Daldrup & Soehne — Running at full capacity through 2018

Daldrup & Söhne (DB: 4DS)

Last close As at 20/12/2024

5.85

0.00 (0.00%)

Market capitalisation

36m

More on this equity

Research: Industrials

Daldrup & Soehne — Running at full capacity through 2018

Daldrup & Söhne is benefiting from the regulatory support for geothermal energy, primarily in Germany. This is evidenced by its order backlog of €65m to date, sufficient to support its full engineering capacity for all business divisions through 2018. Meanwhile, management is stepping up efforts in project development and ownership to help counterbalance the volatility of the drilling/engineering business with predictable revenue streams as an independent power producer.

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Written by

Industrials

Daldrup & Söhne

Running at full capacity through 2018

Alternative energy

Scale research report - Initiation

14 June 2017

Price

€8.25

Market cap

€45m

Share price graph

Share details

Code

4DS

Listing

Deutsche Börse Scale

Shares in issue

5.445m

Last reported net debt as of December 2016

€7.9m

Business description

Daldrup & Söhne AG is an onshore drilling and environmental services company, with vertically integrated competences in geothermal projects (from feasibility study, permitting and constructing to power supply contracting). It is seeking to create predictable revenue stream as an independent power producer.

Bull

The favourable feed-in-tariffs for geothermal in Germany until 2020 continue to boost demand.

Daldrup & Söhne’s increasing exposure to project business may improve its profitability.

Given the additional orders in the pipeline, Daldrup & Söhne may be able to recruit and retain talents to create incremental growth.

Bear

Daldrup & Söhne does not have a history of scaling up significantly, measured by staff size.

Project development, if too aggressive, may increase the company’s leverage.

Needs to achieve the upper end of the EBIT guidance in 2017 to cover interest burden.

Analysts

Emily Liu, CFA

+44 (0) 20 3077 5700

Jamie Aitkenhead

+44 (0) 20 3077 5746

Daldrup & Söhne is benefiting from the regulatory support for geothermal energy, primarily in Germany. This is evidenced by its order backlog of €65m to date, sufficient to support its full engineering capacity for all business divisions through 2018. Meanwhile, management is stepping up efforts in project development and ownership to help counterbalance the volatility of the drilling/engineering business with predictable revenue streams as an independent power producer.

Strong recovery in FY16

The company reported revenue of €31m in 2016, up 80% from 2015, mainly due to a recovery in Geothermics (up 214%) and Raw Materials & Exploration (up 113%). The growth in these divisions was driven by drilling contracts for geothermal projects in the Netherlands and Germany, as well as the exploration of salts in Switzerland and coal and gas in Poland.

Good top-line visibility for FY17-18

Management indicates that its current order backlog of €65m, mostly for geothermal projects, is sufficient to support its full capacity through to 2018. The guidance for FY17 is €40m, based on gross revenue (defined as sales plus the change in work-in-progress), in line with the FY16 level. FY17 EBIT margin is expected to be 2-5% (compared to 2% in FY16). However, the company needs to achieve the upper end of its EBIT margin guidance in order to cover the interest expenses.

Innovation of business model through ART

Daldrup & Söhne is the first geothermal developer in Europe to use alternative risk transfer (ART) instruments, first in October 2016 for the Nature’s Heat project in Kwintsheul, Holland, and then in April 2017 for the geothermal project Geretsried in the south of Munich, Germany. The experience of using the ART structure may further help the company’s project development and engineering business, as it gives more comfort to investors and banks.

Valuation: Trading at a premium to peers

Daldrup & Söhne is currently valued at 275x P/E, 1.7x EV/sales and 55x EV/EBIT based on 2016 results, trading at a premium to both onshore and offshore drilling and renewable peers.

Historical financials

Year
end

Revenue
(€m)

EBIT
(€m)

PBT
(€m)

EPS
(€)

P/E
(x)

Yield
(%)

12/13

60.8

1.2

0.1

0.016

516

N/A

12/14

52.3

(18.4)

(18.8)

(3.45)

N/A

N/A

12/15

17.3

0.8

0.1

0.03

275

N/A

12/16

31.1

1.0

(0.2)

0.03

275

N/A

Source: Daldrup & Söhne

Edison Investment Research provides qualitative research coverage on companies in the Deutsche Börse Scale segment in accordance with section 36 subsection 3 of the General Terms and Conditions of Deutsche Börse AG for the Regulated Unofficial Market (Freiverkehr) on Frankfurter Wertpapierbörse (as of 1 March 2017). Two to three research reports will be produced per year. Research reports do not contain Edison analyst financial forecasts.

