Disrupting an industry one pipe at a time

Joshua Baker

Capital H Management

Tubi Group (ASX:2BE) is a recent IPO, which despite trading at a premium, came to market with little fanfare or exposure. The cynic in me thinks this is likely since Tubi is an established business, that makes money, and not coming to market on the dream of proving a new drug, a new tech with a fluffed up ultra-large TAM or is the second coming of Afterpay. That or pipelines really aren’t as sexy to most investors as they are to me!

Unlike the typical IPO, Tubi was a selldown as the founder looked to partially cash out after 10 years of building the business. Although not ideal, I don’t believe this is a thesis killer as the founder has committed to not selling further stock and is subject to escrow alongside other management/directors and insiders who retain all their shares post-IPO. It should be noted that in April 2019, a pre-IPO round was conducted raising $10m as the same price as the IPO ($0.20). Post capital raising and the IPO, directors, management and staff hold ~60% of the company, with half escrowed for 1 year and the rest for 2 years. I believe this keeps key staff well aligned with minority shareholders.

Tubi has spent the last 10 years developing and validating its mobile high-density polyethylene (HDPE) pipeline extrusion plant. HDPE pipeline is a growing segment within the multi-billion-dollar plastic pipe sector as its attributes (i.e. anti-corrosion, impact resistance and flexibility) offer advantages in the oil & gas, mining, water, agriculture and industrial sectors. The ideal project for Tubi’s solution would be a large scale project that would benefit from dedicated onsite production or in a remote location where logistics for moving prefabbed HDPE would be difficult and costly. Tubi defines a target project as one requiring a minimum of 6 months of dedicated production or at least 2,000 tonnes of HDPE pipe.

Tubi offers it solution under two options, Manufacturing and Supply Agreements (MSA) or an Equipment Purchase Agreement (EPA) licence. Under an MSA, Tubi covers the cost of the plant, transporting it to where the customer requires it, and is paid for manufacturing HDPE pipe as per the demands/terms of the customer. Under an EPA, Tubi build and delivers a plant to the customer who runs it themselves to meet their own customer or project demands. Tubi is paid for the cost of the plant and ongoing maintenance and support services. EPA contracts limit the licenced customer to use of the plant in specific regions and includes a range of clauses to limit IP leakage risk or undesirable ownership transfers of the plant.

Tubi’s mobile HDPE extrusion solution has become world leading as it is the only solution that is truly mobile, with the extrusion plant being fitted into shipping containers. This compact, modular design allows for easy construction, pack up and transportation of the plant. It typically takes between 48hrs and 72hrs to either mobilise or demobilise the plant on site and have it ready to move. Most other attempts at a mobile solution have been limited to setting up what is essentially a localised HDPE extrusion plant, which requires a concrete pad and shed to be set up on site. This takes longer to build and take down. 

For the right project, a mobile HDPE extrusion plant offers a range of benefits over sourcing prefabbed HDPE pipe, which include:

  • Longer pipe lengths reduces the number of welds (by up to a factor of 20) needed to join pipes across a pipeline network. Fewer welds reduces both labour and equipment costs, whilst it reduces time required to complete pipeline builds. Fewer welds also improves pipe network durability as welds are one of the more common parts where breaks occur.
  • An on-site mobile plant is not typically subject to road regulations that limit transportable pipeline lengths (often capped at 12m to 15m in length) as Tubi can produce HDPE pipes of lengths up to 3kms per pipe. Material costs can be saved as trucking PE resin to the plant is more efficient that trucking shorter length prefabbed pipe. Tubi also has a proprietary reel for transporting long pipe which improves logistics within the project area.
  • Building longer tubes on-site can also reduce logistics challenges in remote or difficult terrain, whether that is sourcing and getting pipe deliver to site or transporting pipe across the project area. such as the multi-hundred km water pipelines being built in Chile to connect copper mines (e.g. Escondida or Quebrada Blanca Phase 2) in the Andes to desalination plants on the coast.
  • The extrusion capability of Tubi’s plant is not limited to make it mobile and can produce HDPE pipe to most specs offered by conventional fixed plant manufacturers (i.e. pipe widths and wall thicknesses).
  • Another benefit is quality control as pipeline spec can be monitored and tested daily by the customer which reduces project delays if poor quality pipe is delivered to site and needs to be replaced.

