DANIEL M.

MARTINS INDEPENDENCE CONTRACT DRILLING

212-555-1234 Energy – Oilfield Services

sellsideresearcher@gmail.com Ticker: ICD Rating: BUY Price Target: $6.00

September 14, 2016 SUMMARY

Current Stock Price: $4.77
I believe that an investment in ICD, a U.S.-based pure-play onshore driller, could yield
12-month Target: $6.00 returns of about 25% over the next 12 months – while I believe shares could reach
highs of $9.00 by 2020, when I expect the industry to have fully recovered from the
current oil downcycle. One of the best ways to mitigate risks in the cyclically fragile
Financial Metrics & Performance energy sector, in my opinion, is to look for companies with attractive operating assets
2015 2016E 2017E 2018E
Revenues $88,418 $71,709 $89,712 $99,031 and a solid balance sheet, that have the potential to produce results that are above
Gross Margin 41.1% 45.0% 46.3% 45.1%
Op Margin 0.8% -4.0% 5.5% 6.3% expectations while being deeply undervalued in the market. I believe ICD to be this kind
Net Income ($1,919) ($4,369) $3,095 $4,134
EPS ($0.08) ($0.14) $0.09 $0.12 of company. With one of the most modern and capable onshore rig fleets in the
Current Assets
LT Assets
$29,337
$285,452
$26,636
$279,638
$38,689
$275,878
$44,403
$275,841
industry, little debt and valued at multiples that are only a fraction of the peer average,
Current Liab. $18,790 $16,707 $22,594 $26,650
Total Equity $232,737 $272,244 $274,926 $279,044 ICD is a high-quality name that I find compelling – especially for investors with a longer-
Cash from Ops $27,379 $26,785 $25,805 $27,272 term investment horizon that can better tolerate the short-term volatility in the energy
Cash from Inv. ($72,219) ($17,981) ($19,395) ($22,745)
Cash from Fin. $39,427 ($4,115) ($0) ($2,525) sector. I recommend a “Buy” for the company’s stock, and set a 12-month price target
at $6.00/share.

$120,000
Revenues and Gross Margin
47.0%
DISCUSSION POINTS
$99,031 46.0%
$100,000 $88,418 $89,712


45.0%
$80,000 $71,709 44.0%
43.0%
Despite macro challenges, ICD is poised to beat expectations. Given certain
$60,000

$40,000
42.0%
41.0% conservative assumptions (including declining operating days and daily revenue
40.0%
$20,000

$0
39.0%
38.0%
rates in 2016), I believe that ICD can generate nearly $90M in revenues and $27M
2015 2016E 2017E 2018E

Revenues Gross Margin

in EBITDA in 2017. This represents an upside of approximately 20% compared to
Street expectations. Provided that the company’s leadership team is able to
maintain good client relationships and manage rig costs as well as it has in the
Return Metrics
recent past, I believe that, starting in 2017, ICD should perform better than the
2015 2016E 2017E 2018E current stock price seems to reflect.
Return on Assets -0.6% -1.4% 1.0% 1.3%
Return on Equity -0.8% -1.6% 1.1% 1.5%
 High-spec fleet is a differentiator in times of oversupply. To put the quality of
ICD's high-end equipment in perspective, the majority of the existing U.S. rig fleet is
Working Capital Metrics

2015 2016E 2017E 2018E

made up of legacy equipment: 60% of the total fleet is mechanical or SCR legacy
Days Sales O/S
Days Sales Invent.
75.3
16.2
57.0
14.2
62.7
15.2
66.8
16.1
rigs, and 49% is equipped with 1,000-hp engines or less. AC-drive equipment
Days Payable O/S 60.2 111.5 122.7 130.3
represents only 51% of the ~1,300 rigs drilling horizontally, which not only makes
ICD's rigs more competitive for new drilling projects, but also presents the
company with an opportunity to replace less-capable rigs currently in operation.
Return on Equity (ROE)
2.0%
1.5%
 Balance sheet strength makes ICD an unlikely defensive small cap name. The
1.5%

1.0% Days Sales Outstanding (DSO)

1.1%
company holds $7.1M in cash in the books, representing approximately $0.21 per
0.5%
140.0