Company description: Full-service provider for geothermal projects

Founded in 1946 as a water well drilling business, Daldrup & Söhne has evolved into a technology specialist in drilling and a full-service provider for geothermal projects (from feasibility study, exploration claim acquisitions, engineering and construction to power supplies). With more than 40 drilling rigs, the company currently owns the largest drilling capacity in the European onshore industry. Its main markets are Germany, the Netherlands, Switzerland, Benelux and Poland. The company went public in November 2007, and currently employs c 140 people.

Daldrup & Söhne operates in four business segments: Geothermics; Raw Materials & Exploration; Water Procurement; and Environment, Development & Services (EDS). The Geothermics division provides drilling services for near-surface projects (eg geothermal probes of heat pumps) and deep geothermics up to 6,000m. In the Raw Materials & Exploration division, the bores made by Daldrup & Söhne are used for exploring and developing fossil fuel deposits (especially coal and gas), mineral resources and ores (eg copper and gold). The Water Procurement division comprises well construction for the extraction of drinking, service, curative, mineral, boiler-feed or cooling water as well thermal brine. The Environment, Development & Services (EDS) division comprises special environmental engineering services such as the hydraulic clean-up of contaminated sites, the drilling of gas extraction wells for recovering waste dump gas, the provision of groundwater quality measuring points and the installation of water purification plants.

Daldrup & Söhne is vertically integrated in the geothermal business, with end-to-end competence from project development to energy contracting. Undertaking drilling/exploring projects for third parties is currently the bread and butter. In the meantime, the company develops and owns stakes in projects by either (1) acting as the engineering contractor for the projects it has minority stakes in and recognises engineering revenue; or (2) acting as the project owner (with majority stakes) and recognising revenues only after the plants come online and start to sell heat/electricity. Typically, the cost split of a geothermal project throughout its lifecycle is 5-10% for feasibility study, permitting and seismic profiling, 40-50% for drilling, hydraulic tests, circulation tests and thermal water circuit construction, and 30-40% for construction of power plants and heating supplies, contracting for electricity and heat. Currently, Daldrup & Söhne owns 40% of the Landau plant (temporarily shut down) and is constructing the Taufkirchen plant (38.9% ownership).

Except in the lean year of 2015, when sales were at their lowest in the past five years, Geothermics is typically the largest division. Due to the growth of geothermal demand in Germany, management expects Geothermics to remain the major revenue contributor over the next few years. Management indicates that the revenue contribution from the drilling contracts for geothermal power plants is expected to increase from 30% in 2015 to 50% in 2017.

Exhibit 1: Revenue dynamics by division

Exhibit 2: Revenue breakdown by division

Source: Daldrup & Söhne data

Source: Daldrup & Söhne data

Exhibit 3: Vertical integration in geothermal projects

Source: Daldrup & Söhne

Strategy

Daldrup & Söhne Group is expanding its footprint from engineering, procurement and construction (EPC) to offering turnkey services for geothermal projects, with the following strategic initiatives:

Leverage of the worldwide licence and the exclusive right to use the Kalina process in Germany. As Germany is lacking in high enthalpy resources at shallow depth, the construction of deep wells and the application of binary power plant technologies (ie Organic Rankine Cycle [ORC]) are necessary to produce electricity at temperatures down to 100°C. The ORC process uses an organic liquid (such as silicone, oils and hydrocarbons) as a medium, instead of water. The Kalina process is a special ORC process that uses a mixture of ammonia and water (for evaporation at low temperatures) in order to improve efficiency. Management believes that the Kalina technology used in the geothermal energy power plant in Husavik, Iceland, as well as on German soil in Unterhaching and Bruchsal, is particularly suitable for generating electricity, especially in the low temperature range. Exorka is a global licensee of the Kalina patent and has the exclusive rights for its use in Germany. So far, two out of 10 geothermal electricity plants (Bruchsal in Baden-Württemberg and Unterhaching near Munich) have been built with the Kalina process. Daldrup & Söhne's geothermal plant in Taufkirchen will be the third plant running on the Kalina technology in Germany.

