Company Overview: Emeco Holdings Limited (ASX: EHL) is engaged in selling, renting and maintaining heavy earthmoving equipment to customers in the mining industry in Australia and overseas. The Group supplies safe, reliable and maintained equipment rental solutions to its customers and also offers repair and maintenance and component and machine rebuild services for its customers’ equipment. The company provides EOS, equipment productivity and management tool, for both Emeco and customer-owned fleet and generates earnings from the provision of equipment rental and maintenance solutions to the earthmoving industry.


EHL Details 

 

Increase in Earnings and Strong Profitability: Emeco Holdings Limited (ASX: EHL) is engaged in selling, renting and maintaining heavy earthmoving equipment for customers in the mining industry in Australia and overseas. As on 7 April 2020, the market capitalization of the company stood at ~$331.7 million. During FY19, the company executed well on its growth strategy and reported an increase in group operating revenue from continuing operations to $464.5 million in FY19. This was supported by a growing asset fleet, increased equipment utilization and tight cost control. During the year, EHL generated operating EBIT of $125.4 million, reflecting an increase of 50.7% on FY18 and EBITDA of $214.0 million, up by 39.9% on FY18. This was a result of recent acquisitions, increased utilization of the fleet by customers, increased rental rates and additional cost management measures implemented over the year. The company also reported higher profitability in FY19, with operating NPAT for the year up 213.9% to $63.1 million, representing shareholder value creation. The workshops business witnessed continued growth in activity in the year because of expansion in capacity throughout Australia and increased retail work on Emeco rental fleet. Being cost-effective and extending asset lives allowed the company to maximize returns as evidenced by a strong FY19 return on capital of 21%. On the back of strong profitability, the company generated operating free cash flow of $90.1 million, which enabled it to repay its debt and further helped it invest in strategic growth assets for future earnings. EHL achieved a significant milestone in its deleveraging strategy by reducing its Net Debt/Operating EBITDA multiple to below 2x at the end of FY19. The company also reported a strong balance sheet with a reduction of $16.6 million in debt due to the repurchase of US$33.8 million of the outstanding notes.

The company has also released its interim results for the period ended 31 December 2019 wherein it reported strong growth in earnings. The company also entered the hard-rock underground equipment and mining services, which will double its exposure in gold. The company has further diversified its commodity exposure which will help it expand its margins.

The company expects to see a decent rise in revenue and earnings in the coming year, with a greater focus on earnings in the latter half of the year. As customers remain disciplined, the company expects continued demand for metallurgical coal and is also focused on diversifying Eastern Region exposure to gold and copper.


FY19 Operating and Financial Highlights (Source: Company Reports)

Details of Top 10 Shareholders: The following table provides an overview of the top 10 shareholders of Emeco Holdings Limited. Black Diamond Capital Management, L.L.C. is the largest shareholder in the company, with a percentage holding of 20.46%.


Top 10 Shareholders (Source: Thomson Reuters)

Costs Management and Financially Stable Balance Sheet: Over the span of 2 consecutive halves, the company witnessed an improvement in gross margin, which stood at 32.6% in 1H20, up from 30.4% in 1H18. During 1H20, net margin of the company also increased and stood at 11%, up from 9.1% in 2H19. The improvement in the gross and net margin indicates that the company is managing its costs well and is capable of converting its revenue into profits. In the same time span, EBITDA margin of the company went up to 47.2% from 41.8% in 2H19, indicating increased profitability. During 1H20, Return on Equity went up to 12.5% from 11.9% in 2H19. This suggests that the company is well managing the capital of its shareholders and is capable of generating profits internally. In the same time span, current ratio of the company stood at 1.70x as compared to 1.29x in 2H19. This indicates that the company is liquid enough to pay its current liabilities using its current assets. During 1H20, Assets/Equity ratio of the company stood at 3.50x, lower than the previous half ratio of 3.88x. This indicates that the business is financed with a significant proportion of investor funding and a small amount of debt, resulting in a financially stable balance sheet.


Key Margins (Source: Thomson Reuters)

Decent Increase in Revenue and Decrease in Leverage: The company has recently released its half-year results for the period ended 31 December 2019 wherein it reported strong earnings growth with Operating EBITDA in line with management guidance and delivering on strategy. During 1H20, the company witnessed an increase of 10% in revenue to $246.5 million and a growth of 16% in operating EBITDA to $119.1 million. This resulted in an increase in operating EBITDA margin to 48.3%, up from 46.2% in 2H19. The company also reported an improvement in net leverage to 1.77x, down from 2.0x as at 30 June 2019. In the same time span, the company won new projects in gold and iron ore, which will further diversify commodity exposure and increase earnings. During the half-year, operating cash flows continued to grow as the business benefitted from its growing scale and stood at $75.3 million, up by 19% on the pcp. EHL also witnessed an increase in workshops activity driven by internal activity as Force supported the redeployment of Western Region fleet to new projects plus rebuilding of critical components for the rental fleet. 


1H20 Operational and Financial Highlights (Source: Company Reports)
 
Completion of Pit N Portal Acquisition: The company has recently completed the acquisition of Pit N Portal. This acquisition will provide a comprehensive hard-rock underground equipment service offering and will double the gold exposure of the company. The company, in another announcement, stated that equity incentives granted to eligible employees have vested in full and as a result, 19,003,059 ordinary fully paid shares have been transferred from the Emeco Employee Share Ownership Trust to the eligible employees. EHL notes that Fitch Ratings has upgraded its long-term issuer default rating to B+, from B. 

Future Expectations and Growth Opportunities: The company is focusing on improving utilization and margin expansion, setting EHL for further growth in 2020. EHL will integrate Pit N Portal business into its operations to facilitate growth and expects four months of earnings with decent growth to be achieved in FY20 and FY21. The company will continue its workshop activity with a focus on internal works to support the Rental fleet. It will improve quality and efficiency through continuous improvement in projects and will work on widening its customer value proposition and provide customers with additional services.

The company expects a significant increase in free cash flow in 2H20, ensuring Emeco deleverages down to 1.5x for FY20 and 1.0x for FY21. It plans to pay a dividend once it reaches its target leverage range. The rental margins of the company are also likely to increase.


Key Valuation Metrics (Source: Thomson Reuters)

Valuation Methodology: EV/Sales Multiple Based Relative Valuation Approach


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

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

Stock Recommendation: As per ASX, the stock of EHL is trading close to its 52-weeks’ low level of $0.485, proffering a decent opportunity for accumulation. The company is well-placed to generate decent earnings and cash flow and is on track to build a business of scale and quality, ensuring a healthier and more resilient performance. It has also deleveraged its positions and has strengthened its balance sheet. Considering the strong profitability, trading levels, healthy balance and decent financial performance, we have valued the stock using EV/Sales multiple based relative valuation approach and have arrived at an indicative target price with an upside of lower double-digit (in percentage terms). Hence, we recommend a ‘Buy’ rating on the stock at the current market price of $0.98, up by 8.889% on 7^th April 2020. 

 
EHL Daily Technical Chart (Source: Thomson Reuters)

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