0.0%
130.3
share, and has only $9.4M in net debt, all of it long-term. In addition, ICD has
120.0
2015 2016E 2017E 2018E
-0.5%
100.0
99.2
recently raised capital through equity issuance which, while dilutive, has helped the
-1.0% 77.5 78.3
80.0 -0.8%
-1.5%
60.0
64.2 63.7 company to remain liquid through the thick of the downcycle. At a cost-to-build of
-1.6%
-2.0%
40.0 approximately $20M per rig, ICD's current cash and credit lines should be plenty to
20.0

0.0
not only help the company remain financially stable, but also to fund fleet growth
2012 2013 2014 2015E 2016E 2017E
plans once the sector recovers, if ICD chooses to do so.
INVESTMENT THESIS
ICD has one of the most modern and capable onshore rigs in the industry, while 60% of the total U.S. fleet is mechanical
or SCR. From a geographical perspective, ICD is exposed to the two largest oil and gas basins in the United States – the
Permian and the Eagle Ford. I find that the company can realistically generate $19.8M in EBITDA in 2016 and double this
number by 2020. At a peer average multiple of approximately 2.3x EV/Sales, I believe the stock’s fair value today to be
$6.00, a 25% premium to the current market price, while I think shares can reach $9.00 within the next 3 years.

CATALYSTS
 Rebound in oil prices: coming off 5-year lows, a sustained recovery in crude oil prices later in 2016 or early in 2017,
as energy supply continues to shrink to meet demand, should help to unlock stock value.
 Contract renewals: ICD has 3 contracts that are expected to end before the end of June 2017. The company already
has $60M in revenues secured in backlog for next year. We find it unlikely that none of the contracts will roll into
renewals. Each contract renewal will add to the existing backlog, and 2017 projections should more confidently
approach the $97M in revenues that I project in my model – if not exceed it.
 New rig deliveries: ICD have halted plans to build additional rigs for now. Once activity picks up, the company should
be able to revisit its original fleet growth plans. By mid-year 2017, investors should have a clearer view of what ICD is
capable of delivering over the next 3 years, and I believe that they may be positively surprised.

VALUATION
To determine a fair multiple for ICD's projected 2017 revenues, I averaged the 5-year historical EV/Sales ratios for three
of ICD's largest competitors: Helmerich & Payne (NYSE: HP), Patterson (NASDAQ: PTEN) and Nabors (NYSE: NBR). The
derived EV/sales multiple of 2.3x suggests a 12-month target price of $6.00/share for ICD. This valuation methodology is
conservative nonetheless, since ICD has one of the best operating assets, balance sheets and growth prospects within the
peer group. Additionally, the market value of the company's equity represents only about 70% of book value and 0.67x
the book value of the company's modern rig fleet, net of depreciation. At these levels, I believe the stock to be strongly
discounted vis-à-vis its intrinsic value.

COMPANY DESCRIPTION RISKS

ICD is a pure-play onshore driller that operates solely in
the Texas panhandle and Houston areas of the United
States. The company went public in August 2014, raising
about $125M ahead of its plans to increase its fleet of
premium rigs (model ShaleDriller 1500) to 18 units by
the end of 2015 – but it put those plans on hold due to
the decline in oil prices. ICD has one of the most modern
and capable onshore rig fleets in the industry, currently
composed of fourteen 1,500-hp AC rigs that are bi-fuel
capable and pad-optimized. Twelve of the rigs have
integrated multi-directional "walking system", making
them ideal for extended horizontal drilling projects on
multi-well sites. ICD is headquartered in Houston-TX,
and is managed by CEO Byron Dunn and CFO Phillip
Choice.
 Reduced drilling activity and rig count. The
environment for U.S. land drillers in 2016 is nothing
short of challenging. The average spot pricing for
Helmerich & Payne’s (NYSE: HP) FlexRigs is down
10% sequentially, and early termination notices on
long-term contracts in the sector are still very
plausible. Even ICD's secured, multi-year contracts
could be at risk of being cancelled, and terminating
contracts could take longer to renew or renew at
lower rates.
 Continued weakness in commodity prices. Part of
my thesis is predicated on oil prices not falling much
farther from current levels. Additional decline in oil
prices, following the mid-2016 bounce back from all-
time lows, would affect ICD negatively.
 INCOME STATEMENT – INDEPENDENCE CONTRACT DRILLING, INC. (ICD)
in 000s of USD (except where noted) 2013 2014 1Q15 2Q15 3Q15 4Q15 2015 1Q16 2Q16 3Q16E 4Q16E 2016E 1Q17E 2Q17E 3Q17E 4Q17E 2017E 1Q18E 2Q18E 3Q18E 4Q18E 2018E
Land Drilling Revenues 42,786 70,347 22,306 21,082 21,344 23,686 88,418 22,455 15,155 17,382 16,717 71,709 21,911 22,599 21,958 23,243 89,712 23,285 23,784 24,625 27,338 99,031
Total Revenues 42,786 70,347 22,306 21,082 21,344 23,686 88,418 22,455 15,155 17,382 16,717 71,709 21,911 22,599 21,958 23,243 89,712 23,285 23,784 24,625 27,338 99,031

