DOF Subsea IPO looks like a market bellweather of what financial investors believe…

Successful investing is anticipating the anticipations of others.

John Maynard Keynes

I was always sceptical of the DOF Subsea IPO, any subsea company raising capital at the moment would need an exceptional value story and this never offered that. I saw it as insiders selling out aware of how the future could look, so news that it was canned doesn’t come as a huge surprise. First Reserve wanted out but not at any price, and so the IPO was pulled. Let’s be clear this wasn’t a casual conversation, bankers will have had sounding out conversations with key investors who either gave a steadfast refusal, or said they would only buy it really cheap. The investment narrative is moving to shale in financial hubs at the moment, no one is paying full price for assets at the moment, and as the numbers make clear this is an asset business. The DOF Subsea Q1 numbers also make really clear that talk of a recovery at the moment just isn’t substantive.

DOF Subsea is a good company, and they are strong in Brazil and Norway which strategically is as good as it gets in macro terms for offshore, but they simply cannot be immune to the enormous retraction in demand the industry is experiencing. DOF Subsea also has the DOF problem which they blithely dismiss but which no one can get past: are they a contractors’ contractor or a contractor? As the industry consolidates it is increasingly hard to see someone being able to be both. It is also hard to believe that when all the flexlay vessels come off contract with Petrobras they will be employed at anything like the current rate creating a huge residual value issue on entry for stockholders (unless they were relying on the greater fool theory).

A quick look at at the Q1 results shows why the IPO was always going to be tricky:

DOF Subsea Utilisation Q1 2017

Despite what the Ops guys try and tell you about the boat stuff being black magic voodoo knowledge that simple people can’t understand subsea (and offshore supply) is a utilisation business, just like a hotel. Even at the top end of projects the value added by the marine delivery assets outstrips all the other costs of the SURF installations and therefore the performance of the vessels dictates the cost base and obviously the financial results of offshore contractors. Offshore contractors have high fixed costs on a depreciating asset base, vessel days are “disposable inventory” that if not sold have a set cost. Given DOF Subsea only have 1 chartered vessel so fleet utilisation shown above is clearly declining massively. This dropped straight to the bottom line:

DOF Subsea Q1 2017 EBITDA

It is a really simple business model: when the ships work you make money. DOF Subsea has a load of liquidity and has no immediate issues, but if anything goes wrong in Brazil then there is a massive problem. Petrobras are too long on flexlay capability and are unlikely to simply get rid of Subsea 7 only.

Despite the name and it’s ambitions DOF Subsea is still essentially a supply company:

DOF Subsea EBITDA Segment

Project accounting is notoriously complicated but in short in the six months from Oct 16 to Mar 17 DOF Subsea turned over NOK 1.5bn in subsea project delivery and made only NOK 96m EBITDA (as a rough cash proxy). The cash conversion rate is down substantially from 2016, whereas chartering vessels, by far the vast majority of EBITDA on a smaller number of vessels, drops with remarkable efficiency to EBITDA (c.80%).

I am always perplexed then to read comments like this:

DOF Subsea AS (“DOF Subsea”) and its shareholders have decided to start reviewing the opportunity for DOF Subsea to apply for a listing on Oslo Stock Exchange.
Proceeds from the primary issuance will provide flexibility for DOF Subsea to decisively pursue further organic and strategic growth opportunities and enhance the Company’s competitive position ahead of an anticipated market recovery.
You would think announcing numbers like the above you would want a better explanation before just casually dropping in a market recovery story/theory. Maybe even a data point or two? But no… straight in with this:
The Board of Directors is disappointed with the financial numbers for 1st quarter of 2017, especially with the performance in the North America region and the high number of vessels facing idle time between projects and downtime due to maintenance.
The real problem would appear to be believing that subsea vessels now have different economic drivers to offshore supply vessels. Maybe DOF would be better of just combining with DOF Subsea and accepting its all about scale now? Subsea vessels used to command a premium but not for the foreseeable future, a point bizzarely HugeStadSea have implicity accepted. I note that no ROV information is provided at all. Everyone in the ROV space is complaining about pricing pressure and with 69 systems DOF Subsea are a big player, you can read into that blank what you want.
At some point not everyone can benefit from this increasingly distant, and potentially mythical, recovery. With the amount of tonnage delivered a demand side recovery will also not translate directly into a supply side boom.  Investors paying full price for assets that were ordered for a different era are a rare breed at the moment as it is hard to argue that asset values have not been permanently impaired. Whether this is structural or cyclical downturn is for individual investors to decide (I saw an email last Friday from  the senior management at one offshore company stressing again the fervent hope that the market would turn eventually), clearly in this case investors decided they needed to see a different set of numbers.

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