Given these advantages, Tubi’s mobile HDPE extrusion plant can provide material costs savings and productivity improvements. The abov factors can result in costs savings of 20%+ just on labour, 30%+ factoring in second derivative impacts and time/productivity savings of up to 50% in laying a pipeline network. This presentation comes from CS&D services, a project representative for Tubi, and details the potential of labour costs savings using metrics from its involvement in the Central Plains Water Scheme in NZ.

Beyond the cost benefits that Tubi’s mobile extrusion plant offers, I believe the following attributes of the company also improve the Tubi’s ability to grow earnings and be a successful investment:

  1. Tubi’s plant has been validated by multiple Tier 1 customers on large projects, which include: 
  • BG Group for their CSG field development in Queensland in 2014; 
  • Downer EDI for stage 2 of the Central Plains Irrigation Scheme in NZ, where Tubi provided ~150km of the ~170km of pipe required over 2016/17. A testimonial from the Downer project manager:
  • MPS Enterprises Inc. Although not a Tier 1 energy services business themselves, MPS contracts Tubi’s plant to provide HDPE pipe to ExxonMobil’s Permian basin operations, who plan to spend USD10b to triple production to ~1mboed by 2024.
  1. Tubi’s IP has stood contest. Tubi has sort and received patents for their mobile extrusion plant. Between 2016 and 2017, Tubi’s core patent was contested by Vinidex, who is the Australian subsidiary of Aliaxis, who is a leading global pipe company. Vinidex’s contest failed thus ensuring the validity of Tubi’s IP being novel. This also suggest that HDPE pipeline companies will see Tubi as a threat that can take material market share.
  2. Limited competition. To date, there is only one other company (also Australian) who appears to have a truly mobile solution. This company’s solution was considered independent enough to Tubi’s IP to receive its own patent protection as well, which was also unsuccessfully contested by Vinidex. However, this competitor does not appear to have the real world project validation that Tubi has, thus is considered behind the curve as a competitive threat. However, their progress is something to watch in case they do validate or sell out to a large global pipe company that can compete.
  3. Jeff Shorter was brought on as CEO in December 2018. Jeff is based in Texas and has 25 years of experience in the energy and pipeline sectors. Between 2009 and 2013, Jeff became CEO of FlexSteel Pipeline Technologies Inc., which encompassed the onshore FlexSteel pipe products that was the divested by Wellstream Plc. Over his tenure, the business grew revenue by multiples from a base of ~$23m at divestment and oversaw a production capacity expansion of ~300% to support existing and new product innovations of the FlexSteel IP. With Jeff’s appointment, it is expected the core focus will be on the energy sector and North American opportunities in the near-term.
  4. Tubi is funded to meet growth plans. At IPO, Tubi had ~$13m in cash and for FY19 & FY20 (as detailed in the prospectus) is expected to generate cumulative operating cash flow of $16.5m. This provides total funding capacity of ~$29.5m. Total CAPEX requirements over FY19 and FY20, which covers the production of 4 plants is ~$22.5m. This also provide Tubi with the capacity to capitalise on any additional expansion opportunities that may arise beyond current plans.
  5. Tubi was listed on a modest forward valuation, which provides new investors with attractive asymmetric return potential. Even at the current premium to the IPO price, Tubi is trading on a high single digit earnings multiple on a 2 to 3 year forward basis, whilst in a position to grow EPS by up to 100% p.a. over this period assuming they deliver their expansion plans. Should Tubi achieve results in line with my high and low case scenarios, and trade at multiples consistent with the small industrial cohort, Tubi would be worth multiples higher over the next 3 years with limited downside. Should Tubi fail to contract out plants 3 and 4 and is wholly reliant on the MPS contract, downside would be between 30% to 50% to the current share price.