Cost of Goods Sold 28,401 42,654 13,106 12,057 12,526 14,398 52,087 12,567 7,398 10,081 9,362 39,408 12,270 12,204 11,418 12,319 48,211 13,272 13,319 13,051 14,762 54,405
Gross Profit 14,385 27,693 9,200 9,025 8,818 9,288 36,331 9,888 7,757 7,300 7,356 32,301 9,641 10,396 10,540 10,924 41,501 10,012 10,465 11,574 12,575 44,626

Selling, General and Admin. 8,911 11,515 3,827 3,755 3,756 3,145 14,483 3,621 3,453 2,781 2,675 12,530 3,506 3,616 3,733 3,486 14,341 3,726 3,805 4,186 4,101 15,818
Research and Development 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0
Depreciation and Amortization 10,186 16,181 4,289 5,169 5,635 6,058 21,151 5,825 5,816 5,462 5,513 22,617 5,692 5,529 5,375 5,643 22,238 5,497 5,772 5,565 5,703 22,537
All Other Op Expenses (55) 22 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0
Total Operating Expenses 19,042 27,718 8,116 8,924 9,391 9,203 35,634 9,446 9,269 8,243 8,188 35,147 9,198 9,145 9,108 9,129 36,579 9,223 9,577 9,752 9,803 38,355

Operating Income (Loss) (4,657) (25) 1,084 101 (573) 85 697 442 (1,512) (943) (833) (2,846) 443 1,251 1,432 1,795 4,922 790 887 1,822 2,772 6,271
EBITDA 5,529 16,156 5,373 5,270 5,062 6,143 21,848 6,267 4,304 4,519 4,681 19,771 6,135 6,780 6,807 7,438 27,160 6,287 6,659 7,388 8,475 28,809

Interest Income (Expense) (257) (1,648) (312) (717) (862) (1,363) (3,254) (977) (1,059) (200) (200) (2,436) (208) (200) (183) (203) (795) (192) (203) (173) (191) (760)
All Other Income (Loss) 0 3 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0

Pre-Tax Income (Loss) (4,914) (1,670) 772 (616) (1,435) (1,278) (2,557) (535) (2,571) (1,143) (1,033) (5,282) 235 1,051 1,249 1,592 4,127 598 684 1,649 2,581 5,512

Income Tax Benefit (Expense) 2,244 58 88 (88) 213 425 638 12 357 286 258 913 (59) (263) (312) (398) (1,032) (150) (171) (412) (645) (1,378)

Net Income (Loss) (2,670) (1,612) 860 (704) (1,222) (853) (1,919) (523) (2,214) (857) (774) (4,369) 176 788 937 1,194 3,095 449 513 1,236 1,936 4,134

Diluted EPS (in $) (0.22) (0.09) 0.03 (0.03) (0.05) (0.04) (0.08) (0.02) (0.07) (0.03) (0.02) (0.14) 0.01 0.02 0.03 0.04 0.09 0.01 0.02 0.04 0.06 0.12

Diluted Shares O/S (000s units) 12,179 17,078 24,629 23,851 23,920 23,996 24,099 24,015 33,608 33,608 33,608 31,210 33,608 33,608 33,608 33,608 33,608 33,608 33,608 33,608 33,608 33,608

