Northern Offshore – Market Fails to Notice Upcoming Rise In Earnings, Free Cash Flow

My most popular series of posts by far have been those on Awilco Drilling. Awilco has been a solid investment, providing a total return of over 70% since I first wrote about the company last May. Despite these results, the company still trades at a dividend yield of close to 22% and an EV/EBITDA of 4.1, and I believe the shares still have a lot of room to run. Today’s post is about a similar high-yielding company in the same industry. This company is reminiscent of Awilco a year ago, when the market had yet to price in the coming increases in earnings and cash flow from new contracts.

Northern Offshore owns a collection of marine drilling assets, including two jackup rigs, a semisubmersible rig, a drillship and a floating production unit. Northern is domiciled in Bermuda with its executive offices in Houston, and trades on the Oslo exchange as “NOF.” (There is also a US ADR, NFSHF, though trading volume is thin.) Northern’s assets are leased to drillers and explorers in the North Sea, Asia and soon, Africa.

Compared to Awilco’s stellar management team, Northern has not always enjoyed the same leadership quality. Struggling with an unmanageable debt load, the company underwent a reorganization in 2005 that included a share issuance and a brand new board of directors. Unfortunately, the new team made a massive and debt-financed $455 million acquisition in 2007. The acquisition was poorly-timed, and in 2010 the jackup rigs the company acquired were written down by $205 million. Despite the unfortunate transaction, Northern managed to stay current on its debt and eventually paid down the balance. Today, the company has a net cash position.

Let’s take a look at Northern’s active operating assets. Like Awilco, these assets are hardly new, yet they still have a reasonable lifespan and will produce a great deal of cash flow over that life.

Northern Producer

Northern Producer is the company’s floating production facility, currently operating in the North Sea. Northern Producer was originally contracted as a semisubmersible drilling rig in 1977 and converted to a floating production facility in 1991. Northern Producer is contracted to EnQuest for the life of the oil field, and earns revenues based on production levels. In 2013, Northern Producer earned tariffs on an average of 18,103 barrels per day and earned just over $40 million in revenues.

Energy Driller

Energy Driller is Northern’s semisubmersible drilling rig, originally constructed in 1977. The rig has undergone substantial upgrades, most recently in 2012. Energy Driller in contracted to ONGC off India’s west coast at a dayrate of around $210,000 until April 2015. Energy Driller has historically operated off of  Southeast Asia and Brazil. In 2013, Energy Driller earned revenues of just under $58 million.

Energy Endeavor and Energy Enhancer

Energy Endeavor and Energy Enhancer are Northern’s harsh environment jackup rigs, currently operating off of the Netherlands and Denmark by Wintershall and Maersk, respectively. Endeavor is contracted until November 2014 at a dayrate of around $160,000. Wintershall has an option to extend the contract by six months. Enhancer is contracted until July 2015 at a dayrate of around $140,000. Maersk has a one-year option to extend the contract at a higher rate. Both Endeavor and Enhancer were constructed in 1982. In 2013, Northern’s jackup rigs brought in revenues of nearly $77 million.

Northern has two new jackup rigs on order to be delivered in 2016. More on these a bit later on.

In 2013, Northern Offshore’s active assets earned $174.9 million revenues, and produced $50.4 million in EBITDA and net income of $11.3 million. Free cash flow was $30.2 million, which the company devoted entirely to paying dividends. Based on its current market capitalization of $238.6 million, Northern’s valuation seems attractive.



One could see the EV/EBITDA multiple of 4.5 and the double-digit free cash flow yield and conclude that Northern is cheap, but that would be some very lazy analysis. After all, drilling companies face some unique challenges. Drilling companies must engage in significant capital expenditures, lest their assets become too old or degraded to have any economic value. Drilling companies are also subject to fluctuations in dayrates, and risk revenue declines once contracts end. For those reasons, buying drilling companies purely on backward-looking EBITDA or free cash flow yield can be a losing proposition.

However, at some point, the free cash yield becomes high enough or the EBITDA multiple low enough to adequately compensate for these factors and then some. This is likely to be the case for Northern Offshore in 2014. Remember how I described Northern’s active operating assets and their revenues? I used the term because Northern has another very significant asset, one that sat idle for all of 2013.

