It is a wonderful thing to be one of Canada's most successful software companies, with remarkable profit margins, a 20-fold increase in stock price over a decade, a pristine balance sheet and a history of sky-high returns on capital.
Unless, of course, nearly all of your sales come from one industry: oil and gas exploration and production companies, which, you may have heard, are not doing so well.
Such is life for Computer Modelling Group Ltd., a Calgary company that is a leader in "reservoir simulation" software, applications that allow energy explorers to get a far better handle on what lies far beneath the soil. With the crash in crude, and the cutbacks in capital spending, Computer Modelling's long-term track record of profit growth has stalled, and the shares have retreated about 30 per cent from their record highs in 2014.
And yet, with a gain of more than a third from its late-January lows, the stock is not cheap by any measure. At Wednesday's close of $10.14, it has a price-to-earnings ratio topping 30 and an enterprise value, or market capitalization plus net debt, of 20 times its EBITDA, or earnings before interest, taxes, depreciation and amortization, according to S&P Global Market Intelligence.
It's a dichotomy that's playing out among investors and the analysts who cover the stock, who are decidedly split on the shares. Judged as an energy-services company, Computer Modelling has been remarkably resilient and represents one of the safest plays on the Canadian oil and gas industry. Weighed against other software firms, however, Computer Modelling is shockingly expensive for a company whose near-term growth profile has been deeply dented.
"[Computer Modelling] is one of the best financially performing companies we have seen in years," writes Michael Urlocker, a software analyst at GMP Securities LP. "As measured by historic [return on equity], net margin, cash generation and dividend growth, the company has been virtually without peer." And, he notes, the company's cash balance is unchanged from two years ago "which is a testament to the business and management strength considering the decline of oil and that $17-million was spent on share buybacks and $63-million on dividends in that time."
The problem, of course, is that decline of oil. Computer Modelling has several products, ranging from a "black-oil reservoir simulator" that has a number of competitors, to its flagship product STARS (Steam, Thermal and Advanced processes Reservoir Simulator). STARS can handle mapping and simulation of the most complex "in situ" energy exploration products, which are too deep to mine with an open pit. These projects can also have high costs of extraction, and may slow or stop in a low-price environment. This can be seen in the results of the fourth-quarter, ended March 31. Revenue was down 7 per cent, year-over-year, with EBITDA falling 17 per cent. (EBITDA margin of 39 per cent, which many companies would kill for, was the lowest since 2008, Mr. Urlocker says.) "Perpetual sales," where the customer buys the software outright and signs up for maintenance, as opposed to buying an annual licence, have dropped to 4 per cent of revenue, from the 20-per-cent level in 2010-12. The company has many U.S. clients, so it benefited from the loonie's decline, a factor it may not be able to count on in the current fiscal year.
Mr. Urlocker calls Computer Modelling a "great company in a tough cycle" and rates it a "hold" with a $9 target price. Other analysts, however, offer up a target price of $8 and rate the shares a "sell." Doug Taylor, a software analyst at Canaccord Genuity, says that while the worst of the commodity downturn may be behind the company, he doesn't expect Computer Modelling to return to consistent double-digit revenue growth in its annual licensing and maintenance revenue in the coming years. As a result, he says, its valuation is "full," and its earnings multiples could contract, leading to a share-price decline.
The view is different, however, from analysts who specialize in the energy-services sector. Michael Mazar of BMO Nesbitt Burns Inc. writes that while the recent quarter's results "were not outstanding," the full-year EBITDA decline of 13 per cent compares favourably with most oil-field services companies' declines of 40 per cent or more.
Mr. Mazar says that because the company's shares haven't fallen as much as those peers, and its debt-free balance sheet has less leverage, Computer Modelling shares are less likely to jump in a continued recovery, compared with the rest of the stocks he covers. Mr. Mazar, who has an "outperform" rating and $11 target price, says it instead "provides the lowest-risk way to gain exposure to the group."
Elias Foscolos, who covers energy services for Industrial Alliance Securities Inc., has a "buy" rating and $10.75 target price. He said that when he looks at research from analysts with a far more pessimistic view than his, "I ask myself, 'Are we looking at the same company?'"
Increasingly, investors seem to be siding with the energy analysts, rather than the software specialists and their "hold" and "sell" ratings, as Computer Modelling's share price creeps up to the more optimistic targets. A continued rebound in oil prices may return the company to its unquestioned days of glory.