Mitchell Services Limited (MSV) Earnings Call Transcript & Summary

Good morning, everyone, and thank you this morning for joining the Mitchell Services Q3 Quarterly Update. Today, we have Andrew Elf, CEO; Greg Switala, CFO; and joining us as well is Nathan Mitchell, Executive Chair. We'll have a Q&A at the end. So post Andrew go through the update, I can answer questions at the end. Andrew, over to you. Thank you.

Thanks very much for the introduction, Allen, and welcome, everyone, and thanks for joining us today. We'll just do again, similar to previous months, a little bit of a quick update on the quarter and then open up to questions and make it more of an interactive session for everyone. So I think just starting at the top of the quarterly there, I think, again, the heading there, strong financial performance at the end of Q3 and expect it to continue into Q4 and beyond, which is a positive and something we certainly flagged previously with shareholders and potential investors. And then on the quarter itself, again, we've -- in the half year, we really spoke about some of those factors in detail that impacted the first half, things we've invested in and won and things that impacted the business. But pleasingly, as we say there, the investment into replacement projects and service offerings has been made, and we're starting to see us come out of that now. Still impacted in Q3 with mobilization costs and weather and delays, obviously, the traditional Christmas New Year period. But pleasingly, towards the end of the quarter, as we expected, starting to perform better from a financial perspective and some of those mobilization costs are dropping away, which is a real positive thing. On the second page, we put a little bit more detail in than ordinarily. We would given the disparity between cash and EBITDA, just in the interest of transparency to really show people why that's moving. Effectively, given that better performance towards the end of the quarter, you've sort of got a temporary working capital requirement within the business, and Greg is certainly happy to take some questions in regards to that at the end of the presentation here. But we really couldn't be much more transparent than that. And obviously, we expect that to sort of normalize more so at a future point in time. So we've included there as well the year-to-date results. There's obviously coverage out there on us from QValue and Morgans. And I'd certainly refer people to that if they're looking at what do they think that the year for this year may look like or the next year ahead. On the last page of the quarterly document, we've got a small update there on the Loop decarbonization business. Very pleasing to say that, that business is performing in line and above expectations, both from the drilling performance perspective, but also a business perspective with a couple of clients signed up and the second client now going through the engineering phase. So I certainly think that, that part of the business is a genuine growth opportunity for us. And it's early days, as we say, but we'll keep chipping away, and it's looking pretty good at this stage. And then lastly, on the outlook side of things, again, we flagged that we've had some challenges we faced. We've responded. We've managed them. We're starting to come out the other side. The numbers were better towards the end of the quarter, as we say. They're looking like it's going to be a better quarter again in the last quarter and a good run rate heading into next year. And again, important to note in this paper here, we say based on current contracted projects, we expect the rig count to be on or around 70. So we don't necessarily need to win more to get to that point. I think that's a really important point to make. And then how could I go through this without touching on gold? Obviously, gold is about 45% of our revenue. So we do surface drilling work, underground drilling work in that gold space. And given the record prices in that area, we are starting to see increased inquiries come through. I wouldn't say it's translating into meters yet, but certainly, the level of inquiry is increasing, which is a positive. So that's just a little bit of a summary and a wrap-up of the quarter. Nathan, I'm not sure if you've got anything you'd like to add or just happy to open to questions.

No, [ I'd be happy to ] open to questions.

All right. Okay. Thanks, Allen. We'll open up for questions.

Thanks, Andrew. Okay. First one is from Daniel. How much additional working capital investment may be required in the fourth quarter of FY '25?

I'm happy to take that one, and thanks, Daniel. I think if you sort of compare that $28 million to legacy levels, that's certainly up there. And when I say legacy levels sort of over the last 18 months to 2 years. And so I sort of believe that that's about the level it will maintain it at least for the next quarter. So to answer the question, don't expect an addition to that. That inventory of $14 million now represents fully stocked sites at the likes of Lihir and [ Decarb ] and all those sites that we've spoken to previously in terms of the need for that additional inventory. I think $18 million in trade payables is probably about right as well. And then subject to clients continuing to pay on time, that sort of low to mid-30s, thereabouts. Pending revenue, of course, is probably a reasonable number as well. So we make the point in the quarterly that we expect it to normalize, and I think normalize from the next quarter as in no additional dollars from the $28 million.