Energy Searcher is Northern’s drillship, used in exploration activities. The ship completed a contract earlier than expected off Vietnam in 2012, and was sent to Singapore for maintenance after. Northern Offshore marketed the ship for the entirety of 2013, but could not find a taker. Finally, Northern has signed a contract with Camac Energy for use off Africa’s west coast, and at a handsome rate: nearly $100 million per year, with an option for an additional year. The ship is currently on its way to its new market, where it will begin operations in mid-2014. The revenues from this contract should add handsomely to Northern’s EBITDA and free cash flow.

Before I proceed to evaluate the impact of Energy Searcher’s contract, a few caveats. First, Energy Searcher is an OLD vessel. and other shipping info sites list the date of construction as 1982, but some other sources indicate that Energy Searcher was originally built in Sweden in 1958 and converted to a drillship in 1982. Apparently, the original engine is still going strong, but anyone wishing to model out Northern’s results should probably not assume a long remaining life for Energy Searcher. Second, Northern’s troubles marketing Energy Searcher are not new. The ship also sat idle for much of 2011. Finally, Energy Searcher’s new employer, Camac Energy, is hardly a prime operator. Camac is a highly speculative prospector that recently required a capital injection from a South African pension fund to continue its operations. Should Camac run into further trouble, its ability to perform on the Energy Searcher contract could be in doubt.

Assuming all goes well, Energy Searcher will provide a serious boost to Northern’s operating results. In previous years, drilling and production costs have ranged from 40.7% of revenues all the way to 71.1% of revenues.



Conservatively assuming that drilling and production expenses eat up 70% of Energy Searchers’s revenues, Energy Searcher will contribute an additional $30 million or so to Northern’s EBITDA and free cash flow once the contract kicks in. The chart below compares Northern’s actual 2013 results with pro forma results including Energy Searcher’s revenues. The projection ignores increased revenues from a higher dayrate for Energy Enhancer and assumes general and administrative costs remain steady.


Once Energy Searcher is again in operation, Northern’s EBITDA and EBIT will likely jump significantly. Free cash flow will likely rise by a similar amount, though some working capital investment may blunt the effect slightly. Regardless, 2.8x pro forma EBITDA and 4.7x pro forma EBIT is flat out cheap, even for a company that faces distinct risks.

Complicating the matter is Northern Offshore’s order for two high specification jackup rigs, currently being built in China for delivery in 2016. Northern Offshore will require financing for the total cost of just under $180 million. Northern Offshore will have a few financing options available, including a bond issue, a sale-leaseback arrangement with  a company like Ship Finance or Ocean Yield, or selling off its existing assets. Whether the new jackup rigs will be a profitable investment is another question, and one that is difficult to determine two years in advance. Much depends on the direction of oil prices and jackup dayrates in the interim.

Despite these risks, I contend that the market has failed to adequately price in Northern Offshore’s upcoming EBITDA and free cash flow boosts. Once the market notices the absurd EV/EBITDA multiple and the 20%+ free cash flow yield that the Energy Searcher contract could bring, shares could appreciate, much like Awilco’s did once its rigs were fully contracted and operating. In the interim, shareholders will be well-compensated by Northern Offshore’s 14% dividend yield.

Alluvial Capital Managment, LLC does not hold shares of Northern Offshore  for client accounts. Alluvial does hold shares of Awilco Drilling for client accounts. is an Alluvial Capital Management, LLC publication. For information on Alluvial’s managed accounts, please see

Alluvial Capital Management, LLC may buy or sell securities mentioned on this blog for client accounts or for the accounts of principals. For a full accounting of Alluvial’s and Alluvial personnel’s holdings in any securities mentioned, contact Alluvial Capital Management, LLC at


Jungfraubahn Holding AG – Six Swiss Exchange: JFN

One of the investment strategies Alluvial Capital Management LLC offers is the “Global Quality & Income” portfolio, which seeks healthy current income and reasonable capital appreciation while taking on less risk than global equity markets. For the equity portion of this strategy I seek out companies with consistent free cash flows, little or no debt, and durable business models. I emphasize companies that can weather poor economic conditions better than more leveraged firms or those in cyclical industries. Additionally, I like companies that own unique and irreplaceable physical or intangible assets, since these often equal pricing power and limit competition. Examples include infrastructure like ports or highways, or respected consumer brands. These positive characteristics rarely come cheap. Companies with true durable earnings power and fortress balance sheets often sell at premiums to average market valuations, yet can still provide a means of earning satisfactory returns while avoiding a large part of the market’s risk and remaining insulated against volatile economic conditions.