Development of expertise in risk mitigation. The company is a pioneer in the use of the integrated insurance model (also known as ART, alternative risk transfer). As insurance alone is too simple a tool to deal with the complexity of exploration risk (ie the risk of carrying out costly drilling but not finding sufficient thermal energy), alternative risk transfers are created with the structuring of credit derivatives for developers, banks and insurance/reinsurance companies, to better define, manage and hedge risks. Daldrup & Söhne believes that the use of the ART structure can give investors and banks new to geothermal more comfort, as trigger risk events are better defined than in plain vanilla insurance contracts. Daldrup & Söhne has been going through the learning curve of using the ART structure and this helps in the company’s project development and engineering business (eg the €19m contract for two geothermal drillings at the Geretsried site awarded by Enex Geothermieprojekt Geretsried Nord).

Increase of exposure to project development and ownership. Through years of R&D, Daldrup & Söhne has and will continue to accumulate know-how and knowledge in exploration. For instance, the Leibniz Institute for Applied Geophysics (LIAG) has placed an order worth around €1m with Daldrup & Söhne as part of the Dolomitkluft research project to explore the high temperature ranges in the various geological layers in the south of Munich. To monetise its wealth of expertise, Daldrup & Söhne has been increasing its exposure to project development and ownership, to capitalise on the favourable feed-in-tariffs under the 2017 German Renewable Energy Sources Act (EEG).

Operating at full capacity through 2018

Following a double-digit million euro contract with Munich-based utility Stadtwerke München, announced on 3 May 2017, Daldrup & Söhne is expecting to operate at full capacity for all its business divisions until the end of 2018, with an order backlog of €65m as of 31 May 2017. As management indicates additional orders are in the pipeline, it is possible that the company may need to hire additional staff.

Based on the company’s well-filled order book, management projects gross revenue of around €40m and an EBIT margin of between 2% and 5% for 2017. This forecast does not include possible revenue and profit contributions from the geothermal power plants in Landau and Taufkirchen, Germany. The guided revenue for 2017 of approximately €40m based on output (defined as sales plus change in work-in-progress) does not include potential revenue from the sale of electricity/heat from these plants.

Exhibit 4: Contracts announcements in 2017

Project

Contract value, €m

Announcement

Client

Segment

Stadtwerke München

Double digit

May 2017

Stadtwerke München

Geothermics

Geretsried

19

March 2017

Enex Geothermieprojekt Geretsried Nord

Geothermics

Bad Bellingen

3.8

March 2017

Enex Geothermieprojekt Geretsried Nord

Geothermics

Dolomitkluft R&D

1

May 2017

Leibniz Institute for Applied Geophysics (LIAG)

Geothermics

Source: Daldrup & Söhne data

Geothermal demand in Germany

The highly variable generation profile of wind and solar has been a pressure to the grids and caused negative spot electricity prices during peak hours in Germany. It is hardly surprising that policymakers like the idea of having geothermal energy as a baseload source, available all year round and throughout the day. This is why geothermal energy continues to enjoy fixed feed-in-tariffs while wind and solar tariffs will be determined via auctions under the 2017 German Renewable Energy Sources Act (EEG). The total time horizon required from site identification, plant construction to grid connection is approximately three to four years. The EEG takes account of the longer development times and higher complexity of exploration risks associated with geothermal, and hence the feed-in tariff for electricity generated by geothermal energy is fixed at €0.252/kwh until 2020. A targeted 5% annual reduction will kick in from 2021. The tariff is paid for 20 years in addition to the year in which operation of the plant begins.

Germany is lacking in high enthalpy resources at shallow depth or natural steam reservoirs that can be used for a direct drive of turbines. Therefore, the application of binary power plant technologies (eg Kalina cycle) is necessary to produce electricity at temperatures down to 100°C. The most important geothermal resources in Germany are in the North German Basin, the South German Molasse Basin, and the Upper Rhine Graben. Geothermal projects in Germany are usually developed by municipals and private companies. Stadtwerke München (SWM), a Munich-based utility, has set a goal to make Munich, by 2040, the first city where 100% of district heating will be generated from renewable energy sources, especially geothermal energy.

Geothermal (particularly for electricity) is growing rapidly in Germany from a small base. In 2016, renewable energy covered roughly 29% of the volume of electricity generated in Germany, according to the Federal Ministry for Economic Affairs and Energy (BMWi). However, Geothermal is currently a very small portion of it. In 2016, deep geothermal accounted for 0.1% of total renewable electricity and 0.6% of heat supply from renewable energy sources.

There are 34 geothermal energy plants in operation in Germany, of which 25 produce solely heat, four produce only electricity and five generate both heat and electricity. According to the German Geothermal Association (Bundesverband Geothermie), approximately 30 plants (with an aggregate capacity of 95MW) are under development or under construction.

