Company Overview: Fluence Corporation Limited (ASX: FLC) operates in the decentralised water, wastewater and reuse treatment markets and provides Smart Products Solutions (SPS), which includes Aspiral, NIROBOX and SUBRE. The company generates revenues by offering operation and maintenance support, as well as Build Own Operate Transfer (BOOT) and have other recurring revenue solutions. It has an international presence and has business in the markets of China, the Middle East, Southeast Asia, and North America.

FLC Details

Decent Performance on the back of Order Wins & Shift to Higher Margin Products: Fluence Corporation Limited (ASX: FLC) is engaged in the delivery of cost-effective decentralised water, wastewater and reuse solutions to its clients. The market capitalisation of the company as on 18 June 2021, stood at ~$131.21 million. Despite the COVID-19 headwinds, the company has posted decent growth in FY20 and achieved an underlying positive EBITDA at US$2.3 million in the given period. There was also a significant backlog as of 31 December 2020 at ~US$226 million with substantial partner pipeline opportunities.

During Q1FY21, the company received new orders amounting to US$13.3 million, reflecting over 11% increase to the previous quarter. The new orders from SPS segment were reported at US$7.5 million, an increase of over 36% on Q4FY20, including ~US$5 million from China bookings. The revenue stood at US$18.2 million, driven by SPS growth and increased sales momentum in the Chinese market. The operating expenditure decreased by ~10% during the quarter when compared to the prior quarter. It ended the quarter with a cash balance of US$14.9 million and US$27.4 million in short and long-term liquid investments, which provides sufficient scope for growth opportunities and product innovation.

Cash & Short Term Investments (Source: Company Reports)

Focus to Shift to Higher Margin Revenue: FLC is focused on achieving higher operating efficiencies and has been making a strategic shift to higher-margin revenue products. It has made a gradual shift to SPS, which offers better margins to the company. Smart Products Solutions (SPS) formed around ~16% of the sales in 2017 and increased to ~54% in 2020. The strategic focus is to shift to a revenue contribution of ~65% from the SPS business segment in the future.

Shift in Revenue Mix to SPS (Source: Company Reports)

First MABR Installation in Cambodia: As per a recent development, the company has commissioned its first MABR installation in the city of Sihanoukville in Cambodia. The plant is based on a SUBRE design and has MABR modules installed in concrete basins. Work has been progressing on the second phase of this plant and once completed, the two plants will have combined capacity to meet the wastewater treatment needs of ~100,000 people in the region.

Achievement of Third Milestone on Ivory Coast Project: On 4 June 2021, the company has announced that it has received ~US$20.1 million payment from the Israel Discount Bank. The payment was received on the back of achieving the third milestone under FLC’s contract for the Ivory Coast Water Treatment Project. It now expects Q2FY21 operating cash flow to be positive, following the receipt of the payment.

Appointment of Non-Executive Director: The company has recently appointed Samantha Tough as an Independent Non-Executive Director, effective from 1 June 2021.

Top 10 Shareholders: The top 10 shareholders together form around 53.75% of the total shareholding, while the top 4 constitute the maximum holding. RSL Investments Corporation and Watermark Services, LLC are holding a maximum stake in the company at 26.47% and 8.46%, respectively, as also highlighted in the chart below:

Top 10 Shareholders (Source: Analysis by Kalkine Group)

Key Metrics:  The company reported an increase in the gross margin to 28.8% in FY20, from a level of 16.2% in FY19. EBITDA margin stood at 2.1% during the period. It reported an increase in asset turnover to 0.67x in FY20, from a level of 0.44x in FY19. There was also an improvement in the liquidity of the company with the current ratio at 1.31x in FY20, compared to 1.21x in the previous corresponding period.  The total debt stood at US$28.4 million as of 31 December 2020.

Growth Profile and Profitability Metrics (Source: Analysis by Kalkine Group)

Key Risks: The company has operations in different parts of the world and as such it is exposed to the risk of regulatory approvals. It also has to adept itself to the working cultures of the operating nation and may be faced with resistance from the local authorities and competitors. There may be instances when the project returns might not be on favourable terms when valued at a later date due to a change in the macroeconomic position of that respective country. It is also prone to foreign exchange risk, with a major part of revenue sourced from overseas countries.

Outlook: FLC plans to achieve 2021 revenues in the range of US$35-US$50 million from the SPS segment and be EBITDA positive for the full year. It will continue to look out for more volume customers and partners in its key operating regions. The company seems to be progressing well on its strategy to shift to high margin-based products and plans to achieve a pro forma business model, including 35% gross margin, 20% operating expenses and 15% EBITDA.

Valuation Methodology: EV/Sales 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: The company has decent prospects to increase market share in the ~US$650 billion water market. As per the company’s presentation, ~75% of the population are experiencing water shortages, and ~80% of wastewater is released without treatment. This provides a decent case for the company in terms of market prospects. As per ASX, the stock of FLC is trading below its average 52-weeks’ levels of $0.160-$0.330. The stock of FLC gave a positive return of ~17.64% in the past one month and a negative return of ~16.66% in the past six months. We have valued the stock using an EV/Sales multiple-based illustrative relative valuation and have arrived at a target price of low double-digit upside (in % terms). We believe that the company can trade at a slight premium to its peer median EV/Sales (NTM trading multiple), considering the decent performance, optimistic guidance, receipt of payment for the Ivory Coast Project and stable balance sheet. For this purpose, we have taken peers such as Scidev Ltd (ASX: SDV), Intega Group Ltd (ASX: ITG), to name a few. Considering the expected upside in valuation and current trading levels, decent performance in Q1FY21, strong balance sheet position, achievement of the third milestone on Ivory Coast Project and the key risks associated with the business, we recommend a ‘Speculative Buy’ rating on the stock at the current market price of $0.20, down by 4.762% as on June 18, 2021.

FLC 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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