Jungfraubahn Holdings AG is an example of a company that meets all these conditions. Jungfraubahn’s crown jewel is its railway system that transports tourists and vacationers high into the Swiss Alps, allowing them access incredible views and panoramas. Billing its highest station as the “Top of Europe,” Jungfraubahn seems to live up to its advertising and provide a great sightseeing experience, judging by the Tripadvisor reviews. The Jungfrau Railway was completed in 1912 and runs 5.7 miles to the peak, passing through 4.3 miles of mountain tunnel. 833,000 guests made the trip in 2012.

Just to set the scene a little, here a picture of the railway and the scenery that riders experience. Sign me up!


Revenues from the Jungfrau Railway and associated operations account for the lion’s share of Jungfraubahn’s profits, but the company also realizes significant revenues from multiple skiing and winter sports venues in the region. The company is working with other operators to expand its offerings, increase capacity and bring in more visitors during slower seasons.

So, very pretty and clearly an attractive destination to many. But what exactly makes Jungfraubahn such a “quality” company?

Unique Assets

Gas station owners fret about another station opening up across the intersection. Clothing retailers expect their most popular designs to be copied almost instantly by other retailers. But if you own a railway in the Swiss Alps, you don’t exactly have to worry about another popping up the next ridge over and siphoning off one’s riders. For one, building a new railway anywhere requires massive upfront investment, extensive planning and years of construction. There are myriad other issues to deal with, including environmental impact studies and remediation, land and easement acquisition, governmental approvals and integration with existing transport networks. Nearly all of the developed world’s existing rail network was built decades and decades ago when these issues were much less significant. The Swiss Alps represent an especially challenging area for any possible passenger railway construction. For one, the supply of “views” is limited, and presumably the existing railway network already takes advantage of the most picturesque routes. Swiss national and regional governments also possess strong incentives to disallow new entrants, wishing to preserve the region’s unspoiled beauty and maintain the economic value of existing railways, some of which are party-owned by Swiss governments. Jungfraubahn’s railways occupy a unique competitive position and cannot easily be duplicated or copied.

Stability and Safety

Through good economic times and bad, Jungfraubahn has produced remarkably consistent growth in revenues and profits. Even in the heart of the financial crisis, with the world economy threatening to collapse, Jungfraubahn’s revenues rose 1.8% in 2008 and declined just 0.3% in 2009. EBITDA and EBIT grew in each of those years, and have kept on doing so. As a well-known destination in a mature region, Jungfraubahn is not a fast grower. However, it has consistently increased its revenues and earnings for as far back as I can find records. From 2004 to the end of 2012, Jungfraubahn grew revenues at an annual rate of 4.1%, EBITDA at 6.1% and EBIT at 6.8%.

Along the way, Jungfraubahn reduced its net debt from over 80 million CHF in 2004 to a net cash position in 2012. The company has reduced its leverage to the point that its capital structure is probably somewhat inefficient, but the conservative capital structure does provide benefits in the forms of optionality and reduced risk of financial distress. Jungfraubahn has plenty of capacity to take on debt if an attractive opportunity arises, and the low/negative debt standing makes the company nearly impervious to the state of the world’s capital markets, even if they were to grind to a halt.

Consistent Free Cash Flows

Jungfraubahn produces copious free cash flow and converts revenues to free cash flow at a high rate. Over the last five years, free cash flow generation has averaged 16.4% of revenues and 43.3% of EBITDA. The company has achieved this without sweating its fixed assets; capital expenditures averaged 113.5% of depreciation in the last five years. Jungfraubahn has used its steady free cash flow to pay down debt and pay increasing dividends. From 2004 to 2012, dividends rose at a healthy pace of 7.1% annually. Now that the company has paid down debt to a net cash position, it is free to devote a substantially greater portion of its free cash flows to productive expansion or payments to shareholders through dividends or buybacks.