Whilst my research indicates return outcomes are likely positively skewed to the upside, the following are key risks to note that could derail the opportunity:

  • Customer concentration. Tubi currently only has 2 customers. However, as the Iplex contract is under a EPA structure rather than MSA, Tubi is largely reliant on one customer being MPS. Should MPS default or let its contract renewal lapse, Tubi’s revenues and cashflows would decline close to zero, thus dramatically reducing the value of the business. The valuation afforded too Tubi by investors may also be limited until Tubi sufficiently diversifies its customer base, thus limiting the potential upside even if Tubi delivers on its near-term expansion plans.
  • Delays in plant delivery or failure to sign contracts for plants 3 & 4. A delay in delivery would impact the ability for Tubi to meet prospectus forecasts as FY20 revenue is predicated on revenue generation from these plants. If they are contracted, this would be a timing issue only. Should Tubi fail to contract these plants, then long term revenue and profit growth expectations would be materially impacted.
  • Oil markets. With Tubi’s dominate customer being MPS, Tubi has an underlying economic risk factor to the oil cycle. The oil price can be quite volatile over short term periods and for shale, the CAPEX cycle can be almost as volatile. However, I believe this risk is somewhat muted with ExxonMobil being the ultimate customer as their CAPEX plans for their Permian operations have continued to accelerate despite a more modest and volatile price environment prevailing in recent years, whilst they claim their development plans can produce double digit IRRs with oil at USD35/bbl.
  • HDPE resin prices. Resin is a key cost input making up ~70%+ of COGS. Increases in HDPE resin prices can negatively impact the profitability of Tubi, particularly if there are delays or limitations in the ability of Tubi to pass on higher resin prices to customers. This would result is a decline in gross margin and ultimately impact profitability and profit growth. It should be noted that polyethylene (PE) is derived from oil and gas, thus resin costs can be influenced by prevailing oil and gas prices.
  • Competition. Currently Tubi only has one apparent competitor with a truly mobile HDPE extrusion plant. To date this competitor doesn’t appear to have validated its offering. However, in time they could land contracts and validate their IP or potentially sell out to an established pipe company like Vinidex who would be better resourced and placed to compete aggressively with Tubi. This would reduce the growth potential and trajectory for Tubi. Beyond this, mobile HDPE extrusion plant solutions have essentially been building a small factory onsite to produce pipe which Tubi has a clear advantage over.

The following are the key catalysts to track to ensure the thesis is on track and to drive the share price over the next 3 years.

  • Meeting FY19 prospectus numbers (August 2019)
  • Completion and delivery of the Iplex plant (September 2019)
  • Completion and delivery of the second plant to MPS Inc (Oct/Nov 2019)
  • Completion and delivery of the third and fourth plants (est. Feb 2020 and March 2020 respectively)
  • Contracting the third and fourth plants (2H FY20)
  • Meeting FY20 prospectus numbers (August 2020)
  • Details of further plant production plans and contract opportunities (2H20).

Disclaimer: Any information contained in this article is limited to general information only, whilst the opinions and views detailed are those of the author only, and as such does not constitute advice or a recommendation in any capacity. The information contained in this article has not taken into consideration your specific financial needs, goals or objectives, so please consider consulting a licenced adviser before considering acting on this information.

Tubi Group is a small and illiquid company, and like all companies, it has an uncertain future. Therefore, an investment in Tubi shares should be considered high risk. The author owns shares in Tubi at the time of publishing, which were all purchased post-IPO.

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Joshua Baker
Portfolio Manager
Capital H Management

Joshua has worked as an Investment Analyst across different verticals of the financial sector for 9+ years. Experience includes equities research (long/short), manager research and multi-asset portfolios.

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