Founded in 1908 and listed in 1996, Willbros Group Inc (NYSE:WG) is an independent, full service engineering and construction (E&C) contractor serving the oil, gas, power, refining, and petrochemical industries. It provides engineering, procurement and construction (EPC), turnaround, maintenance, life-cycle extension services, and facilities development and operations services to industry and government entities worldwide.
Willbros has developed a brand as a preferred contractor, with a reputation for quality, cost efficiency, and safety over its 100-year history. However, every company claims to have a good brand, but the true test of any brand is its customer base. Willbros has long-standing customer relationships with integrated majors, large independents, utilities and energy companies, natural gas transportation companies, and Canadian oil sands operators, with some of its relationships spanning more than 50 years.
In addition to the diversity of the customer base and the duration of customer relationships, the quality of customers is also critical. Willbros Group Inc (NYSE:WG) is five years into a 10-year alliance agreement with Oncor, initiated in August 2008, making Willbros the ‘go-to-guy’ for most of Oncor’s transmission and distribution maintenance, and construction services. Oncor is a regulated electric distribution and transmission business that operates the largest distribution and transmission system in Texas, and accounted for 15% of Willbros’ revenue in fiscal 2012.
Growth drivers
Growth opportunities are still available for Willbros Group Inc (NYSE:WG) in areas of U.S. oil & gas infrastructure and Canadian oil sands production. According to a North American
Midstream Infrastructure report published by The INGAA Foundation, the natural gas and oil midstream sector will require total capital expenditure of $10 billion per year from now till 2035 to meet projected infrastructure needs.
This is driven by increasing demand for shorter distance pipelines and gathering systems to meet the needs of unconventional production. Also, production from Canadian oil sands are expected to increase significantly over the next 10 years. Peters & Co. Limited, an investment dealer which specializes in the Canadian energy sector, forecasts potential capital spending on new project development and maintenance to peak at $22 billion in 2014. Willbros has the resources and expertise to capitalize on such growth opportunities.
Valuation and financial analysis
Willbros currently trades at a trailing twelve months EV/EBITDA of 12.4 and a forward P/E of 16.8. Given the cyclical nature of the industry, Willbros has a tattered financial track record, with only two years of positive earnings in 2008 and 2009 for the past decade. Its cash flow generation is slightly better, with positive free cash flow in four of the last five years. However, free cash flow is on a decline and turned negative in fiscal 2012.
Although Willbros’ revenue grew by an impressive ten year CAGR of 17% from US$419 million in 2003 to approximately US$2 billion in 2012, revenue growth for the past five years has actually been stagnant. Furthermore, Willbros’ current book value per share at $4.19 per share is only about one-third of its 2007 peak at $13.60 per share.
It is highly geared with a gross debt-to-equity ratio of 147% as at Dec. 31, 2012, but it is making efforts to strengthen its balance sheet. Willbros Group Inc (NYSE:WG) utilized the net proceeds from the sale of its Oman subsidiary to reduce debt by $34 million in January 2013, and is currently on track to achieve its 2013 debt reduction target of $50-$100 million, which will see its gearing drop to approximately 100%-125%.
Peer comparison
Willbros’ peers include Great Lakes Dredge & Dock Corporation (NASDAQ:GLDD) and Orion Marine Group, Inc. (NYSE:ORN). Great Lakes Dredge & Dock Corporation (NASDAQ:GLDD) is the largest provider of dredging services in the United States, and is one of the largest U.S. providers of commercial and industrial demolition services in the Northeast. Orion Marine Group, Inc. (NYSE:ORN) is a marine specialty contractor serving the heavy civil marine infrastructure market, and it provides a range of marine construction services and other dredging, repair, and maintenance services.
Among the three companies, Great Lakes Dredge & Dock Corporation (NASDAQ:GLDD) is only one that is both profitable and dividend paying for the last twelve months, albeit with a low yield of 1.1%. In terms of balance sheet strength, Orion Marine Group, Inc. (NYSE:ORN) is in a net cash financial position, while both Great Lakes Dredge & Dock Corporation (NASDAQ:GLDD) and Willbros are heavily leveraged with debt-to-equity ratios of 96% and 147%, respectively.
Based on enterprise valuation metrics, Willbros is the most undervalued, with a trailing twelve months EV/EBITDA of 8.8. In comparison, Great Lakes Dredge & Dock Corporation (NASDAQ:GLDD) and Orion Marine Group, Inc. (NYSE:ORN) are trading at 13.4 and 32.9 times EV/EBITDA respectively. Willbros’ undervaluation relative to peers is justified, as it is loss making and has the weakest balance sheet.
Credit and accounting risks
Willbros only barely met its financial covenants, the maximum total leverage ratio of 4 and the minimum interest coverage of 2.75 at the end of fiscal 2012. The financial covenants will further tighten in 2013, with the maximum total leverage ratio falling to 2.75 on Sep. 30, 2013.
Willbros’ continued compliance with certain covenants in its credit agreement is contingent on the use of proceeds from the successful disposition of its non-strategic assets to reduce its indebtedness. Willbros had material weaknesses in its internal control over financial reporting in prior fiscal years, which usually represents a serious red flag.
These material weaknesses identified led to the restatement of its previously issued consolidated financial statements for fiscal years 2002 and 2003, the first three quarters of 2004, and the first three quarters of 2011. Although Willbros reiterated that all of these material weaknesses have been successfully remedied, there could still be lingering doubts in the minds of skeptical investors.
Conclusion
WhileWillbros Group Inc (NYSE:WG) has the lowest EV/EBITDA valuation among its peers, the undervaluation is warranted, given its continued losses and weak balance sheet. Moreover, Willbros faces additional risks in terms of non-compliance with credit covenants and past material weaknesses in its internal controls.
The article Willbros: Low Valuations Insufficient to Compensate for Risks originally appeared on Fool.com and is written by Mark Lin.
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