Exhibit 5: Geothermal power plant in operation in Germany

Plant

Region

COD

Status

MWtherm

MWel

Process

Asset owner/developer

Bruchsal

Upper Rhine Graben

2010

Temporary shut-down

5.5

0.44

Kalina

EnBW 

Dürrnhaar

Molasse Basin

2012

Operating

 

5.5 

ORC

Stadtwerke München 

Laufzorn

Molasse Basin 

2014

Operating

40

4.3

ORC

 

Insheim

Upper Rhine Graben

2012

Operating

 

 

ORC

BESTEC 

Kirchstockach

Molasse Basin

2013

Operating

 

5.5 

ORC

Stadtwerke München 

Landau

Upper Rhine Graben

2007

Temporary shut-down

7

3.6

ORC

40% owned by Geysir 

Sauerlach

Molasse Basin

2013

Operating

6

ORC

Stadtwerke München

Oberhaching

Molasse Basin

2014

Operating

4

5

ORC

 

Traunreut

Molasse Basin

2016

Operating

12

5.5

ORC

Geothermischen Kraftwerksgesellschaft Traunreut

Unterhaching

Molasse Basin

2007

Operating

38

3.36

Kalina

Unterhaching municipality

Source: German Geothermal Association (Bundesverband Geothermie); Think Geoenergy; Leibniz Institute for Applied Geophysics; Edison Investment Research

Management, organisation and corporate governance

Supervisory board and management board

The management board is responsible for the day-to-day operations of the company and dealings with third parties. The supervisory board monitors the performance of the management.

Management board

CEO Josef Daldrup, born in 1953, joined the family business in 1976; Daldrup & Söhne was founded in 1946 by his father Karl Daldrup. Josef Daldrup has a master craftsman's diploma as a well builder and a sanitary expert. He studied at the University of Minden and has also been chairman of the management board since 2001. Since the IPO in November 2007 he is responsible for Strategy, Key Accounts, PR, HR and Law.

Curd Bems (CFO), born in 1977, was appointed CFO in 2013 and is responsible for Controlling, Finance, Investor Relations and Business Development. He is MD of Geysir Europe GmbH in which Daldrup & Söhne has 75.01 % stakes. Before he joined the company, Mr Bems acted in various companies in leading technical and commercial management positions.

Peter Maasewerd (COO), born in 1960, is responsible for the business segments EDS, water procurement, raw materials & exploration as well as the close-to-the-surface geothermal energy projects. He has a master's degree in geology, joined the company in 1988 and was appointed COO in 2002.

Andreas Tönies (COO), born in 1965, is a sophisticated gas and water plumber and a well constructor. He joined Daldrup & Söhne in the 1980s as a project manager. In 2005 he joined the management board and is responsible for logistics & merchandise management, procurement and the business segment, deep geothermal projects.

Supervisory board

Wolfgang Clement joined the supervisory board in 2008 and was appointed Chair in July 2012. He has been prime minister of North Rhine-Westphalia and federal minister of economics and employment of Germany.

Wolfgang Quecke has been a member of the supervisory board since 2001. He served as general manager at various mining operations from 1995-2000, was head of operations for the Rehabilitation of Mining Sites (BDSB) of DSK AG from 2001-05 and a member of the management board for RAG Montan Immobilien GmbH from 2005-08. Since 2009, he has been an independent advisor.

Joachim Rumstadt has been a member of the supervisory board since July 2012. He started his career in 1997 as a corporate attorney with STEAG. Since 2007, he has served as a member of the management board of STEAG GmbH, and since 2009 as chairman of the management board of STEAG GmbH.

Organisation

Daldrup & Söhne operates in four business segments: Geothermics; Raw Materials & Exploration; Water Procurement; and Environment, Development & Services (EDS).

Since the acquisition of a 51% stake in Geysir Europe in 2009, the Geothermics division has been developing its project business under the Exorka brand, particularly in the Molasse Basin and in the Upper Rhine Plain. Currently, Daldrup & Söhne owns 75% of Geysir. Curd Bems, CFO of Daldrup & Söhne, owns 22.9% of Geysir. All the project companies are incorporated under Geysir.

Daldrup & Söhne is currently building the Taufkirchen plant. As this plant is not consolidated in the company’s financials, the engineering revenue is expected to be recognized in 2017 or 2018. The two plants consolidated in Daldrup & Söhne’s financials are the Laudau plant (40% stakes) and the Neuried plant. Neuried will start construction in 2017/18.

