Brief Company Description
Lamprell Plc (LSE:LAM) is a UAE based, UAE listed company providing diversified engineering and contracting services for the oil, gas and renewable energy industries. The company has played a prominent role in the development of the offshore industry in the Gulf area for over 30 years and is the regional market leader in the rig market
Lamprell has over eleven thousand employees spread over three UAE located facilities in Hamriyah, Sharjah, Jabel Ali, one facility in Saudi Arabia (through a joint venture agreement) and one in Kuwait. The company has 2.2Km of strategically located quayside access to the Gulf (the blue is the sea in the picture). The management claims that there is limited additional deep water quayside land available in the Middle East.
In some sense, the Quayside gives a natural advantage to Lamprell. This allows the company to build the rigs directly in the water and removes the cost of additional land transportation -- which is quite expensive.
Timeline of Lamprell
(1974-2006) After being established by the Lamprell brothers as a family engineering business, Lamprell started working on accommodation jackup rig conversion and later on refurbishment of jackup rigs. The company later diversified into Oilfield engineering and then listed on the AIM in 2006 and LSE in 2008.
(2007) The company started building jackups and lifeboats. The first lifeboat delivery was in 2009.
(2011) Lamprell acquires another UAE based diversified engineering and contracting group MIS for an equity consideration of $336M, doubling its business. The company financed the acquisition by issuing 60M shares at £2.31 each for gross proceed of $225M. The rest was arranged by debt and Lamprell’s available cash. MIS’s 2010 revenue, EBITDA and backlogs were $385M, $46M and $127M respectively.
(2012) This was an eventful year at Lamprell, to say the least. Lamprell’s forecast for 2012 was $1.4B in revenue and $171M in gross profit. On May 16, Lamprell issued a profit warning.
“During the year to date the Group's financial performance has been adversely affected mainly by progressive delays in key specialised vendor equipment deliveries for new build jackup projects together with the progressive slippage in the timing of expected new project awards and delayed client deliverables. [...] In addition, we have recognised further costs linked to the final specialised equipment commissioning on, and the delivery of, the wind farm installation vessel projects Windcarrier Brave Tern and Seajacks Zaratan both of which are scheduled for delivery in the second quarter.”
The warning goes on to say that the expected revenue and profits will be substantially lower due to various operational issues. On this day the share price dropped 57%.
The then CEO of the company Nigel McCue boasted in 2009 that “[Lamprell was run] conservatively without any long-term debt”. But this marketing update showed that the company might be running into financial difficulties. The net debt of the company stood at $102M at the end of 2011, mainly because of the MIS acquisition. But the company reporting a worsening balance sheet with $173M in debt. The situation was further precipitated by the fact that the company risked dishonoring its debt covenants (less than 2.5x net debt/EBITDA cover).
Lamprell soon faced another self inflicted wound which came to light after the shares cratered. Two executives of the company, Kevin Isles (executive VP of group’s operations at Sharjah and Hamriyah) and Scott Doak (integration and development director) sold shares (May 1 and May 2, a fortnight before the trading update) worth £900,000 and £800,000 respectively. What made the situation more suspect was that these were the only example of senior managers selling shares in the past two years [ft.com].
The company’s CEO Nigel McCue told the Daily Telegraph that neither man sat on the board or was privy to the company’s deteriorating operations. The Financial Services Authority (FSA) still felt that the board should have not given permission to trade under “good moral conduct”.
“On 18 March 2013, the FSA imposed a £2.4 million fine on Lamprell plc (Lamprell), for its failure to put in place adequate systems and controls to enable it to announce important information to the market in a timely fashion. Lamprell also breached the share dealing provisions in the Code by giving clearance to its PDMRs to carry out dealings during a “prohibited period” ...”
The FSA reports raised serious questions about the financial systems and controls placed in the company. The result of these failings was that the company could not adequately monitor the full impact of the operational issues.
The FSA report mentions that two factors mitigated the seriousness of the breach. Lamprell accepted the problems in its systems pro-actively and co-operated with the FSA investigations. They also took significant steps to fix the problem, including “letting go” certain members of the senior management (like the CEO, the Chairman), and retaining external consultants to conduct comprehensive review of the failings in their systems. The FSA report itself is an interesting read [FSA].