Together, these characteristics point to a company that is likely to maintain its market position for decades and decades to come, and can use its growing free cash flow to reward shareholders.

Financial Trends

At this point, let’s examine Jungfraubahn’s historical financial results. After all, this is a value investing blog. The results below are calculated from the company’s financial statements and are stated in millions CHF.

JFN historical results


Jungfraubahn has produced impressive results. Top-line growth has not been rapid, but it has been consistent, even through times of recession and economic stress. The company’s true accomplishment has been its expanding EBITDA and EBIT margins. In 2004, less than 18% of revenues dropped to EBIT. For the twelve trailing months, that figure broke above 22% for the first time. This increase can be explained partly by a slowly shifting revenue mix. Jungfraubahn has steadily increased the proportion of its revenue that comes from its hospitality and winter sports operations, which earn higher margins than its transportation businesses.

If Jungfraubahn’s results show a glaring weakness, it is in returns on invested capital, which languish below 10%. Companies that require high levels of fixed asset investment often show low EBIT yields on invested capital, but Jungfraubahn’s anemic returns cannot be wholly excused. While not strictly comparable to tourist passenger railways, the three largest public US railways averaged 21.6% EBIT/invested capital in their most recent fiscal years. On the bright side, Jungfraubahn has succeeded in boosting returns on invested capital from a pitiful 5.60% in 2005 to 8.77% for the trailing twelve months. The 8.77% figure is still tepid, but results in significantly higher returns on capital provided. Jungfraubahn has also wisely refrained from employing additional capital in its low-return environment. Invested capital has remained nearly unchanged since 2004, though its composition has shifted strongly in favor of equity. If Jungfraubahn can continue to shift its revenues in favor of higher margin offerings, the resulting increase in returns on invested capital would greatly increase the value of the enterprise.

Valuation and Risks

Despite its high-quality operations, rock-solid balance sheet and consistent free cash flow, Jungfraubahn sells for a pedestrian 14.9x trailing earnings and around 11.0x EBIT for the entire enterprise. At the most recent trade of 67.50 CHF, the company offers a dividend yield of 2.7%. For the sake of brevity, I’ll forgo any detailed valuation exercise here. Suffice to say, purchasing high quality assets at undemanding valuations is very often a path to investing success.

The biggest risk to Jungfraubahn’s results is the possibility of a serious slowdown in tourism activity in the Swiss Alps, or changing tastes in consumer travel. Jungfraubahn has been successful in attracting Asian clients, especially from China. Trouble in the Chinese economy could crimp the travel habits of China’s rich. A strengthening Swiss Franc could also reduce Switzerland’s attractiveness as a tourist destination.

Jungfraubahn is not likely to double in value by next year, or rocket on news of some technological breakthrough. On the other hand, it is not likely to see its competitive position eroded through competition or see it shares plummet on default fears next time a recession comes calling. For investors interested in owning a unique business with strong defensive characteristics at a reasonable valuation, Jungfraubahn is worth a look.

As a final note for anyone looking to take a Swiss vacation, Jungfraubahn offers a shareholders club for owners of 250 shares or more. Benefits of this club include half-priced train fare and free passes to winter sports venues. Could be a nice perk!

Alluvial Capital Managment, LLC holds shares of Jungfraubahn Holdings AG  for client accounts. is an Alluvial Capital Management, LLC publication. For information on Alluvial’s managed accounts, please see

Alluvial Capital Management, LLC may buy or sell securities mentioned on this blog for client accounts or for the accounts of principals. For a full accounting of Alluvial’s and Alluvial personnel’s holdings in any securities mentioned, contact Alluvial Capital Management, LLC at

Capilano Honey Limited’s Restructuring Works, But the Stock Remains Cheap – CZZ:ASX

I have always taken a special interest in companies that operate in obscure or unusual industries, especially those with few or no publicly-traded competitors. So far as I can find, Australia’s Capilano Honey is the world’s only listed pure-play honey producer. Honey is one of humanity’s oldest and most widely-enjoyed foods. Man has braved bee stings to collect the sweet substance for at least 8,000 years, with paintings of honey collectors appearing in cave paintings in Spain.