Another question from Daniel. Are there any potential legislative changes proposed by either the government or [indiscernible] ahead of the forthcoming election? If we do get a change of government, do you think this presents any potential risks to the State Government legislation as it stands?

I haven't seen anything in the media that suggests there's going to be changes from either party. That's not to say that I haven't missed something, but nothing I haven't seen.

No, I haven't seen either, and there's been no feedback yet from our clients.

No. So I think I'd say probably the best way to look at it at this stage would be same, same in all honesty.

Thank you, Andrew. Can you provide some more color on what you're seeing in the gold sector in terms of commentary around improving demand for the drill line?

Pretty straightforward, pretty simple. They're absolutely killing it if they're producing and or they should be if they're not, they're in the wrong game. But I think they're just making that much money that they're starting to reassess their drilling budgets. This is from a producer perspective. And those discussions are sort of just starting. A lot of people running Australian financial year are well and truly into their budgeting and planning process. So we're sort of hearing that there may be some increase in budgets into next financial year, which is a good thing given how the producers are performing. And sort of the smaller end of town, the juniors, I think equity markets have been a little bit better, but still taking time for the meters to come. They're not well and truly up and running firing with active tenders out yet. So I think best way to look at it, producers are talking about more meters. Equity markets have improved slightly for juniors and both of those things leading to increased inquiries, but not meters yet.

In regards to, I guess, coal sector clients, the conditions there, is their demand proving resilience despite relatively weak prices at current?

It's certainly challenging in the coal. Obviously, prices are down and obviously, you got royalties in Queensland, which make it a little bit harder, too. But it's probably flat. It's -- there's nothing too exciting happening in that space in the coal. It's good, steady, ongoing work that represents probably 30% to 40% of our revenue, and it's very closely linked to the operation of those mines or very much near mine work. So we've got some good clients in that space, and they're still active and they're still going well. But probably fair to say, Nathan, they're not doing anything they don't have to do.

No. I think the thermal guys are either at par or underwater, which we don't do a lot of work in the thermal industry. Coking coal companies are still doing okay, but I think all of them are certainly not as active as they were previously. Obviously, Anglo and the Peabody deal has yet to be resolved, but we haven't heard anything either way about what's happening with that. So obviously, that was a large chunk of our business, but we've had to pivot away from that over -- we talked about that over the last 12 months -- 6 months. So that's obviously -- we're coming through that now. As you can see, as Andrew said, in this quarter, so it's taken a bit to sort of swallow and push through. So there's 2 obviously active mine shutdown, one still going. So we're not sure what's going to happen with Anglo and what's going to happen with Moranbah North. But obviously, coal prices being suppressed doesn't help that. But as Andrew just said there, we're still active in that sector, and it's still going well, still represents a good part of our business. I think coking coal is still here for a while. So no doubt things will hopefully increase in the future.

Yes. But I certainly think that the diversity that exists within the business has held us in good stead over many years now. Gold is up, coal is a bit flat, and we've seen it the other way as well.

Yes.

So that's good. And the rigs can move in many instances between the 2 commodities as well.

A question from Daniel. Can you remind us what D&A should be in FY '25 and why this has been relatively stable as CapEx has tracked below D&A?

In terms of the first part of that question, sort of somewhere around the $25 million or thereabouts D&A in FY '25. In terms of the second part, the D&A on a sort of monthly basis is certainly decreasing. It does take a little bit of time to sort of fully unwind. So I suppose if CapEx from year 1 to year 2 decreases, you don't automatically see a corresponding decrease just given the nature of what was purchased in the previous years and the length of time it takes to depreciate, but we are seeing a reduction. The other part of that equation is just with the LF160s previously purchased, I suppose CapEx in recent years comprises a lot of sort of ancillary gear drill pipe as an example, as opposed to drill rigs in previous years. And that sort of equipment depreciates at a quicker rate than the rigs. So you've got a bit of -- there's a bit of a mix element there, too, in terms of depreciation periods. But it will -- at forecast levels, it's due to decrease, maybe just for those reasons, not at the same sort of dollar value rate as the CapEx goes down by, I suppose.

