued. So as far as we're concerned, we could still say that we're sort of in the fairly early stages of that Stage 3. And Stage 4, again that's when the leverage shifts to the contractor and the supply/demand in favor of those who have got rigs available. But again, I wouldn't say that we're near there yet. Slide 11, this is just an introduction to Deepcore, obviously, a high quality business, and our approach has really been lead the brands, lead the team and support the team and make an even better business than what it is. You can see there in the charts, the revenue by commodity, highly exposed to that Victorian gold and, certainly, copper as well. So you put that in with Mitchell Services and improve that mix. Predominantly an underground business with a little bit of surface operations as well. So again, brings that balance back to 50-50 surface underground. The geography, predominantly Victoria, but also Queensland, New South Wales and 78% Tier 1 clients in predominantly Kirkland Lake Gold, Newcrest Cadia and Glencore up in the Northern Queensland. Business has been around for quite some time, highly specialized at diamond drilling. And in particular, noise suppression drilling and deep hole directional diamonds. Headquartered out of Bendigo, they've got a fantastic workshop and team down there. Scott's obviously the founder and joins us today. And now a major shareholder and again, importantly, as well, a fantastic safety record. So I'll just hand over to Scott to go through Slide 12 and to also tell us a little bit about the business and what's made Deepcore such a great success.

The marriage between 2 companies is going quite well. We're just concentrating mainly on what we've always done with our acoustic enclosures and on concentrating on our safety. Our rig design is continuously being innovated. Over the next year or so, we'll keep pushing that forward. We are the industry experts in deep directional drilling. That's all still going quite well. So the [ designing ] at least to see their clients and seeing which way they wanted to hit their targets. We're still the deep directional drilling contractor with a hole of 2,000 meters that we did install like about 8 years ago. We then added -- we bend over 500 meters. That's still going quite well and providing a customer with equipment specialized in-house drilling and positioning our strength in leveraging gold Victoria.

So certainly, from a business perspective, it's no mean feat to drill a hole over 2,000 meters underground, and it's one of the deepest holes ever drilled in Australia. And Scott and the team are making fantastic specialized equipment in that workshop, and certainly, we welcome any questions at the end of the call that people might have of Scott or the Deepcore business.

Taking a look at the financial results slide on Page 13, the company has again delivered a strong EBITDA performance, with $14 million of EBITDA over a revenue base of $73 million representing a margin of approximately 19%. After deducting depreciation, amortization, interest and tax, the company recorded a net profit after tax of $4.3 million. Worth noting there that, that's lower than pcp, primarily due to the one-off recognition in first half '19 of previously unbooked deferred tax assets. And as Andrew has mentioned earlier, we're guiding towards a $34 million to $36 million full year EBITDA, which if you take into account the underlying MSV performance plus the extra contribution from Deepcore that's going to equate to an increase of 42% to 50%. From a balance sheet perspective on Slide 14, the company was able to utilize its strong balance sheet to complete the Deepcore transaction in November. Its current ratio has improved by approximately 18% on pcp. And importantly, the company has got access to finance facilities that will ensure we can continue to take advantage of potential growth opportunities as they present themselves with an undrawn working capital facility of $10 million and a $15 million revolving equipment finance facility. The company has again generated strong operating cash flows as Slide 15 demonstrates. Operating cash flows were $14 million for the 6 months, and this represents the second consecutive December reporting period where the cash conversion ratio was approximately 100%. Looking at net debt on Slide 16. The company has obtained a new $16 million facility from NAB to fund the Deepcore transaction. The facility expires in 2022, with pricing set at BBSY plus 2.7%, and this has materially decreased our overall average cost of funds. All debt facilities, as we've previously said, are structured on a principal and interest basis with short amortization profiles. And the chart bottom left demonstrates that with the facility's balance reducing by approximately 50% by December 21. From a leverage perspective, our debt to EBITDA on a forward basis is approximately 1.3x, and we will look to reduce debt in the next 24 months, in line with forward strategy. From a CapEx investment perspective, on Slide 17, organic growth continues to deliver strong returns with growth CapEx for the 6 months being a function of new contract wins and scope increases, including contract extensions with Anglo and KCGM as well as our organic entry into the drill and blast market. With maintenance CapEx remaining to be a function of, essentially, utilization, and it will continue to track in line with P&L depreciation, multiplied by the applicable utilization rates.

