SS: For the investor community and analyst, it's the first time we've ever had to determine the potential of a company like this. We see Input as a classic take on textbook compounding of capital. The company deploys capital into canola contracts at a 20% internal rate of return (IRR). It receives cash on the sale of canola on those contracts as early as a few months later, then redeploys that cash into new contracts, and so on. Input has already demonstrated its ability to deploy capital and sell canola. Should it continue at pace, we think the compounding potential—just the organic cash deployment, let alone further equity raises—should catalyze the stock and justify our $5 target price and Buy rating.
TER: The company was exposed to falling canola prices. Are you concerned about that?
SS: I'm not concerned that the canola price has come off. Our valuation is slightly different from other analysts. We value the company not just on a forward cash flow basis, but also on a net asset value (NAV). The reason is the company contracts on a six-year basis, and just has to achieve an average $400–425 per metric ton canola price to get the IRRs it's looking for. On top of that, Input, on average, has been selling its canola at an 11.2% premium to spot. That's a function of its effective marketing program.
The company also has significant cash on the balance sheet, which allows it to shift the sale of canola in and out of quarters to more favorably approach the market. Additionally, in a weaker canola price environment, the company can actually lock in lower all-in costs per metric ton on its contracts. It can then have an IRR of 20% at, say, $380/metric ton canola versus the $425/metric ton that it was locking into at a higher canola price. There's a lot of flexibility.
The model is fluid. The company is very insulated, and the market needs to be thinking about this over a six-year timeline, not in terms of a two- to three-month move in the canola price. We're not concerned.
TER: Are you anticipating a new wave of mergers and acquisitions in energy?
SS: I can only speak to what we can see in services. Again, when a sector collapses under commodity price pressure, it's expected that companies with comfortable balance sheets will be opportunistic, and that's what we saw with Halliburton. You could start to see a ripple as Halliburton, because of antitrust concerns, may have to shed and divest up to 7.5% in revenue. We're looking to see what happens with Halliburton, what the divested shares are going to look like, and who will target those. People are going to look for opportunities there. Buyers with cash are seeing the cheapest valuations in years.
The entire services sector has massively sold off. People are going to get squeezed. The million-dollar question right now is: Who's next? You do get industry consolidation when oil prices come off and the survival-of-the-fittest mentality comes in.
Everyone's speculating, from the top down, about which majors will consolidate next, who's looking to pick up tuck-ins, which companies are most exposed to the downswing, and who's going to need to sell themselves or divest noncore assets. We already saw that with Precision Drilling Corp., which divested its coil tubing assets earlier this month.
It's only been a few months of weak oil prices, but we're already seeing some companies looking for an exit opportunity. I think Halliburton sets a precedent, and now we must wait to see what the windfall is.
TER: What are you anticipating for the oil price next year?
SS: The Organization of the Petroleum Exporting Countries (OPEC) decision on Nov. 27 should not have surprised anyone. There was no political incentive for OPEC to cut its own production to support the U.S. I think we're going to see $55–$65/bbl for a little while as a result. The market seems pretty comfortable with that level.
TER: Any final thoughts? Is this a good time to get into the services?
SS: What investors want to do now is have the right names on their radars. In these selloffs, it becomes extremely important to position in the right basins. That's the only way to survive a turbulent energy market. For us there are core areas—the Bakken, the Eagle Ford, Niobrara—that are consistently rated best for returns in capital spend.
Beyond basin positioning, it's a matter of holding companies with right technology and efficiency. That's going to come increasingly into focus as operators need to put great emphasis on cost per barrel. We look to Xtreme Drilling as a name that fits that criteria—a defensive driller you could say—and that's why we picked up coverage on it in the first place.
Generally, in the services space, I think there's going to be significant near-term volatility. Services are high-beta names and highly correlated to the oil price. Stepping in now could be like catching a falling knife until the dust settles in oil prices. We are cautious until a base builds.
TER: Steven, thank you very much for your time today.