CASH FLOW STATEMENT – INDEPENDENCE CONTRACT DRILLING, INC. (ICD)

in 000s of USD (except where noted) 2013 2014 1Q15 2Q15 3Q15 4Q15 2015 1Q16 2Q16 3Q16E 4Q16E 2016E 1Q17E 2Q17E 3Q17E 4Q17E 2017E 1Q18E 2Q18E 3Q18E 4Q18E 2018E
Net Income (Loss) (1,997) (28,168) 1,375 (652) (3,377) (5,226) (7,880) (414) (4,191) (857) (774) (6,237) 176 788 937 1,194 3,095 449 513 1,236 1,936 4,134
Depreciation and Amortization 10,186 16,181 4,289 5,169 5,635 6,058 21,151 5,825 5,816 5,462 5,513 22,617 5,692 5,529 5,375 5,643 22,238 5,497 5,772 5,565 5,703 22,537
Other CFOA (ex-working capital) (1,038) 29,360 711 911 3,302 5,614 10,538 1,186 1,842 82 154 3,264 52 85 29 60 227 83 84 29 62 257
Changes in Working Capital
Accounts Receivable (3,802) (10,161) 1,055 4,574 (1,910) (2,964) 755 3,807 7,561 (5,031) 728 7,065 (3,554) (792) 962 (852) (4,236) (241) (682) 7 (1,798) (2,715)
Inventory (240) (1,356) (67) (186) (64) 54 (263) (47) (99) 793 172 819 (451) (236) 227 (23) (482) (130) (277) 145 (137) (398)
Accounts Payable 6,978 (985) (1,080) 3,700 796 923 4,339 (3,026) (3,052) 9,264 (1,142) 2,043 3,864 179 (1,157) 1,309 4,195 965 350 (494) 2,392 3,214
All Others (4,090) (1,062) (966) (1,049) (639) 1,393 (1,261) (110) 286 (3,535) 573 (2,786) (115) 272 (349) 961 769 (1,043) (15) (303) 1,604 243
Cash from Operations (CFOA) 5,997 3,809 5,317 12,467 3,743 5,852 27,379 7,221 8,163 6,177 5,224 26,785 5,665 5,825 6,023 8,292 25,805 5,580 5,744 6,187 9,760 27,272

Purchase of PP&E and Intangibles (59,689) (115,388) (21,283) (36,932) (9,450) (7,867) (75,532) (5,677) (4,844) (4,500) (4,000) (19,021) (4,500) (4,700) (5,000) (5,250) (19,450) (5,500) (5,750) (5,550) (6,000) (22,800)
Proceeds from the Sale of Assets 416 664 93 258 0 63 414 648 99 40 65 852 25 10 15 5 55 25 10 15 5 55
Other CFIA 0 2,038 2,899 0 0 0 2,899 0 188 0 0 188 0 0 0 0 0 0 0 0 0 0
Cash from Investment (CFIA) (59,273) (112,686) (18,291) (36,674) (9,450) (7,804) (72,219) (5,029) (4,557) (4,460) (3,935) (17,981) (4,475) (4,690) (4,985) (5,245) (19,395) (5,475) (5,740) (5,535) (5,995) (22,745)

Dividends Paid 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0 0
Borrowings (payment of debt) 18,599 2,739 13,421 25,421 (897) 2,244 40,189 12 (46,366) 0 0 (46,354) 0 0 0 0 0 0 0 (2,500) 0 (2,500)
Issuance (retirement) of equity 0 116,458 0 0 (239) (76) (315) 0 42,983 0 0 42,983 0 0 0 0 0 0 0 0 0 0
Other CFFA 0 (2,293) (161) (3) (23) (260) (447) (138) (547) (59) (0) (744) (0) (0) (0) (0) (0) (0) (0) (0) (25) (25)
Cash from Financing (CFFA) 18,599 116,904 13,260 25,418 (1,159) 1,908 39,427 (126) (3,930) (59) (0) (4,115) (0) (0) (0) (0) (0) (0) (0) (2,500) (25) (2,525)

BALANCE SHEET – INDEPENDENCE CONTRACT DRILLING, INC. (ICD)

in 000s of USD (except where noted) 2013 2014 1Q15 2Q15 3Q15 4Q15 2015 1Q16 2Q16 3Q16E 4Q16E 2016E 1Q17E 2Q17E 3Q17E 4Q17E 2017E 1Q18E 2Q18E 3Q18E 4Q18E 2018E
Cash and Equivalents 2,730 10,757 11,043 12,254 5,388 5,344 5,344 7,410 7,086 8,744 10,033 10,033 11,223 12,358 13,396 16,443 16,443 16,548 16,553 14,704 18,445 18,445
Accounts Receivable 9,089 19,127 17,999 13,418 15,328 18,240 18,240 14,433 6,872 11,903 11,175 11,175 14,729 15,522 14,559 15,411 15,411 15,653 16,335 16,328 18,126 18,126
Inventories 1,128 2,124 2,191 2,292 2,396 2,317 2,317 2,408 2,491 1,698 1,526 1,526 1,977 2,213 1,986 2,009 2,009 2,138 2,415 2,270 2,407 2,407
All Other Current Assets 8,210 4,292 3,899 4,905 4,858 3,436 3,436 3,485 3,075 2,831 3,902 3,902 3,995 5,108 5,808 4,826 4,826 5,803 6,423 6,885 5,425 5,425
Current Assets 21,157 36,300 35,132 32,869 27,970 29,337 29,337 27,736 19,524 25,177 26,636 26,636 31,925 35,200 35,749 38,689 38,689 40,142 41,725 40,187 44,403 44,403