Taufkirchen geothermal power plant (38.9% owned by Daldrup & Söhne)

The installed capacity of the geothermal cogeneration plant will total approximately 35MW for thermal energy and about 4.3MW for electricity. In the Taufkirchen power plant project, the thermal water well system was successfully created in 2012 with a thermal capacity of approximately 38MW. Since the end of 2015, heat directed from the new cogeneration plant has been fed into the district heating networks of the customers in Taufkirchen and Oberhaching. New heat exchange will be installed by Daldrup & Söhne within the next few months.

Landau power plant (40% owned by Daldrup & Söhne)

The Landau plant is temporarily closed and valued at €1 in Daldrup & Söhne’s financial assets as of the end of 2016. The permit to resume operations was granted at the end of July 2016, pending the approval for the special operating plan.

The power plant, with a capacity of up to 3.6MW for electricity and up to 7MW for thermal energy, was in operation since 2007 and supplied electricity to EnergieSüdwest’s customers. In August 2013, Daldrup & Söhne acquired 40% of the shares in the geox GmbH (Landau/Pfalz) power plant company from EnergieSüdwest AG via Geysir Europe. The parties also agreed on an option for Geysir Europe to purchase an additional 10%. On 2 January 2014 Daldrup & Söhne agreed to acquire an additional 50% from Pfalzwerke AG, through Geysir Europe. However, Geysir Europe GmbH did not increase its stakes by 50% to 90% because the share purchase agreement with Pfalzwerke AG was rescinded on 2 December 2013, as if the contract had never existed. A court case is pending. After a leakage in 2014, the cause of which clearly predates the acquisition of shares and the takeover of operational management by Daldrup & Söhne, geox shut the power plant down as a precaution to avoid damage to the environment. In 2015, the power plant was upgraded to meet the regulatory requirements for safety.

Neuried (100% owned by Daldrup & Söhne)

In March 2017, the city of Kehl lost the case against the state of Baden-Württemberg regarding the approval of the main operating plan for four geothermal drillings. As the lawsuit has been cleared, management intends to start construction of the plant in either 2017 or 2018. The state of Baden-Württemberg has agreed a grant totaling €1m as a default guarantee for the first deep well.

Exhibit 6: Structure of geothermal project business

Source: Daldrup & Söhne

Shareholders and free float

The Daldrup family owns 65.21% of the company. At the time of the IPO in November 2007, a 10-year pooling agreement was established for the family owners that no single family owner can sell shares unless approved by all the other members. After the expiration of the original pooling agreement in September 2017, it is automatically renewed on an annual basis. There is no succession plan as yet.

Exhibit 7: Ownership

Shareholders

Title/comment

Holdings

Josef Daldrup

Founder, CEO/Chairman

5.69%

Karl Daldrup

Son/employee

17.80%

Bernd Daldrup

Son/employee

17.98%

Thomas Daldrup

Son/employee

18.02%

Michaela Daldrup

Daughter

5.73%

TOTAL Daldrup holdings

65.21%

Free float

34.79%

Source: Daldrup & Söhne data

Financials

Based on the company’s well-filled order book, management guides gross revenue of around €40m and an EBIT margin of between 2% and 5% for 2017. This forecast does not include possible revenue and profit contributions from the geothermal power plants in Landau and Taufkirchen, Germany, for the selling of heat and electricity.

Exhibit 8: Financial summary

Year end 31 December

€000s

2012

2013

2014

2015

2016

Income statement (pursuant to the German Commercial Code (HGB)

Sales

22,690

60,826

52,327

17,255

31,137

Gross revenue

45,395

59,888

44,010

26,398

39,458

EBITDA

6,089

5,189

(6,344)

4,520

4,557

EBIT

2,254

1,155

(18,404)

806

951

Profit Before Tax (as reported)

1,812

131

(18,781)

48

(228)

Net income (as reported)

1,164

89

(18,944)

175

152

EPS (as reported) – (€)

0.21

0.016

(3.45)

0.03

0.03

Dividend per share (€)

