David Einhorn's Short Thesis on CLB
Great summary of Einhorn's SOHN Conf Presentation
Core Laboratories (CLB)
@ $113.43/share, $5B market cap and $5.2B enterprise value
Oilfield service business that helps energy companies analyze their reservoirs and increase their oil and gas recovery
Two segments: Reservoir Description and Production Enhancement
Reservoir Description: asset-light, lab-based business that analyzes reservoir rocks and fluids (71% of Revenue and 89% of EBIT in 2016)
Considered the technological leader in the field
Major oil companies rely on Core for analysis of their most complex reservoirs, where Core has earned a reputation for being best in class
Revenues and margins have been fairly stable because it specializes in multi-year projects, especially offshore and deepwater
Production Enhancement: provides tools and services related to well completion and production (29% of Revenue and 11% of EBIT in 2016)
Business sells perforating guns and charges primarily to frackers and offer well diagnostic services to E&P companies
Guns and charges are a competitive market in which Core competes against Titan, Schlumbuerger, and others
2/3+ of this segment’s revenue comes from products rather than services which makes this segment a typical commodity price-sensitive OFS
Valuation
On consensus estimates, stock trades at 35x next year’s earnings and nearly 29x 2019 estimates
Trades at a massive premium to its OFS peers – more than twice the multiple of prior peak earnings
Two reasons bulls give to justify CLB’s valuation are Core’s seemingly secular growth and its industry-leading ROIC
Core is a non-capital-intensive business; analytically, the ROIC in a non-capital-intensive business is irrelevant because you can’t reinvest your profits to grow your earnings at the stated ROIC
Core could have twice as much lab equipment without gaining any new customers – it is flawed to value the stock based on its “industry leading ROIC”
As for the secular growth, think this is a misunderstanding that dates back to 2009 and still persists today
Last cycle: when oil price briefly collapsed in 2008, revenue of most OFS companies collapsed along with it; Core’s revenue fell too but only barely and much less than others in the industry; Core managed to maintain sales and even grow margins and subsequently, revenues and margins continued to climb
Core’s stability through the down-cycle followed by growth in the recovery gave the false impression that Core is a secular growth company
Analysts began hyping the company as a secular growth story generally immune to oil price volatility and investors agreed and re-rated Core to a non-cyclical growth stock multiple
Analysts were so convinced that at year-end 2014 after oil prices had already been cut in half, still projected that Core could maintain earnings through the downturn
Analysts and their projections were wrong – a 74% decline in earnings over 2 years should have made analysts and investors reconsider the narrative but they have not; they continue to value the company as a secular grower
Right place, right time?
In reality, Core is a cyclical business whose particular product suite was less affected by the 2009 downturn than other companies in the industry
Like all OFS businesses, Core has two primary revenue drivers: price of oil and end markets where investment dollars are being spent
Reading the annual reports, Core happens to be steeped in the hottest parts of the energy market in any given year
2007: “Core will continue to emphasize execution of its time-proven strategies to produce additional growth internationally and in the natural resource plays of North America, which includes the Canadian oil sands, as well as tight-gas sand and gas-shale reservoirs”
2009: “Over the past seven years, we have focused on international crude oil developments to capitalize on our peak-oil theory… The Company has focused on international development and production-related crude oil projects almost to the exclusion of more cyclical, exploration-related activities”
2011: “Our continued focus on international crude-oil-related developments and unconventional oil from shale reservoirs enabled Core’s earnings per share growth to outpace almost all energy-related entities and industrial companies”
2012: “The Company’s laser focus on international crude oil related developments, especially those located in deepwater, continue to serve our shareholders well… Core Laboratories will continue to laser focus its attention on worldwide deepwater developments, and that will position us very well for success and growth over the next decade”
2013: “The Company’s laser focus on crude-oil developments, especially those in the deepwater and unconventional tight-oil plays that are primarily in shale reservoirs, continue to serve our shareholders well, as over 80% of Core’s revenue is now derived from oil-related projects. This percentage is likely to continue to grow as development of unconventional tight-oil shale reservoirs gain traction, not only in North America, but in the UK, Russia, North Africa, the Middle East, China, and Australia, among other places”
2014-2015: “Our continued focus on worldwide crude oil related and large natural gas liquefaction projects, especially those related to the development of deepwater fields off West and East Africa, the eastern Mediterranean region and increased activity in the Gulf of Mexico”
Reading Core’s annual reports is like opening a time capsule preserving the history of energy market hype
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