A question from Neal. Can you explain how the Loop activities differ from your standard underground degas drilling?

Yes, I think they're very different. It's essentially different drilling rigs, different drill pipe, different bottom hole assemblies, different directional control equipment. I think the fundamental concept of drilling a hole horizontally is the same. But apart from that, they are very different technologies. The equipment we've got here now is the first of its kind doing what it's doing. So it's a very different offering to underground coal degasification.

Yes. And that Loop business, it's important to remember, it's not just a drilling business. So we're actually offering a full service to the clients, integrating health, safety management, operational environmental risk. We're actually dynamic gas modeling engineering work. We're looking at what is their potential safeguard liability is going to be helping them with those submissions as well as actually doing the drilling in the field, potentially gathering gas amongst other things. So it is a genuine full-service offering to those clients to assist them with their safeguard emissions reporting and management. And as Nathan says, a very technical and different type of drilling, which so far has gone fantastically well.

Next question, this one is for you, Nathan. With the transition year FY '25, can you provide any commentary on how you're thinking about the [indiscernible] [ 1 quarter ] to go?

Obviously, I think we've got -- we've had a fairly -- you can see the numbers. They're not great number coming out of Christmas and then -- and looking at the last 2, January, February is not great. March was a much better month for us, as I said before, swallowing all those issues that we had and then having the extended rain, which sounds like a broken record. But if you look at the numbers, they're not great. So we would hope and we expect the next quarter to be much better. So I think we'll just have to see how good it is based at the end of the year. I think it's a moving target at the moment just based on where things have been in the last 3 months. So I can't say at this stage until we look at the next month and the month after that.

Thanks, Nathan. A question from [ Tom ]. Can you comment on what you think a steady-state EBITDA margin for the business should look like at the plus 70 rig operating run rate given the expanded service mix?

I think the best way to answer that is just to go back in time and look at the previous financial year where it was around that level. And I think from memory, Greg, it was probably high teens.

Yes.

So again, we've always spoken to everyone and said from an aspirational perspective, we would like to be 20% plus EBITDA. Obviously, putting in specialist drilling like the decarbonization drilling can help you achieve those numbers. Some of the specialist geotech work that we do on various projects like Snowy Hydro Scheme or other specialist geotech projects like Sydney Metro, those things they come and go. But again, it's highly specialist work with good returns. So we're always trying to get that percentage up. It can make a big difference to us. Obviously, when that number of rigs is running, there's good leverage in the business and those additional rigs are dropping down to your EBITDA because you've got your overheads covered. So yes, I would say that realistically high teens is a good number to work to, but would we like to do better? Of course, we would. Have we done better? In some quarters, we have. But yes, from a modeling perspective and looking out high teens.

Thanks, Andrew. A question from [ Brad ]. Can you speak to the competitive environment for drilling?

Let me talk to that. I think it's probably been a tough 6 months for most drilling contractors. I think we were in a very good position with our debt piece and buying the equipment when we did and paying it off. And I think others are struggling just with where the world is at the moment between China, U.S., Russia, all the other things. If we think about what's happened in the last 6 months, the world has turned over probably 3x in such a short period of time. And we forget about that, the excess coal has been flowing from Russia to China, subduing prices. In a perfect world, I think we would -- yes, we would be at a normal run rate, but it's far from perfect at the moment. But overall, I think we're seeing our competitors are probably not as good a position as we are in order to sort of weather this, and we've been able to move pretty quickly from coal to minerals as we've seen. And obviously, there's -- we've got to go through a dip to come back out. So fundamentally, I think we're better than our competitors. We're certainly in a better position for our competitors. And I think it's -- for that, it will be a better -- short term will be better for us than others, I think.

