December 7, 2021

Price at Initiation: $2.01

Average Daily Volume (3month): 35K
Issued and Outstanding: 45,316,400
Options: 4,531,640
Fully Diluted: 49,848,040
Market Capitalization: $100M CAD / $79M USD ($7M post-financing)
Insider Ownership: 44%
TTM Revenues: $143.8M CAD / $113.2M USD
TTM Net Profit: $17.1M CAD / $13.5M USD

TTM Adj. EBITDA: $35.4M CAD / $27.9M USD

P/S: 0.70x

P/E: 5.9x

P/EBITDA: 2.8x
Debt: $13.1M CAD / $10.3M USD
Cash: $20.1M CAD / $15.8M USD

• Very inexpensive valuation despite growing and profitable business
• Literal picks and shovels play on cyclical upturn so not tied to any commodity or company
• Valuation makes a re-rating more than likely if it can maintain growth trajectory or continued growth puts the company in play

Geodrill Ltd. is the provider of drilling services and rigs to the mining industry. The company was founded in 1998 and has predominantly grown its operations in West Africa, with recent expansion into Egypt and South America. With now 70 surface and underground drills available to customers, the company has eight different types of drills depending on the scenario but has predominantly focused on multi-purpose drills that can both reverse circulate (RC) or diamond core. Reverse circulation is more efficient and productive, producing core chips while core drilling can go deeper and creates long core samples for evaluation. This flexibility works for customers in being able to tailor their drill plans while also being relatively inexpensive to operate with less staff required.

Geodrill has a main company owned workshop in Ghana that has a backlog of inventory such as drill rods and drill bits as well as a trained crew to service company rigs. The company has CNC machining capability and has been able to build additional rigs themselves at a 50% discount to current market prices. The Ghana operation also serves as a training hub for Geodrill staff. As its operations expanded, the company has established satellite shops in additional geographic areas to support drills on customer sites. This vertical integration has served the company well as its supply chain has been very robust, especially through the recent COVID-19 driven restrictions. Geodrill has now grown to be the largest driller in Africa, and the 7th largest overall.

Founded by the current CEO Dave Harper in 1998, the company has grown organically from 1 rig to the current level of 71. To do this, the company has relentlessly focused on the customer’s needs and has adapted its operations to meet this. Their first customer from 1998 remains a customer to this day even while revenue has grown 40x during that time. The company has eschewed debt; though utilizing it at start-up, the company paid it down until it wanted to accelerate its growth. In 2010, the company went public to push this growth and to gain access to the capital markets. The company has continued to grow even during downturns. During the 2012 downturn, Geodrill saw its utilization drop from 65% to 30% while still maintaining profitability; although this was weak, the industry at large fell to 15%. The company has recently expanded to Egypt and South America, namely Peru, in response to customer requests as well as to diversify its customer base. Senior miners make up roughly 70% of the company’s business with juniors at 30%. There is some concentration to its revenue base with its top 3 customers making up more than 50% of its revenues through the first half of 2021. According to management, its rigs are close to 100% committed at this point (70% utilized) as it has drills either under maintenance prior to contract, in transit or awaiting contract start.

The drilling industry is understandably very tied to the mining industry. However, it is not necessarily tied to strong pricing environments but more tied to strong financing environments. These are often tied together as strong pricing allows companies to raise funds. If we look at the chart below from OreInc, even though financings are down, they are still strong and there is a lot of capital that has been raised over the last few years. Roughly 50% of all exploration costs go towards drilling so junior financing is a key driver for driller business.

These predominantly exploration-based financings are only part of the current environment; producing miners are making substantial cash flow in this environment now but need to continue to replace their reserves. Explorers and producers alike have been able to raise money during 2020 with share prices higher so despite a pull back in 2021, there is a lot of capital available for drilling and generating news flow, which bodes well for the drilling industry.

Utilization of rigs is key metric for the industry; there will always be some extra supply simply due to logistics of keeping rigs up and available as well as being in transit to and from clients. Geodrill management indicated that rig utilization is hitting near 50% for the industry which gives them some pricing power to at least pass on increased costs due to inflation to customers. Below this level, customers have more ability to influence pricing. Drilling rigs can last between 30 to 40 years as they are not complicated in their operation but do require upkeep, maintenance, and reinvestment to keep them operating.

Drilling contracts can range anywhere from two to three months to upwards of three to four years. Senior miners traditionally will book out longer due to better capital availability and securing cost control, but some contracts can be simply for a season. Flexibility is key in the industry, especially during downturns. Customers are generally on net 30 terms, but generally receive payment within 45 days. It is also not uncommon to receive equity from smaller companies in lieu of cash.

