In August, I wrote an article recommending readers to hold DMC Global (NASDAQ:BOOM) as an oil call option. However, upon further researches in its business history and operation structures, I realized that the business is capital-light and has fairly deep moats, which strongly support the bull case scenario. I now rate the stock as "strong buy" for the reasons below:
DMC Global is a turning-around industrial conglomerate. It acquired an exterior/interior framing company Arcadia at 12x PE, which I believe is a huge bargain. DMC has been successful in maintaining a strong balance sheet, even during bad years. This acquisition transformed DMC into a capital-light industrial conglomerate that has conservative management, adequate leverage, and promising ROE. DMC is also a very cheap call option on rising oil due to its large exposure to E&P activities, whose downside is diversified by the Arcadia acquisition. The stock was trading at ~$70 in 2019 vs. $19 today (after a successful acquisition). Before the acquisition, 70% of DMC's revenues were from DynaEnergetics, whose performance was disrupted by Covid and depressed oil prices. DynaEnergetics' earnings went up 60% in 2Q22 but the stock didn't move much. The opportunity exists because the market 1) still focuses on the disappointing performance in the past decade due to depressed oil (70% of its legacy revenue is directly from oil E&P), 2) doesn't appreciate the Arcadia acquisition, and 3) doesn't factor in the tailwinds DMC gets from rising oil, which is caused by underinvestment in the oil field during the past decade. The market values DMC as if its legacy business DynaEnergetics and NobleClad are worth only $172mm (This will be elaborated on later). However, in 2019 when oil was at $50-60s, they generated $68mm EBITDA, including a $19mm restructuring expense which was completed in 2020. My valuation indicates a 170% upside if DynaEnergetics' profitability went back to the 2019 level.
Post-acquisition, DMC has three major segments:
Arcadia is "a supplier of architectural building products, including exterior and interior framing systems, curtain walls, windows, doors, interior partitions, and highly engineered windows and doors for the high-end residential market." The commercial segment, which "designs, engineers, fabricates and finishes aluminum framing systems, windows, curtain walls, storefronts and entrance systems comprising the exterior of buildings", accounts for 73% of Arcadia's revenue as of 2021. The Residential segment which manufactures windows and doors for luxury homes accounts for 17% of net sales. In Dec 2021, DMC acquired a 60% controlling interest in Arcadia for $262mm in cash and $20.5mm in stock. DMC also received a three-year put-and-call option to purchase the remaining 40% interest, with a floor valuation of $187.1mm. The total implied transaction value is ~$470mm. I will use the total transaction value to analyze this acquisition because the management has expressed the intention to exercise the option. I think Arcadia is a bargain for the following reason (numbers below can be found here):
Assuming no growth, Arcadia is worth at least $540mm (using 2019 FCF). DMC currently has a TEV of $715mm (assuming the purchase of the remaining 40% interest is financed by debt). This means the market values DynaEnergetics and NobleClad at $715-$540=$172mm. Don't forget that in 2019 when oil was at $60, (Baker Hughes International rig count at 2,000-2,200; frac spread at ~400) these two (which at the time were the whole DMC) were valued at $40-70/sh ($600mm-$1bn) in 2019.
So how much are DynaEnergetics and NobleClad worth today?
DynaEnergetics is a manufacturer of perforating systems and associated hardware and a leading provider of well-completion and well decommissioning solutions for the oil industry.
According to the latest 10k:
During the well drilling process, steel casing is inserted into the well and cemented in place to isolate and support the integrity of the wellbore. A perforating system, which contains a series of specialized explosive shaped charges, is used to punch holes through the casing and cement liner of the well and into the geologic formation surrounding the well bore. The channels created by the shaped charges allow hydrocarbons to flow back into the wellbore. When hydraulic fracturing is employed, the perforations and channels also provide a path for the fracturing fluid to enter and return from the formation.
In unconventional wells, multiple perforating systems, which generally range from seven inches to three feet in length, are connected end-to-end into a perforating "string." The string is lowered into the well and then pumped by fluid across the horizontal lateral to the target location within the shale formation. When the perforating system is initiated via an electronic or digital signal from the surface, the shaped charges detonate. DynaEnergetics designs, manufactures and sells all five primary components of a perforating system: the initiation system, shaped charges, detonating cord, gun hardware, and a control panel.