In October 2012, the CEO, the CFO and the COO stepped down from their respective positions. Peter Whitbread, who was the CEO of the company between 1992-2009, was brought in as an interim CEO. Later James Moffat, with over 35 years of experience in the offshore engineering, construction and project management, joined as CEO of the company.
Evidence of Moat
As I mentioned earlier, access to the water gives Lamprell an edge over its competitors and provides a natural barrier to entry for new businesses because quayside access is hard to find.
The founder of the company, Mr Steven Lamprell (age 61) serves as the president of the company and holds 33% of the shares outstanding.
The following is the remuneration of the CEO, CFO and COO, who were let go after the FSA debacle.
The company awards long term incentives based on the EPS growth, which in my opinion is a bad way to measure growth.
This is something to keep an eye on, because the management seems to be introspecting about how to incentivize the management which will enhance long term shareholder returns.
Secondly, during 2013, the Committee will review whether EPS is the most appropriate performance measure for PSP awards and the appropriate vesting period. The Committee recognises that the driver must be to incentivise strong earnings growth which is in line with the creation of future shareholder value and this must occur over a sustained period. The Committee is reviewing whether EPS is the most appropriate performance measure for the PSP and, to the extent that any change is made, the Committee will report the same in the subsequent Annual Report for the Company. - Annual Report 2012
It is heartening to see that the management loathes debt. After the MIS acquisition the company quickly moved to reduce debt. They cut the dividend, saving nearly $20M and aggressively paid down the credit facilities. The company went from $102M in net debt at the end of 2011 to a net cash position of $104M by the end of 2012.
Lamprell is the regional leader for new build jack up rigs. It also offers offshore new builds, especially something called floating production, storage and offloading units (FPSO). The company is also active in rig refurbishment, wellhead to delivery and beyond in all areas of design and construction of offshore/onshore design and construction.
The company has tapped into a secular growth market. With oil prices at their peak, the growth prospects are in high one digit range. The company mentions that two third of the global jackups are at least 25 years old and will need refurbishment/replacement soon. Half of these are in Middle East and Asia region, translating into ample work for Lamprell.
Thankfully, the fiasco in 2012 has not affected the reputation of Lamprell. They received $1.3B in new contracts over last year.
They also have $4.1B worth of projects in the pipeline, which is nearly 4 times their current annual revenue. Taken together they have enough projects to last them 5 or so years.
The company has $263M in cash, $159M in short term borrowings and $38M in pension liabilities. At the current market price of £1.35 a share and 260M shares outstanding, the company trades at a market cap of $574M and an enterprise value of $500M.
The company’s net margins have averaged 10.37% during 2005-2011. I do not consider the year 2012 as a representative for “normalized earnings” for good reasons. Since the company came public, the revenue has grown from $209M to $1,045M, a compounded growth rate of over 25%. Assuming no growth from now, a net margin of 10% and a price-to-earning ratio of 10, the company is worth $1B, a 100% upside at these prices.
The high oil prices may have distorted the industry dynamics. It is hard to determine who is swimming without clothes at this point. I take comfort in the “owner operator” management and their general detest for leverage.
The company faces risk from far east competitors. This is mitigated by the fact that the company has strategically well located building facilities which saves transportation cost.
The business faces government pressure to use “local products”. This may jeopardize the quality of the equipment and hence pose risk to the reputation of the company. Lamprell also faces tax risks.
“The Group is not currently subject to income tax in respect of its operations which are substantially undertaken in the UAE, and the Company does not anticipate any liability to income tax arising on these operations in the foreseeable future.” - Annual Report 2012
A 30% corporate tax, for example, will lead to 7% net margins and only 50% upside from current prices. But there is no foreseeable reason as to why UAE will suddenly increase taxes on local business.
The company makes rigs. Sometimes it takes them more than a year to complete these equipments. The profit/loss and cash flows are lumpy because of this reason. One also needs to be careful about how they recognize revenue on the “work-in-progress” equipment (none until 20% completion and then a straight line).
Additional Disclosure: I have a starter position in the company worth 2% of my portfolio.