0

0

0.11

0

0

Balance sheet

Intangible fixed assets

3,875

3,320

2,657

2,016

1,347

Property, plant and equipment

41,367

39,975

28,896

25,519

24,580

Fixed financial assets

22,988

22,375

24,371

22,733

23,387

Inventory

4,447

1,218

2,149

12,542

17,001

Receivables and other assets

22,706

25,422

16,243

21,589

24,107

Liquid funds

5,863

3,567

4,520

3,165

755

Other assets

205

1,800

178

308

206

Total assets

101,451

97,687

79,016

88,872

91,384

Provision

3,594

2,472

3,756

3,121

3,180

Liabilities to banks

8,049

7,163

9,436

11,917

8.618

Trade payables

11,404

9,183

4,964

4,211

7,888

Other liabilities

12,281

12,871

14,461

23,160

25,641

Total liabilities

35,328

31,729

32,617

42,409

45,327

Net Assets

66,123

65,958

46,399

46,463

46,057

Shareholder equity

66,123

65,958

46,399

46,463

46,057

Cash flow statement

Net cash from operating activities

14,351

733

3,484

(17,233)

3,654

Net cash from investing activities

(1,418)

(1,888)

(4,188)

4,111

(1,130)

Net Cash from financing activities

3,682

(886)

2,272

11,983

(2,304)

Net cash flow

16,615

(2,044)

1,568

(1,139)

220

Cash & cash equivalent end of year

5,863

3,567

4,520

3,165

755

Source: Daldrup & Söhne accounts

Income statement

Daldrup & Söhne reports both sales and gross revenue (defined as sales recognised plus change in work-in-progress) to better match the cash flow profile of the engineering business, as contracts typically last two years. Hence, the change in work-in-progress is usually a good indicator of its revenue trend in the subsequent year. The calculation of profitability is based on gross revenue, although the segment breakdown is still based on reported revenue. While the inclusion of the change in work-in-progress helps to smoothen out the timing difference between revenue recognition and cash flows, all the costs and expenses are still recognised when they are incurred according to the German GAAP. This means likely understated profitability at good times and overstated profitability at subsequently bad times. Daldrup & Söhne’s top line and bottom line are still reflective of the lumpy nature of engineering order backlogs. The normalised depreciation and amortisation in the past five years is slightly below €4m, regardless of the revenue level. Excluding the year 2014 with significant one-offs (eg 50% depreciation for the Mauerstetten well of €7.4m), the normalised EBIT margin (based on gross revenue) in 2012-13 and 2015-16 was in the range of 2.4-3.8%.

Exhibit 9: Sales and change in work-in-progress

Exhibit 10: Reported EBIT

Source: Daldrup & Söhne data

Source: Daldrup & Söhne data

Exhibit 9: Sales and change in work-in-progress

Source: Daldrup & Söhne data

Exhibit 10: Reported EBIT

Source: Daldrup & Söhne data

Balance sheet and cash flow

There are two significant elements in Daldrup & Söhne’s fixed assets: property, plant and equipment for its engineering/contracting activities; and financial assets, predominately comprised of geothermal projects. The intangible assets represent the value of the Kalina licence and the permits for the exploration of geothermal energy (claims). The long-term financial assets are predominately shares in project companies, including 38.59% in GeoEnergie Taufkirchen GmbH & Co. KG and a 40% stake in geox GmbH. The Landau geothermal power plant is valued at €1 in the balance sheet.

Exhibit 11: Leverage and interest cover analysis

€k

2012

2013

2014

2015

2016

Gross cash

5,863

3,567

4,520

3,165

755

Liabilities to banks

8,049

7,163

9,436

11,917

8,618

Net debt

2,186

3,596

4,916

8,752

7,863

Equity

66,123

65,958

45,463

46,463

46,058

Net debt to equity

3%

5%

11%

19%

17%

EBIT

2,254

1,155

(18,404)

806

951

EBITDA

6,089

5,189

(6,344)

4,520

4,557

Interest expense

779

760

426

1,072

1,354

Coverage ratio (EBIT)

2.9x

1.5x

(43.2x)

0.8x

0.7x

Coverage ratio (EBITDA)

7.8x

6.8x

(14.9x)

4.2x

3.4x

Source: Daldrup & Söhne data; Edison Investment Research

Exhibit 12: Increase of short-term bank loans

Exhibit 13: Rising % of short-term bank loans

Source: Daldrup & Söhne data

Source: Daldrup & Söhne data

Exhibit 12: Increase of short-term bank loans

Source: Daldrup & Söhne data

Exhibit 13: Rising % of short-term bank loans

Source: Daldrup & Söhne data

The company’s net debt position increased from €2.2m in 2012 to €7.9m in 2016, with the net debt to equity ratio up from 3% to 17% during the period. This in part can be attributed to the write-offs at €8m and one-off expenses totalling €12m in 2014. It is worth noting that the short-term portion of bank loans has increased since 2012, both in value terms and as a share of gross debt, although it was still under control in 2016. Based on the interest expense of €1.35m in 2016 and the guidance of FY17 gross revenue at €40m, the company needs to achieve an EBIT margin towards the high end of the guided range of 2-5% (vs 2% in FY16) or generate revenues from the power plants in Landau and Taufkirchen, in order to cover the interest expenses.