Famous for its resistance to spoilage and a better health alternative to processed sugars, I expect humans to continue consuming honey for thousands of years. It will always have a place in my own cupboard.

Capilano Honey has been in the honey business since 1953, and now distributes honey produced by over 500 different beekeepers to dozens of countries around the world. The name “Capilano,” meaning “rushing water,” comes from a Native American language that the founder encountered while stationed in Canada during World War II. Capilano began as a bee-keeper co-operative, became a public company in 1970, and listed on the Australian Exchange in 2012.

Capilano enjoys a strong brand position, with its honey occupying the number one market position in Australia. The company is healthily profitable and has reasonable levels of debt and leverage, as well as expanding margins. However, Capilano was not always so strong. As recently as 2011, Capilano struggled with excess debt and weak operating margins, which lead the company to post large losses in 2009 and 2011. To overcome its weak financial and operating position, Capilano undertook a few key initiatives (note: all figures in this post are Australian Dollar figures).

  • Deleveraging – Beginning in 2010, Capilano took a serious approach to debt reduction. From the end of fiscal 2009 to the present, the company reduced its net debt by $20 million. The company also conducted a rights issue in 2010 that raised $2 million.
  • Shedding Loss-Making Activities – Capilano was once saddled with unprofitable segments and initiatives. Capilano responded by shutting down its struggling Canadian operations, taking a large write-off in the process. Capilano also divested holdings in a New Zealand bee product company and ceased exporting to certain low-margin markets.
  • Improved Product Mix – Capilano has worked to increase its sales of higher-margin products like specialty honeys and honey products. The company has introduced new offerings like single-serve honey packets and honey-infused syrups, which have been embraced by consumers. Capilano has also established a distribution agreement with New Zealand Manuka, a premium honey producer.
  • Improved Operational Scale – Capilano acquired Wescobee in early 2013, adding access to Western Australia’s unique floral honeys and to markets where the company previously had no presence. Wescobee’s honey packaging assets have improved Capilano’s operating margins.

As a result of these initiatives, Capilano’s operating margins expanded from 3.65% in 2010 to 8.36% for the trailing twelve months. Reported profits for the twelve trailing months rose to $4.79 million, nearly double 2012’s result. These results do not yet include a full year’s contribution from Wescobee. Trailing earnings also fail to fully reflect reduced interest expenses from declining debt.

Capilano trades at 9.8x trailing earnings, a considerable discount to typical consumer staples valuations. In my view, any single-digit multiple represents a good entry point for a financially healthy company consumer-oriented business that deals in products with durable demand. Capilano’s products also enjoy a degree of differentiation, with growth opportunities in specialty honey produced in specific regions from specific blossoms. However cheap Capilano may appear now, I also expect Capilano’s earnings to rise significantly in the next year due to the continuation of the restructuring process outlined above. If the second half of fiscal 2014’s results continue the first half’s revenue growth and margin expansion, as well as reduced interest expenses, fiscal 2014 earnings could be much higher than the trailing twelve months’ figures.

It’s a simple thesis, to be sure, but also one that does not require any financial engineering or management heroics to play out. At the current price, Capilano offers the opportunity to invest in a rejuvenated franchise with a strong market position and good prospects at a modest price.

As a final note, I hope readers will appreciate the complete absence of bee and/or honey-related puns throughout the entire post. I was tempted. So tempted.

Alluvial Capital Managment, LLC does not hold shares of Capilano Honey  for client accounts. is an Alluvial Capital Management, LLC publication. For information on Alluvial’s managed accounts, please see

Alluvial Capital Management, LLC may buy or sell securities mentioned on this blog for client accounts or for the accounts of principals. For a full accounting of Alluvial’s and Alluvial personnel’s holdings in any securities mentioned, contact Alluvial Capital Management, LLC at