There are number of drilling competitors, both public and private, that compete with Geodrill. As noted earlier, Geodrill is the 7th largest by revenue and largest in Africa based on current year performance. The largest player in the industry is Boart Longyear with Major Drilling in 2nd place. The industry in general is quite fragmented and mergers and acquisitions are quite common. Although from a few years ago, there are several players similar in size to Geodrill:

The company was founded by CEO Dave Harper in 1998, who has 41% ownership of the company (total insider ownership sits at 44%). At the time, West Africa was where companies would send tired and old drills that were near the end of life. Mr. Harper wanted to exploit this lack of investment by investing in both better equipment and customer service. Now 63 years of age, Mr. Harper has spent a quarter of a century living in the area and raising a family there. Mr. Harper is well versed with the African continent as are much of the management team. COO Terry Burling has been with the company for 28 years in various roles, while the executive GM has 25 years of experience in West Africa as well. The Board, excluding the CEO, is largely populated with members with financial experience, including one with substantial exposure to the mining industry. This complements the management team quite well, who are more versed with the operations of a drilling company rather than the capital market component. Mr. Harper has been through three different booms and busts in mining over this time so has plenty of experience navigating the cyclicality.

As note earlier, the company tries to avoid debt as it can be a detriment in cyclical industries; Geodrill only raised significant capital when it was looking to grow with its public offering in 2010. All Geodrill’s growth has come through organic investment to grow its drill fleet, which has been the main use of the company’s cash generation. Geodrill has begun some shareholder initiatives utilizing a NCIB share buyback at times as well as instituting a semi-annual dividend. The company chose to introduce a small dividend that was well covered so it wouldn’t have to cut it in bad times; the dividend is well covered by cash flows, and it is not hard to see that it could be enhanced in the future.

Management has been consistent with its plans going forward: grow organically and concentrate on keeping its customers happy. The company started in West Africa due to the lack of good equipment and service at the time. The region grew as Geodrill did, evolving from just explorers to developers to senior miners as well. If combined, Africa would be the 2nd largest gold producer in the world, making it a solid base for the company to base its business on.

Management has indicated its growth path remains through organic growth. The company has recently expanded into Egypt with a new client expecting to start operations in Q3. Geodrill has also put its first rigs into South America, Peru specifically, at the request of an existing client, though Brazil has a large mining industry as well. As a rule of thumb, Geodrill looks to expand its rig count once it reaches 70% utilization which the company is right up against, excluding backlogged jobs. Management has indicated it can see itself reaching 100 rigs within two to three years. This steady growth has allowed It to build long-term relationships with both clients and vendors alike; the recent COVID issues show cased how important it is for supply chains. Similarly, management pays leading levels of compensation with continuous training for its employees which has helped Geodrill avoid excessive turnover.

We believe Geodrill will continue to grow organically. Management has noted they have looked at M&A in the past. However, they noted that any M&A needs to fit with the standardization and compatibility of GeoDrill’s existing equipment even with 8 types of drills. Management is already looking at new markets in Egypt & South America so this seems a clear pathway for its growth in the near to medium term.

In giving a sense for Geodrill’s valuation, we can look at the leaders in the industry as comparatives, which we do below:

Catalysts

Continued execution should continue to provide catalysts for the stock. The recent Q3 earnings released on November 11, 2021, despite being strong, resulted in a near term sell down on the stock, though a lot of the selling pressure has been industry wide. The more sustainable their earnings prove going forward, it is more likely the company’s shares can re-rate.

Capital return would be another potential, either through augmenting the dividend or repurchasing its shares which are trading at a substantial discount.
Finally, the ultimate exit will be a purchase by a competitor at some point. With majority owner and CEO Harper in his 60’s now, an exit would need his sign off, but seems to be a likely scenario in the medium term.

Risks

One risk to the company is a downturn in commodity prices. Lower pricing will impact the ability of producers to continue drilling and will also impact the ability of companies to raise funds for either production or exploration.
In the short-term, there could be a potential spike in capex to build out their South American operations if they do the same as they did in Africa. Though a long-term benefit, the company may need to fund support bases and repair facilities to continue their strategy which would be a drag on the company’s finances.
Finally, the company has an outstanding tax assessment from Burkina Faso for $9.7m USD related to an assessment by the government that they had a permanent establishment in the country. Geodrill has contested this and has filed to have it discharged.

We believe shares of Geodrill offer a very compelling risk/reward scenario at current prices. The shares represent a very inexpensive valuation despite growing revenues and profitability. This “picks and shovels” play offers investors a lower risk way to participate in an upturn in the mineral commodity cycle. Current valuation, especially when compared to industry comps makes a share price re-rating more than likely especially if it can maintain its growth trajectory and/or becomes a take over target. We are buyers of shares of GEO.T in the SCD Select Portfolio up to $2.20