Exhibit 14: Accounting treatment of project development business

Majority ownership

Minority ownership

Revenue/COGS

100% revenue from sale of heat/electricity and/or projects

EPC services

Equity investment income

(not applicable)

% net income from FiT and project sale

Assets

Financial assets

Equity investments

Liabilities

75-80% debt financing required

No liability associated with project loans

Cash flows from operating activities

FiT income and project operations/maintenance

Revenue, costs and expenses

Cash flows from investing activities

Claim/site acquisitions

Equity investment in project companies

Cash flows from financing activities

Loan repayments and interests

Working capital finance with bank loans

Source: Edison Investment Research

The accounting treatment for consolidated plants and co-developed projects to the income statement and the balance sheet is summarised above. Management has not disclosed the hurdle rate for its independent power producer (IPP) business, but hopes that the predictable revenue streams from the selling of heat/electricity can smoothen out the historically volatile pattern of the engineering revenues.

Peer valuation

Daldrup & Söhne is currently valued at 275x P/E, 11.5x EV/EBITDA and 55x EV/EBIT based on 2016 results. In terms of the P/E and EV/EBITDA multiples, Daldrup & Söhne looks expensive compared to its drilling and engineering peers, possibly due to its relative smaller size (hence a lack of opex leverage) and increasing interest burden as the company is expanding its geothermal project development business. For now, the onshore/offshore drilling companies look like more appropriate peers, although this may change over the long term if project assets become a more significant part of Daldrup & Söhne’s income statement and balance sheet.

The closest competitors to Daldrup & Söhne in similar regions are BAUER, KCA Deutag and ITAG. It is worth nothing that Daldrup & Söhne only undertakes onshore projects and the majority of its competitors are also active offshore. As offshore drilling capabilities serve the oil and gas industry, the economic drivers and regulatory environments are rather different from the geothermal sector. In addition, Daldrup & Söhne is only involved in onshore drilling projects. Large onshore/offshore drilling/engineering companies may not be the most suitable peers for the valuation of Daldrup & Söhne in the long run, although it competes with these companies for onshore drilling contracts.

Exhibit 15: Peer group comparison – onshore/offshore drilling

Market cap

P/E (x)

EV/EBITDA (x)

EV/EBIT (x)

(m)

2017e

2018e

2017e

2018e

2017e

2018e

Lamprell PLC

£390m

N/A

77.4

8.8

6.6

132.7

24.7

Seadrill Ltd

€200m

N/A

N/A

9.5

14.4

54.0

N/A

Odfjell Drilling

€422m

13.7

18.0

6.3

6.5

18.1

19.2

Songa Offshore

€443m

45.8

40.6

6.3

5.6

11.8

11.0

BAUER

€363m

15.1

12.1

6.6

6.2

14.2

12.2

Peer group average

24.9

34.5

7.4

7.9

46.2

16.8

Source: Bloomberg. Note: prices as at 13 June 2017.

A more appropriate group of peers for Daldrup & Söhne in the long run is perhaps renewable EPC/developers with their main operations in Germany and the rest of the Europe, given the similarities to their exposure to regulatory risks. Most such companies are focused on wind and solar, and have gone through a few cycles as a result of demand/supply dynamics and regulatory changes (from fixed feed-in tariffs to auction-based pricing). As a result of increasing supply, both solar and wind have seen significant cost reductions over the past decade and have therefore reached grid parity in different geographies. This means the levelized cost of electricity (LCOE, the cost of generation during the life of operating assets) is lower than or equal to the price of purchasing power from the electricity grid (from the perspective of utilities or consumers).