Thank you, Nathan. Another question from Daniel. This one is for you, Greg. Can you clarify when cash tax payments will recommence with the utilization of COVID era instead of asset write-offs?

Yes. So just in summary and just taking a look back during that COVID period, all those LF160s as well as other CapEx was purchased in those years, whereby we were allowed to write it off instantly from a tax perspective, and we did that and hence, haven't paid tax over the past number of years. As is highlighted in the annual report, it's essentially a temporary difference, not a permanent difference. And so with the losses associated with those write-offs having been fully utilized at the end of June 2024, we now -- we will now be in a scenario where there will effectively be a depreciation add-back from a tax perspective. So the FY '25 tax return will be the first sort of tax paying year, I suppose. And the easiest way to think about how that works at least for the next couple of years is there will be approximately $12 million of depreciation -- accounting depreciation that will not be allowed as a tax expense because it previously has been under the instant asset write-off. So make your own assumptions around accounting profit before tax and then add back the $12 million in depreciation will give you the taxable income upon which tax will be paid.

Thanks, Greg. A question from [ Roger ]. What are the like-for-like rates on contracts being won down versus a year ago?

So I think probably first off, worth pointing out that all legacy contracts with old rates, pre sort of inflation spike have been reset. There's no old legacy contracts out there now. But to be honest, rates are probably flat. I think typical contract length on the mine sites that we work at are sort of 3 years plus/minus. Most of those contracts have rise and fall clauses contained within them on the anniversary of the contract. So you may get a inflation increase, shorter contracts 1 year, 2 year, maybe fixed rates for 1 or 2 years. So really, to answer the question, I'd say the rates are probably flat, but you're getting inflation. And the primary increase in costs that we foresee in the year ahead is probably labor more than anything, to be honest.

Thanks, Andrew. Another question from Brad back on [ WIP ]. Can you provide some more color around how the current WIP contracts has exceeded expectations?

I certainly think that there were question marks about the ability -- because obviously, the rig is sitting in the pit of the coal mine. And there were question marks about the ability of the rig to drill through the face in broken ground and bad ground and then get out and drill a good well without any issues. We overcame that. Question marks on some of the techniques and methodology, which have been proven before, but got across those, but drilled quicker than we thought as well. And then the quality of the data that we're getting and providing to the client, excellent and the overall service of the team with some of that reporting, engineering and other things has been very good, too. So all in all, very, very happy. The performance of the rig, given it's a new type of rig that we've got has been excellent. So sometimes you get a new type of rig and you're a bit nervous that it may not perform, but this one has had negligible issues. So sort of all those little things that make a difference to provide a good service to the client have been positives. And it's a small industry, everyone is pretty close and the word has spread, which is a really positive thing that it's been really good. So that sort of bodes well for the future.

Perfect. Thank you. Final question on the chat here. Any update on the buyback?

No, nothing at the moment. No. No. It's -- the price is fairly low as we all know, but not at this stage. I think based on our numbers, I think we sit tight and focus on being a better drilling business going in the last quarter.

Yes. I think it's worth adding that there's been, I think, Greg, probably $4-odd million of shareholder returns so far this financial year from the final dividend from previous year plus buybacks.

Yes, about that if you include the final from the previous year.

So that has been made this financial year as such. And then to Nathan's point, we've got to see some business delivering some NPAT and then we will have some more money to decide what to do with it. And then it's up to Nathan and the rest of the Board to decide what they do. But got to just keep delivering some decent numbers into the last quarter and then hopefully give the Board a good problem to think about.

Thanks, Andrew. That's the last of the questions now. If you have any further questions, please talk to me now, quickly address them with the team. I think that concludes today's webinar. Andrew, Nathan, Greg, thank you very much. As Andrew said, research is covered by QValue and Morgans. If there are any questions, feel free to reach out to myself, and I can sort of refer back to management. This is also being recorded, so I'll come back to you individually in the recording. Again, thank you guys. Yes.

Thank you so much. Great job.

Thanks everyone. Thanks, Allen.

Yes.