EnergySolutions (NYSE:ES) provides services primarily to the nuclear industry in the U.S. and U.K. I already own some shares in Global Power (NYSE:GLPW), a company that provides services to nuclear facilities in the U.S. that I've previously profiled. It's an interesting sector because of the recurring revenue and strong tailwinds industry wide. ES is pretty special, though, because it has what essentially amounts to a monopoly within a portion of the nuclear services space.
Its crown jewel is its Clive, Utah facility for handling low-level radioactive waste (LLRW) and mixed low-level waste (MLLW), which consists of just about every waste material a nuclear plant produces save the spent fuel. It stores 95% of waste of this type. There are only two other places in the U.S. capable of handling similar types of waste, both of which are state-owned.
Additionally, from the 10-K:
We are the only commercial disposal outlet for MLLW and operate two of the three commercial LLRW disposal sites in the United States, through our Clive, Utah and Barnwell, South Carolina disposal facilities. The third facility is a state-owned facility located in Richland, Washington that is relatively small, does not accept radioactive materials from outside the Northwest Interstate Compact on Low-Level Radioactive Waste Management States and may eventually stop receiving materials from outside Washington State itself.
The company's position as an effective monopoly in the space might be under pressure from another site. There is one planned in Texas that was approved in 2009, which must still go through many phases of permitting, environmental studies, and NIMBYism. Even by the generally business-friendly standards of Texas, storing nuclear waste is not a popular business. From ES's 10-K, which might misrepresent the reality, but strongly correlates with what one would expect from a nuclear waste disposal site construction process:
Construction may not begin until several reconstruction license conditions are completed and approved by the executive director of the TECQ. Once approved construction is complete, additional conditions of the license must be met prior to commencement of disposal. These conditions will require WCS to complete several major environmental studies, examples of which include groundwater, air emissions, and seismic stability studies. WCS must also demonstrate that the leachate from the landfill will not reach the Ogallala-Antlers-Gatuna Aquifer. Should the license become active, WCS will be allowed to receive waste from the Texas Compact, which includes the states of Texas and Vermont, and from federal facilities (i.e., DOE). WCS will not be able to receive waste via railcar or receive depleted uranium, and will be required to dispose of commercial waste in specially designed containers in the compact portion of the facility.
WCS is the company looking to create another landfill for LLRW. Clearly the additional capacity faces constraints in coming on line.
The landfill is carried on the books at $30m. The segment it is in, Logistics Processing & Disposal (LP&D), includes several other links in the chain of LLRW disposal-generated $240-260m in revenue between 2007 and 2009 and segment EBITDA of $84-100m. (Full year 2010 results haven't been released, but it is on track to do about $80m in run rate EBITDA, based on the first nine months).
This is the flexing of pricing power, the hallmark of a business you want to own and verification of the huge moat this facility possesses. While the EBITDA figure doesn't take into account corporate expenses, this does demonstrate the massive earnings power of just this one segment/asset. The entire market cap is ~$600m, so ES is potentially undervalued.
There are several other segments: Commercial services, federal services, and international. Commercial services cleans up nuclear sites. Federal services does the same but for the DOE. These businesses are more competitive, but the LP&D segment does give it a unique competitive advantage. International operates and cleans up nuclear reactors in the U.K. Its contract for the international business is up for renewal in 2012, which is something to look out for.
There are several blemishes to consider when looking at ES, though. First is its debt load of $835m, which is eating significantly into EBITDA. Even excluding a goodwill impairment, the company doesn't have 2x interest coverage. A portion of the debt, $300m, is for a credit facility to finance restricted cash for collateral on its jobs cleaning up sites through its commercial and federal services segments. While there is an offsetting cash balance, ES is still required to pay interest, which increases its fixed costs. While it does operate on long term contracts and has a lot of "guaranteed" revenue, it really isn't guaranteed ... and even if it had 2x interest coverage, it would walking a fine line.
What would happen if there was a temporary stoppage in shipments to its landfill? That could happen for numerous reasons, natural or man-made. Around 10% of the float is sold short, and the aforementioned definitely gives some credibility to a short thesis.
ValueAct Capital has a stake in the company. It is a polite, activist investor that likes to get board representation and hold management's hand to run the business with a long term orientation and maximize shareholder value. Here is an interview with one of the guys who runs ValueAct. He is a competent guy who seems to know what he is doing.
One thing it looks for are choke points in supply chains, where out-sized pricing power can be exerted. It only likes to focus on 10-15 companies, so it doesn't take a shotgun approach and make concentrated bets. I presume the nuclear waste landfill plays a large part in its thesis.
I love the assets, but hate the liabilities. I'm not done poking around; the company should release its 2010 10-K soon, which will provide a welcome update on its situation. It is a little annoying that the last released financial data dates back almost six months. Judging from the monopolistic nature of the nuclear waste landfill, the replacement value is likely greater than the market cap + debt of the company, but I just got burned on Seahawk Drilling (NASDAQ:HAWK) with a similar thesis. While I don't want to act like Mark Twain's cat who jumped on a hot stove, it would be necessary to establish the strength of the cash flow and understand some of the other risks.