Cactus, Inc.

Moat: 2.5/5

Understandability: 3/5

Balance Sheet Health: 4/5

Cactus, Inc. is a manufacturer and supplier of wellheads and related equipment, primarily for the oil and gas industry, focused on drilling, completion, and production phases, with a significant footprint in North America.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

Cactus, Inc., or “Cactus” is a company that operates in the oil and gas industry, primarily in North America. They design, manufacture, sell, and rent wellheads and pressure control equipment used during the drilling, completion, and production phases of oil and gas wells. Here’s a detailed breakdown:

  • Revenue Streams:
    • Product Revenue: This segment involves selling wellheads, which are essential mechanical components that control the pressure and flow of oil and gas during extraction. This segment is the most significant part of WHD’s revenues.
      • They typically also sell other equipment related to wellhead construction
    • Rental Revenue: This involves renting equipment and services that are essential for fracking and well completion. This is also a major contributor to their income. They rent equipment such as pressure control equipment for well operations. They provide technicians with the equipment for safe and effective well operations. They also repair and test equipment for its customers.
    • Other Revenue: Includes field services, including installation and maintenance services for their products. The “other” segment is much lower than the rest.
  • Industry Trends:
    • Cyclicality: The oil and gas industry is highly cyclical, making Cactus’s performance closely tied to commodity prices and drilling activity levels.
    • Shift Towards Automation: There’s a growing trend towards automation and digital technologies in the oil and gas sector, which increases the need for efficient equipment. Cactus is positioned well with its technological expertise to take advantage of these new trends.
    This will lead to further reduction in operational costs and increased speed for its customers.
*   **Sustainability and ESG**: Increasingly, the industry is facing pressure to adopt more sustainable practices, which could shift demand towards equipment manufacturers that prioritize environmental responsibility. While not a primary factor right now, this may increase in importance over time.
  • Margins:
    • EBITDA: Cactus generally reports an EBITDA margin in the range of 30 to 35 percent, highlighting the profitability of their core operations.
    • Gross Margin: The gross margin is in line with the EBITDA margin, highlighting the fact that the biggest expenses for Cactus are in operating expenses, not in material costs.
  • Competitive Landscape:
    • Fragmented Market: The wellhead manufacturing and oilfield equipment sector is highly fragmented and includes a variety of large and small players. WHD is one of the bigger players. This presents opportunities for consolidation and market share gain.
    • Competitive Pressures: The price of equipment is often a major determinant of success in the market, which makes pricing power difficult for most players.
      • The ability to retain contracts requires constant improvement in technology and service.

  • Differentiation: Cactus positions itself on engineering excellence, providing tailored solutions, safety, and customer support. This strategy aims to lock in long-term contracts from customers looking for the most reliable, well designed products.

  • What sets them apart?: * They are one of the bigger players in a fragmented market, which creates economies of scale and allows them to outcompete other companies. * They have a comprehensive product line, offering both wellheads and pressure control equipment. This gives them a greater share of the market. * They are known for having engineers that make products for any need or issue in the market. This engineering prowess also gives them a moat.

Financial Analysis

Cactus has demonstrated robust financials, with a trend towards higher revenue, margins, and cash generation over the past few years, as shown in recent reports and earnings calls. Here is a detailed analysis:

  • Revenue Growth: Strong year-over-year growth is a highlight. This growth is likely driven by increased drilling activity and the company’s ability to win large contracts. This indicates strong demand for its products and services.
    • Most recent revenues have been higher in the 2022 and 2023 periods.
  • Profitability: EBITDA margins generally fluctuate between 30% and 35%, indicating strong operating efficiency, though margins did fall a bit to about 25% in one of the recent quarters because of more service activity instead of product delivery which is higher margin. However management states that they are focused on improving profitability.
    • While their ROIC has been around 10%, their returns are above average relative to their cost of capital and indicates the strength of their moat.
  • Cash Flow: Cactus has been steadily generating impressive operating cash flows. Their cash flows are high, indicating good business execution, low capital expenditures, and high net income. This enables funding and business expansion.
  • Balance Sheet Health: Their balance sheet is strong. Current assets dwarf current liabilities. They also carry little debt. This suggests they can weather a downturn without much problem. They have also steadily improved liquidity positions.

