Emeco Holdings Limited

Company Overview: Emeco Holdings Limited (ASX: EHL) works in a service industry that provides complementary equipment and mining services, which includes technical & engineering services, equipment and component rebuilds, market-maintenance and fleet optimization technology.

EHL Details

Enhancing Revenue through Diversification in Product Mix and Commodity Mix: The company holds a strong workforce of 1,200 people nationwide with lost time injury frequency rate as Zero since last five years. It works in three segments: Workshops, Rental and Pit N Portal.

Look at FY21 Performance:

Despite COVID-19, the company reported resilient performance during the year, owing to the diversification and rise in demands on gold and iron ore.

• Due to a fall in seaborne coal prices and customer cost cutting, the fleet utilisation got affected, which thereby reduced the earnings coming from rental business. Though the total group revenue increased and was reported as $620.5 million in FY21 versus $540.4 million.
• The company tried to offset the reduction in rental revenue through increase in maintenance revenue and revenue from Pin N Portal (acquisition in 2020), which solely contributed an amount of $141.0 million in FY21. The acquired company has already received various mining services projects, which will commence in 1H22.
• The Operating EBITDA margins reduced from ~47.1% last year to ~38% in FY21, majorly owing to lower margin earnings but with greater services from Pit N Portal and the rental business.
• The Operating NPAT reduced by ~7% Y-o-Y from ~$61.0 million in FY20 to ~$56.8 million in FY21, which made the company observe the effect of lower interest expense benefits. Future capital structure improvements by the Board expects to apply a capital management policy of 25-40% of operating NPAT.
• Their cost of capital was significantly reduced in FY21, which was also well below its ~17% of the cost of capital.
• It closed its accounts for FY21 with the cash and cash equivalents as of 31st June 2021 at ~$74.72 million, compared to $198.17 million in FY20.

Growth Drivers and Catalysts: EHL strategically applies its variety of mixes to gain the maximum outcome of Revenue Mix:  

• Product Mix Diversification: With the aim to provide lowest cost and highest quality equipment, its current business model with a product mix of Rental, Workshops and Pit N Portal allows them to organically diversify the business.
• Commodities Mix Diversification: Due to the fluctuations seen in commodities prices, especially coal, the company has reduced its total coal exposure to ~38% of revenues. Whereas on the other hand, having a bullish stance on nickel and copper their current focus has shifted to the same for future.                           

Revenue Trend (Source: Analysis by Kalkine Group)

Top 10 Shareholders: The top 10 shareholders together form around 60.08% of the total shareholding, while the top 3 constitute the maximum holding. Black Diamond Capital Management, L.L.C. and Paradice Investment Management Pty. Ltd. are holding a maximum stake in the company at ~32.11% and ~9.73%, respectively, as also highlighted in the chart below:

Top 10 Shareholders (Source: Analysis by Kalkine Group)

Key Metrics:  The company has reported an improvement in gross margin performance from FY19 at 33.9% to 46.1% in FY21. Current Ratio also improved to 1.55x in FY21, compared to 1.43x in the prior year.

Liquidity Profile & Profitability Metrics (Source: Analysis by Kalkine Group)

Key Risks: The company is exposed to the following risk factors and their mitigations:

1. Fluctuations in Commodity Prices and Demands: Due to the type of business EHL works in, it is highly affected to the price change in commodities and their demands. The company is yet to see the increased export volumes due to the hike in coal prices in FY21 and China trade tensions.
2. COVID-19 and Omicron Variant Risks: Due to COVID-19 and the new variant, it can get impacted by the lockdown regulations which might affect its sales.
3. Labour Market: The business is dependent on the availability of labourers, lack of which might halt or alter the operations.

Outlook: As explained above, the company faced impacts from commodity’s price variations and demands, in FY21, in times of lower demands of coal, EHL strategically deployed its idle equipments in other commodities like gold and iron ore, where the demand was comparatively higher. The company is diversified in two ways, i.e., one is the product mix it offers in Rental, Workshops and Pit N Portal and another one is the commodities diversification in the market where its segments can be used. By applying the strategies of capital management and operational efficiencies, it expects its operating EBITDA to be ~$120-$125 million in 1HFY22. For their high revenue business Pit N Portal (PNP), EHL is expecting softer margins in 1HFY22 and labor tightness, which might dilute the Group’s margins to some extent. The group’s Force Workshops continues to be strong with the acquisition of a line boring business – Borex (operations integration in process).

For 2HFY22, it further expects growth to go east and as customers are re-gaining confidence in the market and their confidence on expected increase in fleet utilization. The company expects hard rock and metals to grow, which will diversify the business towards 30% of Group Revenue.

Valuation Methodology: P/E Multiple Based Relative Valuation (Illustrative)

Source: Analysis by Kalkine Group

*% Premium/(Discount) is based on our assessment of the company’s NTM trading multiple after considering its key growth drivers, economic moat, stock's historical trading multiples versus peer average/median, and investment risks.

Stock Recommendation: As per ASX, the stock of EHL is trading below its 52-weeks’ average levels of $0.86-$1.37. The stock gave a negative return of ~5.82% in the past six months and a negative return of ~22.27% in the past three months. The stock has been valued using P/E multiple-based illustrative relative valuation method and arrived at a target price of low double-digit (in percentage terms). The company might trade at some discount to its peers’ average multiple, considering the softer margin in PNP business, commodities prices fluctuations, and labour availability. For the purpose of valuation, few peers like Coventry Group Ltd (ASX: CYG), Acrow Formwork and Construction Services Ltd (ASX: ACF), Stealth Global Holdings Ltd (ASX: SGI) and others have been considered. Considering the expected upside in valuation & current trading levels, expected improvement in EBITDA, changed capital management and its deployment, diversification through product and commodity mix, optimistic long-term outlook and the key risks associated with the business, we recommend a ‘Speculative Buy’ rating on the stock at the current market price of $0.89, 03:30 PM (GMT+10), Sydney, Eastern Australia, (as on 14th December 2021).

EHL Daily Technical Chart, Data Source: REFINITIV

Note 1: The reference data in this report has been partly sourced from REFINITIV

Note 2: Investment decisions should be made depending on the investors’ appetite on upside potential, risks, holding duration, and any previous holdings. Investors can consider exiting from the stock if the Target Price mentioned as per the analysis has been achieved and subject to the factors discussed above alongside support levels provided.

Technical Indicators Defined: -

Support: A level where-in the stock prices tend to find support if they are falling, and downtrend may take a pause backed by demand or buying interest.

Resistance: A level where-in the stock prices tend to find resistance when they are rising, and uptrend may take a pause due to profit booking or selling interest.

Stop-loss: It is a level to protect further losses in case of unfavourable movement in the stock prices.

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