Fluence Corporation Limited

Company Overview: Fluence Corporation Limited (ASX: FLC) is one of the global leaders in the decentralized water, wastewater, and reuse treatment markets. It offers pre-engineered, standardized Smart Products Solutions, including Aspiral™, NIROBOX™ and SUBRE. The company also provides an integrated range of services across the complete water cycle to support and optimize water-related assets and other recurring revenue solutions. FLC has established operations in North America, South America, the Middle East, Europe, and China, and has an experience of operating in over 70 countries worldwide.

FLC Details

Long-Term Revenue Streams and Higher Margins: Fluence Corporation Limited (ASX: FLC) is one of the global leaders in the delivery of innovative, cost-effective decentralized water, wastewater, and reuse solutions for business and communities anywhere in the world. As on 10 July 2020, the market capitalization of the company stood at ~$124.97 million. The company is well-positioned to serve the fastest-growing markets across the water cycle. FLC has expanded its presence with 38 partnerships in China, up from 26 in 2018. It is focusing on establishing a higher margin in the medium term, more reliable longer-term revenue streams with lower capital intensity.

During the year, revenue of the company stood at US$61.3 million following a strong 2018 of more than US$101.1 million. The reduction was due mainly to delays in revenue recognition for the Ivory Coast water treatment project. FLC finished FY19 with total contract backlog of US$265 million, and SPS (Smart Products Solutions) sales exceeded its revised guidance and stood at US$26.5 million, reflecting a growth of 21% over 2018. FLC continued to win contracts with major clients, including Beijing China Rail and The Three Gorges Group, as well as its three existing strategic partnerships. During FY19, FLC managed to achieve several significant milestones and signed the Ivory Coast water treatment plant contract for €165 million. It also received additional orders from ITEST for Aspiral^TM Membrane Aerated Biofilm Reactor (MABR) and established new partnerships with Aerospace Kaitian Environmental Technology and Liaoning Huahong New Energy.

During the year, the company witnessed a continued reduction in overhead costs and reported total costs of US$33.9 million, down from US$40.7 million in FY18. This reflects the continuous shift of the company towards pre-engineered Smart Products Solutions, which requires lower headcount and other overheads.

Given the strong presence of the company in China, FLC is anticipating similar volume/bulk agreements. As the increasing water scarcity becoming a greater risk, the company is expecting decent fundamentals for its water treatment solutions. It is exploring partnership and sales channel opportunities for NIROBOX^TM. It is implementing its strategy to be a global leader in decentralized water, wastewater, and reuse treatment markets.

Growth in Revenue (Source: Company Reports)

Details of Top 10 Shareholders: The following table provides an overview of the top 10 shareholders of Fluence Corporation Limited. RSL Investments Corporation is the largest shareholder in the company, with a percentage holding of 26.47%.

Top 10 Shareholders (Source: Refinitiv, Thomson Reuters)

Well Management of Costs and Shareholders Capital: Over the span of 4 years, gross margin of the company witnessed a substantial improvement and stood at 16%. In the same time span, EBITDA margin and net margin of the company saw a significant increase. The improvement in gross margin and an increase in EBITDA and net margin indicates that the company is managing its costs well and is capable of converting its revenue into profits. During FY19, Return on Equity of the company witnessed an improvement over the previous year, indicating that the company is well managing the capital of its shareholders and is capable of generating profits internally. During FY19, Assets/Equity Ratio was 2.92x, and Debt/Equity Ratio of the company stood at 0.23x. In the same time span, current ratio of the company was broadly in line with the previous year and stood at 1.21x.

Key Margins (Source: Refinitiv, Thomson Reuters)

Fluence Achieves Positive Quarterly Cashflow: The company has recently announced that it has achieved positive operating cashflow for the quarter ended 30 June 2020. During the second quarter, FLC reported a cash balance of ~US$20.0 million, up from US$16.9 million at the end of the first quarter. During the first quarter of FY20, revenue of the company stood at US$47.3 million, and gross bookings of the company were US$12.5 million. The company reported a total contract backlog of US$228.0 million, which is inclusive of US$147 million related to the Ivory Coast Project. New sales orders for SPS continued to gain traction during the first quarter of 2020, with an increase of 60% in total orders of US$8 million. During the quarter, the company reported a cash balance of ~US$16.9 million. Despite the global health challenges and economic disruptions, the company achieved a significant milestone of positive EBITDA. During the quarter, delays in cash collections on some projects due to COVID-19 resulted in a net operating cash outflow of ~US$7.9 million. During the quarter, the company reported a financial close of €165 million Ivory Coast project. It completed engineering design steps of the project and is now focused on moving towards construction of this important turnkey water treatment plant.

Quarterly Receipts and Expenditures (Source: Company Reports)

Key Risks: The current COVID-19 crisis presents the world with an unprecedented pandemic and tremendous economic disruption. To overcome the uncertainty, the company is focusing on executing its projects, ensuring reliable aftermarket services. In some geographic segments, new order bookings have slowed down. However, the situation has improved and is gradually moving back to normal. Unlike many of its peers, it has sustained growth in recurring revenue and EBITDA profitability. The activities of the company are also exposed to a variety of financial risks- market risk, including currency risk, interest rate risk and price risk, credit risk and liquidity risk.

Future Expectations: FLC has streamlined its operations and is focused on timely collections from customers. FLC is seeing the benefits of being globally diversified, with the ability to rapidly adapt to changing economic demand. The company has also fast-tracked the reduction in overhead costs and is working on improving its operating efficiency. With continued strong growth in SPS segment, the company is likely to sign additional commitments from new partnerships.

The company is likely to remain EBITDA positive in FY20 and is expecting to increase its recurring revenue with project finance contracts & aftermarket services. The outbreak of COVID-19 is highlighting the fundamental need for safe water supply, and hence, FLC is strengthening its position as a leader in the global decentralized water and wastewater segment. The company has re-affirmed its guidance for FY20 and expects SPS revenue of at least US$32.0 million and recurring revenue of US$9.0 million. It also expects to see some of its 1H20 revenue shift to the second half of the year. FLC is likely to see continued strong growth of Smart Products Solutions and is aiming to convert initial strategic orders in China into bulk order agreements.

Key Valuation Metrics (Source: Refinitiv, Thomson Reuters)

Valuation Methodology: EV/Sales Multiple Based Relative Valuation (Illustrative)

EV/Sales Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months

Stock Recommendation: FLC seems well-placed to navigate through the unprecedented times from COVID-19 crisis. The manufacturing facilities of the company is mostly operational and is working to meet its FY20 revenue forecasts. The company is also witnessing the benefits of being geographically diversified with several supply sources available in different countries. As per ASX, the stock of FLC is trading close to its 52-weeks’ low levels of $0.185, proffering a decent opportunity for the investors to enter the market. We have valued the stock using EV/Sales multiple based illustrative relative valuation approach and have arrived at a target price of lower double-digit upside (in percentage terms). Considering the current trading levels, positive operating cash flow despite the COVID-19 crisis, diversified customer base, and positive long-term outlook, we recommend a ‘Speculative Buy’ rating on the stock at the current market price of $0.235, up by 17.5% on 10 July 2020.

FLC Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

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