PP&E and Intangibles 162,852 250,498 273,924 282,667 287,271 283,378 283,378 281,202 280,121 279,159 277,645 277,645 276,454 275,624 275,250 274,857 274,857 274,860 274,838 274,822 275,120 275,120
All Other Long Term Assets 959 2,749 2,580 2,461 2,600 2,074 2,074 1,821 1,339 1,415 1,993 1,993 1,492 1,129 1,291 1,020 1,020 1,254 833 1,003 721 721
Long Term Assets 163,811 253,247 276,504 285,128 289,871 285,452 285,452 283,023 281,460 280,574 279,638 279,638 277,946 276,753 276,541 275,878 275,878 276,114 275,671 275,825 275,841 275,841

Total Assets 184,968 289,547 311,636 317,997 317,841 314,789 314,789 310,759 300,984 305,751 306,275 306,275 309,871 311,953 312,290 314,566 314,566 316,256 317,396 316,012 320,244 320,244

Accounts Payable 9,061 21,993 30,013 7,988 10,460 8,584 8,584 5,562 3,886 13,150 12,007 12,007 15,871 16,050 14,893 16,202 16,202 17,167 17,517 17,024 19,416 19,416
Accrued Liabilities 4,167 6,970 5,386 8,070 8,897 10,206 10,206 7,778 6,461 3,002 4,618 4,618 4,594 5,959 6,302 6,285 6,285 6,213 6,813 6,968 7,113 7,113
All Other Current Liabilities 306 408 253 213 0 0 0 366 373 54 81 81 84 103 111 107 107 113 117 122 121 121
Current Liabilities 13,534 29,371 35,652 16,271 19,357 18,790 18,790 13,706 10,720 16,205 16,707 16,707 20,549 22,113 21,306 22,594 22,594 23,494 24,448 24,114 26,650 26,650

Long Term Debt 19,780 22,519 35,940 61,361 60,464 62,708 62,708 63,145 16,661 16,661 16,661 16,661 16,661 16,661 16,661 16,661 16,661 16,661 16,661 14,161 14,161 14,161
Deferred Taxes 3,593 598 364 402 351 193 193 197 229 139 331 331 340 189 196 193 193 396 204 208 194 194
All Other Long Term Liab. 3,189 323 415 347 702 361 361 233 149 139 331 331 170 189 392 193 193 198 204 415 194 194

Total Liabilities 40,096 52,811 72,371 78,381 80,874 82,052 82,052 77,281 27,759 33,143 34,030 34,030 37,721 39,151 38,554 39,640 39,640 40,749 41,516 38,897 41,200 41,200

Total Paid-In Capital 152,739 272,996 274,150 275,153 276,120 277,192 277,192 278,347 322,468 322,468 322,468 322,468 322,468 322,468 322,468 322,468 322,468 322,468 322,468 322,468 322,468 322,468
Accum. Surplus (Deficit) (7,121) (35,289) (33,914) (34,566) (37,943) (43,169) (43,169) (43,583) (47,774) (48,631) (49,406) (49,406) (49,229) (48,441) (47,504) (46,310) (46,310) (45,862) (45,349) (44,112) (42,177) (42,177)
All Other Equity (746) (971) (971) (971) (1,210) (1,286) (1,286) (1,286) (1,469) (1,230) (818) (818) (1,089) (1,225) (1,228) (1,232) (1,232) (1,100) (1,240) (1,241) (1,247) (1,247)
Stockholders' Equity 144,872 236,736 239,265 239,616 236,967 232,737 232,737 233,478 273,225 272,607 272,244 272,244 272,150 272,802 273,736 274,926 274,926 275,506 275,879 277,114 279,044 279,044