Exhibit 16: Publicly listed renewable companies in Europe

Company

Ticker

Renewables

Assets

7C Solarparken

FWB: HRPK

Solar

Over 95% of the assets in Germany, predominantly in Bavaria and Saxony

Energiekontor

EKT: Xetra

Wind, solar

Wind and solar projects in Germany, Portugal and the UK

Phoenix Solar

PS4:Xetra

Solar

Solar project EPC

EDP Renováveis

Data

Wind

Wind projects in Europe (mainly Iberia) and North America

Good Energy

GOOD:LN

Wind, solar

Solar/wind projects and electricity distribution

Source: Edison Investment Research

Compared to solar and wind, geothermal power in Germany is still at an early stage of development. The recent revival of interest from investors is mainly a result of the regulatory support (ie the visibility of fixed feed-in tariffs if projects come online before 2020 and 5% annual reductions thereafter). On the positive side, the geothermal sector is less susceptible to the pressure of oversupply (as in the case of solar and wind) and pricing pressure, because of a much more complex and elongated process in permitting, exploration and engineering. On the negative side, investors are less likely to see exponential growth in a short period of time for geothermal companies.

Exhibit 17: Peer group comparison – renewable companies

Market cap

P/E (x)

EV/EBITDA (x)

EV/EBIT

(m)

2017e

2018e

2017e

2018e

2017e

2018e

7C Solarparken

€111

23.3

20.1

9.8

9.4

24.3

23.0

Energiekontor

€259

14.1

13.7

6.1

5.6

8.3

7.8

Phoenix Solar

€20

N/A

26.5

7.9

6.8

12.5

10.1

EDP Renováveis

€6,117

33.2

29.2

8.4

7.9

14.5

14.1

Good Energy

£36

21.6

16.4

8.5

7.5

14.7

13.2

Peer group average

23.0

21.2

8.1

7.1

14.9

13.6

Source: Bloomberg. Note: Prices as at 13 June 2017.

Sensitivities

Daldrup & Söhne’s business activities are subject to the following risk factors:

Subsoil issues: This refers to the risk of known and unforeseeable effects and difficulties originating from the subsoil (all underground, geological risks). This is generally within the sphere of responsibility of the client. Daldrup & Söhne as the contractor bears the risk for technical drilling operations. In the deep drilling carried out by Daldrup, this risk can generally be absorbed by project-related machinery breakdown and so-called lost-in-hole-insurance.

Technological issues: Daldrup & Söhne is a licensee of the Kalina process and believes that this technology is ideal for countries like Germany lacking in high enthalpy resources. As Exorka, a subsidiary of Daldrup& Söhne has the exclusive right to use the Kalina process in Germany, its competitors may push the alternative binary process, OCR.

Competitive issues: Competitors in the area of deep geothermal wells include drilling companies that are primarily engaged in the oil and gas business and occasionally participate in invitations to tender for geothermal projects. When crude oil prices are low, the competition is greater because there is an additional supply of drilling capacity.

Geothermal, like all renewable energy sources, is subject to the regulatory and macroeconomic risks. However, the technical complexity of the exploration process and the long-time horizon of geothermal project development come with additional risks. Daldrup & Söhne assumes the following risks for its project development business:

Regulatory issues: As Germany is lacking in high enthalpy resources at shallow depth, geothermal projects (particularly with electricity generation) require the support of feed-in tariffs. The 2017 German Renewable Energy Sources Act (EEG) offers fixed feed-in tariffs of €0.252/kwh to geothermal until 2020. A targeted 5% annual degression will kick in from 2021.

Project development issues: Similar to other large renewables such as solar and wind, only a small percentage of project pipelines will eventually come into fruition. In the case of geothermal projects, the permitting process alone is highly complicated. Developers have to obtain both exploration claims (for the right to investigate sites) and mining claims (for the right to extract the natural resources). In Bavaria’s Molasse basin alone, 140 exploration claims were granted, but only 21 projects have been implemented. Many licences were cancelled because of failure to launch any exploration activities within three years of the licence date.

Exploration issues: Geothermal as a renewable source had a false start about 10 years ago because investors and banks active in the renewable market were inexperienced in exploration risks, ie the risk of carrying out costly drilling but not finding sufficient thermal energy to achieve the originally intended economic value. This is one of the main reasons why relatively few geothermal energy projects have been completed in Germany to date.

Macroeconomic issues: Geothermal projects are typically 20-30% funded with equity and 70-80% with debt. A low interest environment is conducive to renewable project finance as investors and bankers seek higher yields supported by feed-in tariffs.

Legal issues: Law suits are not uncommon in the case of public opposition to extractions or contention regarding the accountability of technical faults. Partnerships with local heating networks or a bulk purchaser, such as public or municipal utilities or large industrial consumers, can sometimes help to address concerns from local communities.

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