Conrad reported results for the third quarter of 2014 last week, and unfortunately it contained a bit of a nasty surprise since revenue was down 9.6% compared to the previous quarter and net income took a bigger hit and went down 34.1%. The backlog also decreased 22.0%. This is obviously not a good development, and not surprisingly management’s discussion of the results have a cautious tone compared to the previous quarter:
Although we are optimistic about the long-term prospects of our business, we also take note of near-term risks. Current declining oil prices and a decrease in demand for tank barges used to transport petroleum products produced from shale plays lead to some uncertainty about our shorter-term demand and margins.
Although bid activity has been good and we are pursuing many opportunities, we have not signed contracts as anticipated which is leading to gaps in our production schedules.
Luckily the drop in earnings isn’t as bad as it looks from the surface. A bit buried at the bottom of footnote #2 we learn that Conrad recorded a $2.2 million provision for unprofitable contracts. This cost is fully recognized as soon it becomes evident while earnings are recognized based on the percentage of completion method. This heavily penalizes the earnings of the current quarter with a cost that should not reoccur (and is not necessarily incurred in this quarter). Without this item earnings would have dropped more inline with revenue: ‘just’ ~13 percent instead of 34 percent.
The Company recorded total charges of $2.2 million for the quarter ended September 30, 2014 (and no charges for the year ended December 31, 2013) in cost of revenue to reflect revised estimates related to anticipated losses on uncompleted vessels in progress in the repair and conversion segment. The offsetting credit was recorded in costs and estimated earnings, net in excess of billings on uncompleted contracts. As of September 30, 2014 and December 31, 2013, approximately $2.2 million and $0, respectively, of this provision are included in costs and estimated earnings, net in excess of billings on uncompleted contracts.
At the same time management is also seeing new opportunities:
Management continues to engage in a detailed business planning process to identify potential uses of the Company’s cash. Although we have experienced a decline in demand for inland tank barges, we have also experienced increased opportunities to produce different types of vessels for emerging markets. Some of these vessels would be larger, take longer to start production, and take longer to complete than vessels we have constructed in the past, and some may require additional capital expenditures. Management is pursuing and evaluating these opportunities and intends to take them into account in making a recommendation in the near term to the board regarding the use of the Company’s cash.
These new opportunities might also explain why the company didn’t declare a dividend this quarter. The past two years Conrad paid a 2$/share dividend at the end of the year, and while the dividends were not classified as regular dividends I was expecting something similar again since they now have more than $10/share in cash. While a dividend would have been nice I don’t mind not receiving one this year. I do trust Conrad’s management team to do something sensible with the cash, and that is the important thing.
Author is long Conrad
Great post! I have been following conrad for a few months. By the way what valuation method do you use when valuing conrad? What kind of intrinsic price range do you have for this company?
It’s a though question how to exactly value the near-term risks of their business. Taking the average income of the past 5 years and throwing a 10x multiple on that seems pretty reasonable/conservative to me since this does include the aftermath of the general financial crisis and the BP oil spill. This would imply a business value of roughly ~$200 million. Add $64 million in cash and we are talking about $44/share.
Yeah I think that one way to value it. So you don’t factor in accounts receivable or inventory at a discount in the calculation because that’s assuming the liquidation value I take it.
Yes, stuff like that is only appropriate if you want to calculate liquidation value. Conrad is trading way above liquidation value.
By the way besides reading the 10qs and 10ks do you read anything else to enhance your knowledge about the business and industry?
Not very actively, but try to keep up a bit with related news (competitors, oil industry etc)