Cactus Part 1: Growth Kicks In But Low Rental Price Base Holds Cactus Back

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Additions to the public and large private customers and increased inventory utilization will lead to higher topline and margin expansion for Cactus. It aims to record its first product revenues in the Mid-East and South America by 2024. Low rental prices and stiff competition in a fragmented industry would mitigate revenue growth.

Although free cash flow declined in 1H 2022, zero debt and robust liquidity make its balance sheet safe.

Prospects And Challenges

WHD's Investor Presentation

Cactus (WHD) manufactures wellhead and pressure control equipment for oil and gas wells used in the drilling, completion, and production phases. It operates in unconventional onshore shales, including the Permian, Marcellus, Utica, Haynesville, Eagle Ford, Bakken, and SCOOP/STACK. It derives revenues from products, rentals, and field services. So, the number of wells drilled and the US rig count profoundly impact the company's operating performance. Outside of the US, the Middle East is an important market. In Q2, it started a discussion with a major NOC and expects to complete equipment testing this year. The project is expected to be commercialized in 2024. It also plans to book its first product revenues in the Mid-East and South America by 2024.

WHD's Investor Presentation

One of the challenges that WHD has been facing for some time is the steep drop in rental prices during the energy price crash of 2020. Although equipment rental prices have begun to recover, it is still low. On top of that, the company operates in a fragmented industry. While it may continue to gain market share with the private operators in Q3, the large publicly traded customers can outgrow the private operators in Q4, going into Q1 2024. On the demand side, the company's management believes that many of its private customers have already seen gains in 2022 and are unlikely to see much benefit for the rest of 2022.

The Q3 Guidance

In Q3, WHD's management expects the addressable market, described as rigs followed, to increase by 5% following additions to the public and large private customers. As a result, the Q3 product revenue can increase by a "mid- to high-single digits" percentage. In rental, revenues can increase by 10% while the EBITDA margin can stay relatively flat. The share of field service revenue in the total revenues can grow from 20% in Q2 to 24% in Q3. Here, the EBITDA margin can expand slightly, too.

Analyzing The Industry Scenario

Although the current energy market is volatile, the demand side has held its ground, while the supply side is still shaky. According to the EIA's estimates , crude oil production will likely increase by 3.3% in the seven critical shales in September 2022 compared to the current output. Crude oil production increased 9% in the key unconventional shales in the past year.

According to Primary Vision , the frac spread count has risen by 21% to 284 by September 9 compared to the start of the year. The higher frac count can improve WHD's topline in 2H 2022.

The Value Drivers In Q2

WHD's quarter-over-quarter revenue growth was 16.5% in Q2 as product revenue per US onshore rig increased by over 10%. Its gross margin expanded by 600 basis points as it implemented countermeasures in response to inflationary fuel and labor costs. However, SG&A expenses increased in Q2 due to higher bonus accruals. Despite that, SG&A as a percentage of revenues declined to 8.7% from 9.7% a quarter ago because the revenue growth was steeper. So, the EBITDA margin inflated by 410 basis points sequentially in Q2. In Q3, the company expense SG&A expense remained nearly unchanged.

Balance Sheet and Cash Flow Analysis

In 1H 2022, WHD's cash flow from operations (or CFO) increased by 12% compared to a year ago, primarily led by the revenue increase. Despite that, its free cash flow (or FCF) declined because of a steeper capex rise. In 2H 2022, capex is expected to rise. The company may increase inventory in the send half due to increased activity, longer lead times, and boosted product safety stocks to ensure timely delivery.

WHD's total liquidity (cash & equivalent plus borrowing capacity) as of June 30 was $387 million. As of that date, it had no debt. This makes it significantly safer than some of its overly leveraged peers (FTI, SLB, and LBRT).