Thanks, Greg. And just on Slide 18, in regards to the outlook. We've spoken about the guided revenue and EBITDA. But in regards to the market in regards to the pipeline. The pipeline is strong. Certainly, a lot of those clients that have got existing brownfield operations and are producing cash, certainly, a high and strong level of demand from them. And again, as we stay here at the current conversion rates, the rigs required exceeds rigs available, so it's going to be a question of whether we put our rigs to get the best return. From a competitive profile of the market perspective, again, it's still tough with the banks lending to some of the smaller companies. And people have got utilization levels a little bit higher now. So it really should be a good year or 2 ahead for us as a team and as a business. Important to note there, the EBITDA that we are guiding to take into account expected utilization levels from existing contracts and subject to normal conditions. So we're talking about what we have work in hand and that we can deliver. And importantly as well, those numbers include a 7 months Deepcore contribution post 29 November when the settlement occurred. On 19, and in summary, our vision to be Australia's leading provider of drilling services to the global mining and energy industries. Obviously, the business at the current time is 100% Australian operations. And we foresee that remaining the same into the future. We've got a diversified revenue stream by drilling types and commodities with increased exposure to gold and an increased exposure to the Victorian gold market as that story plays out. It's a high quality client base with approximately 90% of our revenue from Tier 1 clients and world-class sites. EBITDA, we got it to $34 million to $36 million and going to FY '21 on a very strong run rate. The special dividend is determined by the Board and payable in July. And lastly, as Greg alluded to, we do have a debt that amortizes with P&I fairly aggressively and will reduce over time. And it's important to us to maintain that strong balance sheet and to take advantages of any opportunities that may come up for us as a business. That's the end of the formal presentation. Obviously, we've got Nathan and Scott on the line, a couple of our Directors. So please feel free, if you do have questions, just direct them to the appropriate person. Thanks very much.

[Operator Instructions] Your first question today comes from the line of Tom Sartor from Morgans.

Probably a question for Andrew or Nathan. The special div was a bit of a surprise today, given the debt taken on in the first half. Can you just remind us about your target or comfort leverage range at this stage of the cycle? And therefore, how we should think about potential returns going forward?

Nathan, do you want me to take that one or...

Sure.

Okay. So look, I think, Tom, to answer the question. I think the Board, number one, is, obviously, very comfortable with the level of the debt that the business does have, and I think they're very comfortable with the outlook moving forward for the business. And again, that enabled them to make that decision to determine that dividend. From a debt perspective, I think the Board is always assessing that on a monthly basis in the Board meetings. And again, they generally think about the stage of the cycle. So we make the point that we still think that it's got a way to run. Obviously, it is a cyclical industry, a cyclical business, and -- but it does have a way to run. And given forward EBITDA, the guided EBITDA, as Greg said, debt to that forward EBITDA of FY '20 circa being 1.2, 1.3 and lower again on FY '21 EBITDA and amortizing quickly. I think that the Board is comfortable at that 1-point-something level in the short term. As long as they can see a pathway toward reducing with enough time left in a cycle. I mean no one knows how long the cycle is going to go for, but I think the Board now just goes, okay, good pathway ahead, good market ahead. Debt's coming down. And I think they're comfortable with that.

So I'm just -- from my point, I think from a Board point of view, we're looking at a balance really. It's a balance between debt reduction, giving something back to the shareholders and also, obviously, expenditure on CapEx and growth. I just don't think that our position is a bit -- it all can't be one way. Obviously, we'd like to get the debt down as quickly as possible, like Andrew just said. Not 100% sure how long the market will go. We think there's still a lot of life left in this market. But having said that, I think it really is -- it's just about a balance for all stakeholders involved.

And the -- given your outlook on the cycle's pretty robust, and you do have that flexibility. Do you still have that same attitude towards growth and opportunities as you did 6 or 12 months ago?

Yes, I think so. I think the growth is still there. I think gold is powering ahead. It's at USD 1,700 an ounce this morning, obviously, on the back of the coronavirus. But all in all, I think it's looking good. We made a specific move in the Victorian market based on the gold moving down there. And I don't think that's going to pay dividend. It's already paid a dividend in the first month. And I think, overall, that will continue to grow. Whether it stays up there or whether it goes to $2,000 an ounce is yet to be seen. But I do think we're in the right position going forward.

[Operator Instruction] And we have another question from the line of Mark Hancock from Precept.