Layne Christensen (LAYN) ($26.97) is a small-cap, cyclical, specialty drilling and construction company focused on water, mining civil construction projects, and natural gas production. LAYN services a diverse client base. As with most industrial companies over the past two years, LAYN has experienced earnings setbacks, but is well positioned for the next upward turn in its business cycle. LAYN conducts business in North and South America, Africa, Australia, Europe.
Layne is divided into three operating segments: water and waste water (76% of 2009 revenues), mineral exploration (19%), and energy (5%). Its clients include municipalities, water utilities, global mining companies, oil and gas companies, and consulting civil engineers.
The largest segment of LAYN’s business deals with water. The company provides water well drilling services, water and sewer distribution remediation services, and waste water treatment services. As water management becomes more critical, LAYN’s services to repair in-the-ground distribution pipes for both water and sewer become more important.
Water shortages increase demand for LAYN’s well drilling services. Deep well disposal of power plant wastewater is a growing, and profitable, niche business in Florida. Of particular interest are its treatment facilities for the water used in natural gas shale fracing processes. As unconventional drilling increases, the need to treat drilling wastewater should provide parallel opportunities for LAYN.
Its mineral exploration business provides services to the mining industry, focusing on the copper and gold markets. In addition, this section provides soil improvement services for civil engineering construction project, such as levies and pipelines.
Layne owns and operates 45 natural gas wells, which are mainly located in the Midwest. Production is relatively small, and the company is not looking to become a big player in this field. LAYNE’s production is around 18.8 thousand cf/d. The company does not currently have the expertise to drill horizontal shale gas wells, but should gain parallel business from its shale well water waste solutions.
However, offsetting these outstanding niche markets, a large portion of LAYN business depends on the capital expenditures and repair budgets of local governments and utilities. With the current sad state of municipal financial affairs, many infrastructure upgrades are being delayed. In addition, residential water drilling is dependent on a healthy new construction market.
LAYN uses a fiscal January 31st year-end schedule for financial reporting. Layne reported 1st quarter 2010 ending April 30, and beat expectations (see conference call transcript here). The consensus on the street was $0.22/share, and the company reported a solid performance of $0.34/share. Revenues for the quarter increased 13% to $230.7 million.
The increase was driven by a rebound in the mining exploration business (+85% YOY) and higher overall gross margins (25.5% versus 21.7% YOY). Water related revenues were relatively flat at 2.9% growth, and the energy sector experienced a decline. Municipal and residential water business remains weak, but it is offset by strength in the commercial/industrial/military sectors. Due to low current market conditions, LAYN has not renewed its expired natural gas hedges that were sold at $7.17. With spot market prices in the $4.00 range, and futures in the $6.00 range, management is going to wait for better market conditions before setting additional hedges.
Layne Christensen offers interesting growth prospects due to its diverse and niche businesses - providing potable water to the military in Afghanistan, drilling waste disposal wells for power plants, treating waste from shale drilling, and repairing damaged municipal water/sewer pipes in-place without the need to dig them up.
Layne is a small cap company with a market cap of $517 million, has 19.5 million shares outstanding, and carries a very small debt of $26 million. Cash on hand as of 4/30 is $67 million, or $3.45 per share.
EPS in 2010 should be in the $0.90 to $1.20 range on revenues of $930 million. Next year, management is anticipated to generate around $1.45 to $1.60/share in earnings on revenues of $980 million. This is based on slightly better performance in the water business, continuing strength in the mining sector, and flat performance from the energy sector.
Historically, Lane Christensen's stock price valuations have been on the expensive side. The followers on the street seem to like the fundamentals of the company, but several believe the current price already reflects an earnings turnaround, and therefore rate LAYN as a hold based on valuation. These are some concerns that the strength of the mining business may not continue through year end, along with anticipated weak water and natural gas markets.
Layne Christensen deserves to be on a list of cyclical stocks to research. The company is well positioned in niche markets that will experience a rebound as economic activity picks up here and abroad. LAYN has the ability to generate $2.20/share in earnings within a few years. This will match its previous record earnings in 2007 and 2008.
The stock appreciated 12% upon release of 1st quarter numbers, and is in the middle of its trading range of $24 to $30 since November 2009. LAYN should reach the low- to mid-$30s during middle-cycle valuations, and upwards of $40+ at the peak of the next business cycle, as all sectors recover from the recession. While a bit expensive at its current price, I think LAYN is worth buying on pullbacks to the $24-$25 area, and a dip below this level could be a good value.
Disclosure: Author long LAYN