Secure Energy Services: Available At A 10% Free Cash Flow Yield (TSX:SES:CA)

shaunl/E+ via Getty Images Introduction Earlier this year, Secure Energy Services Inc. (TSX:SES:CA) (OTCPK:SECYF) completed the sale of waste management facilities to a subsidiary of Waste Connections for total cash proceeds of C$1.15B. This wiped out the net debt position overnight and the company decided to spend about C$560M on share buybacks (so far; I anticipate SES to buy back more shares later this year) and will now likely run its balance sheet with a debt ratio of around 0.6-0.75 times EBITDA. I first covered the company in December 2020 when it was trading at C$2.55 per share. The stock is now trading at in excess of C$12 and has returned C$0.78 per share in dividends for a total return of just over 400%. Data by YCharts This article is meant as an update to previous coverage to update my expectations now the C$1.15B sale has been completed. For a better understanding and overview of the company’s business model, I’d recommend you to read my older article. The cash flows remain strong Before discussing the recent corporate events, I wanted to have a look at the company’s financial results to see how it is performing on the business level. Keep in mind the asset sale to Waste Connections closed on February 1st and resulted in a C$520M gain on the divestiture. The total revenue in the first quarter of 2024 was approximately C$2.85B, resulting in a gross margin of C$116M and an operating profit of C$72M which is a decrease compared to the C$88M recorded in the first quarter of 2023. SES Investor Relations As mentioned, the income statement includes a C$520M gain on the sale and although the sale only closed on February 1st, the impact of the cash proceeds from the sale on the net debt, gross debt, and interest expenses is already noticeable as the total interest expenses decreased from C$23M to C$18M including a C$6M lower interest expense. SES Investor Relations Thanks to the non-recurring gain related to the asset sale, the company reported a C$560M pre-tax income and a C$422M net profit. This result also includes C$20M in divestiture-related expenses. To figure out how the company was doing excluding that very large C$520M gain on the divestiture, the cash flow statement definitely provides a better look under the hood as the net cash proceeds of the sale are filtered out. The reported operating cash flow was C$108M but this excludes the C$7M in lease payments, resulting in an underlying operating cash flow of C$101M. The total capex was just C$19M, resulting in an underlying free cash flow of approximately C$82M. SES Investor Relations As you can see below, the total sustaining capex was just C$8M, which means the underlying sustaining free cash flow was approximately C$93M. SES Investor Relations That’s great, but it would be a mistake to just extrapolate that into an anticipated full-year free cash flow result. Not only does seasonality play a role, but the timing of capex issues also is an important element. Just to give you an idea; the company’s full-year sustaining capex guidance is C$60M. That’s an average of C$15M per quarter but the company spent just C$8M in Q1 and that’s about half of the anticipated run rate. This means we need to extrapolate the anticipated net profit and free cash flow result based on the company’s full-year guidance. Secure Energy Services expects a full-year EBITDA of C$450-465M. We know the depreciation and amortization expenses will likely be around C$175-180M, resulting in an EBIT of approximately C$280M. A newly issued debenture for C$300M has a 6.75% coupon so the total interest expenses will be around C$20M. I am not budgeting for any meaningful interest income as the cash position continues to be spent on share buybacks, including the impact of a C$250M substantial issuer bid, completed in June 2024. This results in a pre-tax income of approximately C$260M and a net profit of approximately C$187M after applying an average tax rate of 28%. Assuming a year-end net share count of 230M shares, the underlying EPS will be just over C$0.80 per share. We know the company plans to spend C$60M on sustaining capex, and in combination with the C$25M in anticipated lease payments, the total sustaining capex + lease payments will be C$85M, and that’s around C$90M lower than the total depreciation and amortization expenses. This also means the sustaining free cash flow will be roughly C$90M higher than the anticipated net profit and this will add C$0.39 per share for an underlying sustaining free cash flow result of approximately C$1.20 per share. This means the current quarterly dividend of C$0.10 per share is very well covered. Secure’s balance sheet looks very healthy after the recent sale, and shareholders are benefiting In December 2023, the company announced it had entered into a definitive agreement to sell 29 waste management facilities to a subsidiary of Waste Connections for total cash proceeds of C$1.15B. This transaction closed on February 1st. The windfall of cash hit the balance sheet right away, and Secure Energy Services immediately used the cash to make its balance sheet substantially safer while its shareholders were also participating in the sale. First of all, let’s have a look at the balance sheet. As of the end of December 2023, Secure Energy Services had C$12M in cash and C$966M in gross debt for a net debt of C$954M (excluding asset retirement obligations and lease liabilities). It shouldn’t come as a surprise to see the net debt almost completely evaporated and as the balance sheet below shows, the company had C$296M in cash and restricted cash while the gross debt dropped to C$294M which indeed means Secure Energy Services had a small net cash position as of the end of the first quarter. SES Investor Relations That small net cash position already included the impact of Secure Energy Services’ rather aggressive share buyback pace, spending C$126M on buying back stock in the first quarter of this year. But it obviously didn’t end there: subsequent to the end of the first quarter, SES completed a C$250M substantial issuer bid, buying back almost 22 million shares at C$11.40 per share. SES Investor Relations This will result in another share count reduction to just under 238M shares, and I anticipated Secure Energy Services to continue to use its incoming cash flow to buy back stock. Investment thesis The sale of the 29 facilities was a good move for Secure Energy Services and the C$1.15B in cash proceeds were helpful to immediately convert the net debt position on the balance sheet to a net cash position. The shareholders are benefiting as well, as the company will be able to retire about 20% of its share count this year. I anticipated a sustaining free cash flow result of around C$1.20 per share this year (give or take a few percent), indicating the stock is currently trading at a free cash flow yield of around 10%. That’s definitely not expensive for what essentially is an infrastructure company. I sold my position earlier this year as I wasn’t 100% sure what I could expect from Secure Energy Services in its ‘slimmed down’ version, but I may re-establish a long position on weakness. Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

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