Dawson Geophysical Company: Good Vibrations

| About: Dawson Geophysical (DWSN)

This is the stock you wish you’d bought a year ago, when it was trading at about a third of its current price. So after Dawson Geophysical Co. (Nasdaq: DWSN) gained nearly 200% from its 52-week low of $26.22 on Sept. 25, 2006, to the 52-week high of $77.68 on Friday, you’ve missed the boat, right?

Perhaps, but consider this: in a time of $75-a-barrel oil, the demand for the company’s three-dimensional high-resolution seismic imaging is at an all-time high. Revenue grew 44% last year and is on course to grow even faster in fiscal 2007, ending Sept. 30. Revenue was $168.5 million in fiscal 2006, and is forecast to reach $257.5 million in the current fiscal year, a gain of 52.7%.

Meanwhile, earnings before interest, taxes, depreciation and amortization (EBITDA) grew at a sizzling 69% in fiscal 2006, to $38.6 million from $22.8 million. In the third fiscal quarter, ended June 30, EBITDA grew 75% year-on-year, to $17.7 million from $10.095 million in the fiscal 2006 quarter. For the first nine months, EBITDA was $43.3 million vs. $26.4 million, a gain of 64%. The company doesn’t provide any guidance on revenue, income or EBITDA.

Much of the past year’s gain in the stock price was playing catch up from its relatively low valuation. The PE ratio a year ago was below 10. The current PE is 23.85 on a trailing basis, but only 15.69 on a forward basis, calculated on estimated earnings for fiscal 2007.

However, Dawson blew analysts’ estimates out of the water in the third quarter, ended June 30, posting earnings of $0.98 per share (diluted) compared with estimates of $0.78 a share, and $0.56 in the year-ago period. Estimates for the current quarter, ending Sept. 30, are for $1.07 a share, compared with $0.66 in the year-ago period, and $3.51 for the fiscal year, compared with $2.11 in fiscal 2006.

The company, already the leader in the field, added its 15th crew earlier this month, so that it accounts for more than one-fourth of the 58 crews operating in the continental United States. The crews are booked well into 2008. The high demand translates not only into higher prices but for better contract terms, with premiums for weather-related delays and other add-ons that contribute to the bottom line. Dawson’s operating margin in the quarter ended June 30 increased to 18.3%, from 15.9% in the year-ago period, and the company feels this margin is sustainable going forward.

The reason for the demand is the intensive search for declining natural gas reserves. First-year production in new wells has declined precipitously, putting more pressure on exploration and production firms to find new reserves and squeeze the last bit of production out of existing wells.

So the seismic data gathered by Dawson’s crews is being used not only to find new reserves, but to evaluate current reserves to find the most efficient places to drill and, increasingly, to determine how to extract more gas from currently producing wells. Particularly in the last case, the high resolution data needed requires a greater number of channels to produce the image. Channels refer to the recording channels that register the reflected sound generated by a vibrating machine or dynamite to produce the 3D seismic image. Dawson is increasing its channel count at a faster pace than its crew count, and with 102,000 recording channels now has three times the number of channels it had in 2004. The higher channel count directly drives revenue and contributes to the bottom line.

Dawson Geophysical is a service provider. It acquires data for exploration and production companies, and also can process the information, but it does not collect or keep any data for itself. The company, which was founded in 1952 and went public in 1981, has stuck to its business and has no plans for diversification or growth through acquisition. The company is headquartered in Midland, Texas, with offices in Houston, Oklahoma City, and Denver.

Because it is a service provider, Dawson has only modest capital expenditures for the equipment and trucks it uses to deploy in the locations where it is collecting data. The capital budget for fiscal 2007, as of the third quarter, was $55 million, of which $45 million had been spent. As a result, the company has no long-term debt and uses a revolving credit facility sparingly.

The work is a grueling physical work, often involving getting in and out of tight spaces. Weather, access permits, third-party services for helicopters and dynamite (the company operates its own vibrators to generate seismic images but sometimes needs to rely on dynamite to generate the vibrations) can all affect its ability to operate. These are the types of expenses, however, that increasingly the company can pass on to its customers.

After its strong performance in the past year, the stock currently has three “holds” from analysts and one “strong buy.” It has already broken through the median target of $68, so some updates should be on the way.