Recent Concerns/Controversies:

  • Supply Chain: Supply chain issues remain a concern in the oilfield equipment industry. While Cactus has been trying its best to minimize the issues, they are still prevalent, and this could affect revenue and operations in the short-term.
  • Unconventional vs Conventional: Much of oil drilling now is happening in the unconventional sector. Cactus is more exposed to the conventional sector, although it is moving to the unconventional. This change may take time to realize profits in that sector.
  • Geopolitical instability: The recent geopolitical instability has led to more reliance on natural gas in the EU and other places. The oil market, however, has not seen the same demand push. This could affect Cactus’s prospects in the near to medium-term future.

Management Outlook:

Management appears quite optimistic about their prospects in the medium to long term. They see that industry trends like automation and increased complexity in oil production favor their business. They also believe they have sufficient resources to handle these trends. They are focused on maintaining strong long-term relationships with their customers and providing value in their products and services. They are keen on growing revenues, while also keeping costs low.

Moat Rating: 2.5 / 5

Cactus possesses a narrow but developing economic moat, which warrants a rating of 2.5 out of 5. Here’s why:

  • Strengths (Sources of Moat):
    • Established Customer Relationships: Cactus has long-standing relationships with many oil and gas companies and their operations are deeply integrated in their client’s processes. That creates switching costs which form a barrier to entry. This means there is low likelihood that other firms will try to poach customers since they have established relationship with Cactus for a while.
    • Engineering and Manufacturing Expertise: They have gained strong reputation for complex design, customization, and manufacturing. Their know-how allows them to command premium pricing on some of their products. This high quality is a barrier to entry. It would take many new companies too long to catch up.
    • Distribution Network: The strong distribution network allows for good delivery time. These established networks are also hard to copy, giving them an advantage over competitors.
  • Weaknesses/Risks:
    • Reliance on Cyclical Industry: The company is heavily dependent on the cyclical oil and gas industry, which creates market volatility.
    While companies that are closely tied to commodity industries may be quite lucrative, their profitability is always prone to significant drops during market downturns.
*   **Limited Pricing Power:** The commoditized nature of some products means that they have limited ability to set higher prices if required.
 * **Technological Disruption:** While their R&D efforts are good, it's always a risk for the technology to be overtaken by disruptors, which could make the specialized products and operations obsolete.

Understandability: 3 / 5

Cactus’ business model is moderately complex, leading to a score of 3 out of 5. Here’s a quick look:

  • The company’s core business is selling and renting wellheads and pressure control equipment. This is pretty easy to understand.
  • Their revenue streams and operations are closely tied to the oil industry, which can be challenging for people not familiar with the industry. This industry can be pretty complex.

Balance Sheet Health: 4 / 5

The company’s financial position is strong, which warrants a rating of 4 out of 5. The following factors back up this rating:

  • Solid Liquidity: Their balance sheet is marked by a healthy cash balance and positive free cash flows. They also have a strong credit facility in place. This indicates they are well-positioned to handle any current uncertainties.
  • Low Leverage: They have low debt on their balance sheet, which means that their business and solvency are not at risk in the event of a market downturn.
  • Strong Balance Sheet: Their current assets are 2.6 times their current liabilities. That shows that their business is very healthy and stable.
  • Growing Equity: The value of shareholder’s equity is on the rise, which means that management is actively creating a business that will generate wealth in the long term.

In conclusion, WHD is a well-run business with decent potential, but it operates in an industry that will be volatile and difficult to predict. This makes it somewhat of an unstable investment, that warrants careful analysis.