Description

Petroleum Geo Services (PGS) L + 700 term loan trading at ~80 offers an attractive low-hurdle set-up (vessel market S/D imbalance is completely under-appreciated by the market and provides >$100 - $200MM of variance versus market expectations), downside well protected from the data library (TGS, competitor, bid on the library ahead of PGS maturity extension ~6-mths ago that provides significant downside support and TGS is likely still hanging around the hoop … cash + vessels w/ of PP&E value provide further support) and more than compensates for the risk (>20% 2-year-par, and amortization pays down ~41.5 pts on ~80 px over next 2.5-years) and, importantly, there is increasing evidence of :

1) Low-hurdle set-up: Hated on industry is an understatement (beyond fatigue at this point) … but will be “less hated” on in 6-mths once the market better appreciates both the S/D imbalance on vessel portion of business. Discussed in more detail below, the vessel market is effectively a duopoly market (PGS and Shearwater) given Polarcus supply is out-of-the-market – the market does not fully appreciate the impact a -20% reduction in global vessel supply is having on the seismic industry (lot of recent data points suggest S/D is extremely out of balance currently). Given a strengthening demand backdrop (versus 2020), and -20% less supply and what was already a relatively balanced S/D balance heading into early 2020, PGS vessel segment is in the early stages of a strong recovery and has the potential to generate >$100 - $200MM of profitability upside (current EBIT margin negative, versus a balanced market average of ~20%+ EBIT margins, requires much higher margin to induce PGS to bring back online additional vessels).

Additionally, TGS (bid on data library in August 2020) still very much covets the library and they were opportunistic in placing a low-ball bid ahead of PGS addressing its capital structure and having runway through 2024. Now that PGS is on stronger footing w/ a 2024 TL maturity + TGS is more arguably more desperate now for growth given their outsized GoM exposure (and their strategy for growth has not changed), TGS is likely still hanging around the hoop and will likely be opportunistic if their currency strengthens

2) Downside well protected: Data library is likely worth in excess of $900 - $1.2Bln (1.5x – 2.0x stated BV) and the TL has all of the multi-client library collateral (in comparison, size of TL is $873MM) and there should be >$325 - $350MM of cash on BS by YE 2021. Worth noting that TGS put in a low-ball bid less than 6-months ago (ahead of PGS extending maturity on RCF) at $600MM. Even using that opportunistic bid (significantly undervalues the library as ~2x BV is probably more indicative of where TGS might be willing to pay and factoring in cash (and assuming NO value for the vessels), the TL is >1.1x covered. Remaining debt (export financing) in the structure is tied to the vessels which provide optionality to the business in the tune of >$100 - $200MM additional FCF.

3) More-than-adequately compensates for the risk: Trading in the ~80 context, TL offers a >20% 2-year-par and has mandatory amortization payments in that de-risk the TL by ~41.5 pts through Sep 2023 ahead of the 2024 maturity, effectively creating the business at less than $350MM post the amortization payments in 2.5-years. Very attractive features to the TL that put it in pole position and require PGS to generate FCF, use its >$325 - $350MM of cash to pay down debt and possibly issue more equity (as they have done repeatedly in the past) to help deleverage (market cap is currently ~$250MM). The ECF (noted above) has no teeth and has collateral from 4 vessels.

PGS acquires, processes, analyzes, licenses and sells seismic data to oil and gas E&P companies. PGS has two business segments: 1) Multi-client (MC): Currently, PGS generates most (if not all) of its profits from multi-client work. MC unit economics largely mimic that of TGS and TGS historically trades at >2.5x BV. PGS MC BV is $616MM and is likely worth 1.5 – 2x ($900 - $1.2Bln). 2) Contract: In contrast to MC, PGS currently generates negative profits on its Contract (i.e. vessels) business. However, in January, Polarcus filed for BK and is effectively out of the market (provides at least 12-months of visibility on an extremely tight market). Polarcus represents 20% of global supply and as long as demand is not falling by -20% in 2021E (expect 5-10% growth), the S/D picture is extremely imbalanced moving forward. Historically, vessels should generate EBIT margins of >20% to induce additional supply, this places PGS in a strong position to generate >$100 - $200MM of additional profitability that the market is ignoring.

PGS will likely generate >$50 - $100MM of FCF in 2021E and the vessel reversion to mean (currently EBIT margin negative, required >15 - 20% margins to incentivize supply) provides >$150 - $200MM of FCF upside over time. The current cash balance of $234MM is under-stated by $25 - $50MM (working capital release from YE data library sales in December) and will likely be north of >$325MM of cash by YE 2021 (11-mths). Noted below, factoring in the Export Financing Facility of ~$300MM, there is under $1.2Bln of total debt and less than $850MM of ND at YE 2021. At ~80, the creation value is closer to$600 - $625MM net of cash. The ECF has collateral on 4 of the newer vessels (there are 2 other new vessel and 7 older vessels outside of their collateral pool that the TL benefits from) and the ECF matures in 2025 - 2027. In contrast, the TL has the library ($616MM of BV on BS at YE 2020), cash (likely >$325MM at YE 2020) and the excess vessel value (conservatively estimate is worth $200 - $250MM and that assumes a -50% haircut on new vessel PP&E and a -90% haircut on the old, effectively assume scrap value). Summary cap table below and uses management projections from mid / late 2020 when oil prices were significantly lower and no clarity on Polarcus -20% supply reduction to global vessel market which occurred in early 2021. Both of these dynamics likely put upward pressure on the earnings power profile and ~$400MM and ~$500MM of 21E and 22E EBITDA are likely under-stated by >$50 - $150+MM:

Re: downside protection, waterfall below highlights 2 boxes of value. The ECF has its own separate collateral pool of 4 new vessels (box 1) and the TL has its own collateral tied to data library + cash + remaining vessel value (box 2). As noted, even if we assume 0 value to the vessels (there is a significantly optionality to this segment as discussed esp given the S/D imbalance) and 0 value to the cash ($325-$350MM, that will be used to pay the amortization of ~41.5 pts on the TL over next 2.5 years), the data library alone more than fully covers the TL (library worth $900 - $1.2Bln versus TL of $873MM).

Risks: There is extreme negativity around PGS, seismic and oil at large (for very good reasons). IMO, most of the negativity is rear-view oriented and the market is missing the resilience of the MC business (library BV of $616MM is extremely high quality and coveted by TGS) and the optionality of the Contract (i.e. vessel) segment.

In the past, the market was concerned about the runway of the business given RCF maturities. This was addressed and finalized earlier this week and the business has runway through June 2024 maturity (simple capital structure at this point).

Catalyst

Vessel market pricing power (Summer season data pts)

Additional clarity from TGS on data library interest (sense is they are still hanging around the hoop)

FCF generation and debt amortization payments of ~41.5 pts (on ~80 entry) over next 2.5-years