Long story short, DynaEnergetics sells a system that punches holes on the ground and puts support materials in the hole for E&P companies to drill wells. Its earnings have been fluctuating in the past decade due to depressed oil, but generally show an upward trend. I believe the market is undervaluing DynaEnergetics for the following reasons:
Today, Baker Hughes International rig count is at 1825 vs. 2,000-2,200 in 2019; Baker Hughes US rig count is at 759 vs. ~1,100 in 2019; US frac spread is at 269 vs ~400 in 2019; oil price is at $90 today vs. $60 in 2019. OPEC's financial breakeven point is $80, and it just reduced 10,000 BPD production in September, right after increasing the same amount in August. The global spare production capacity is at an all-time low, and the pricing of E&P equipment went wild. Macro events such as the Russia-Ukraine war and China potentially coming out of covid can only make things worse. This oil upcycle is created by the underinvestment in the oil field in the past decade.
Although the management indicates that the EBITDA margin might not be back to the 2019 level due to product mix (caused by the integrated system transition), this product mix drives more revenues. In the 2Q22 earnings call, an analyst asked if the dollar value of Dyna's EBITDA can return to the 2019 level despite lower margins, and the management gave a positive answer.
So what does EBITDA going back to the 2019 level look like? I will use $90mm for EBITDA since 2019 OI was $68mm and adj. EBITDA was $94mm (adjusted for $19mm restructuring expense, which was near zero in 2020 and 2021). The pro-forma EBITDA multiple was 10x during good years, but for the sake of conservatism I will use 5x. So Dyna is worth ~$450mm at 5x $90mm EBITDA.
NobleClad manufactures Explosion-welded clad metal. Explosion-welded cladding technology is a method for welding metals that cannot be joined using conventional welding processes, such as titanium-steel, aluminum-steel, and aluminum-copper.
According to the 10k:
Explosion-welded clad metal is primarily used in the construction of large industrial processing equipment that is subject to high pressures and temperatures and/or corrosive processes. Explosion-welded clad plates also can be cut into transition joints, which are used to facilitate conventional welding of dissimilar metals. It serves industries such as oil and gas, petrochemical, alternative energy, hydrometallurgy, aluminum production, shipbuilding, and power generation, with oil and gas and chemical and petrochemical constituting approximately two-thirds of NobelClad sales in 2019. This business has high barriers to entry including mastery of large-scale production and technology know-how.
Explosion-welded clad metal was once the largest segment of DMC (about 13 years ago), whose revenue declined from $200mm in 2008 to $87mm in 2019. I read the past filings and believe this was caused by a secular decline of the industry, and there is little info that explains the reasons. Nevertheless, NobleClad still has 20% of the $500mm TAM (per IR presentation) and earned $7mm OI in 2019 with little capital requirement. For the sake of conservatism, I will assume NobleClad's value is zero, although it also has a large exposure to oil and new markets such as alternative energy and solar projects. It should be noted that the pandemic had minimal impact on NobleClad's earnings.
I like DMC as a whole and the management for the following reasons:
Constant: Arcadia is worth 13x 2019 FCF=$540mm, with no growth;
NobleClad is worth $0.
Bull case/Base case: The oil option works out, and Dyna's EBITDA went back to 2019 level:
DynaEnergetics= 5*2019 EBITDA=$450mm; DMC market cap=$450mm + $540mm - $301mm net debt (adjusted for the $187mm extra debt for the remaining 40% interest)=$990mm ($50/sh, 170% upside). Note that this valuation uses a very conservative 5x multiple vs. pro-forma 10x, and assumes no more growth over 2019 EBITDA.
Bear case: oil option doesn't work out, DynaEnergetics is valued at $100mm (post 2014 oil crash market valuation when Dyna's EBITDA was negative, a very conservative scenario); DMC market cap= $100mm + $540mm -$301mm debt = $341mm ($17.5/sh, ~6% downside).
Going Forward: There are three analysts covering BOOM. They estimate 2023 earnings of an eye popping ~$2.37/share, which puts BBOM's forward PE at ~8.5x. Based on analysis above, I believe the estimate is achievable.
In the past year, BOOM was down 52% for no reason. I believe it was caused by the market's irrationality. The Q3 earnings will be released on Nov 3. I believe BOOM can meet or beat the guidance ($160 million sales with 30% gross margin), which can serve as a potential near-term catalyst for stock price appreciation, since Q3 earnings results are a confirmation that Q2 earnings surge is sustainable. I recommend to hold on to BOOM stock as long as oil rig count is below 2019 level and oil prices are above $80.
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Disclosure: I/we have a beneficial long position in the shares of BOOM either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.