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Morningstar | Jacobs Engineering Portfolio Transformation Should Lead to More Stable Returns

Since taking the helm in 2015, CEO Steve Demetriou has transformed Jacobs’ portfolio to increase recurring revenue and reduce cyclicality. In 2017, Jacobs acquired CH2M for $3.3 billion to bolster its presence in the transportation, water, nuclear, and environmental services end markets. In April 2019, Jacobs completed the sale of its energy, chemicals, and resources (ECR) business to WorleyParsons for $3.3 billion. Following the ECR divestment, Jacobs operates two core business segments: aerospace, technology, and nuclear (ATN) and buildings, infrastructure, and advanced facilities (BIAF).ATN, which accounted for 41% of sales in fiscal 2018, generates a relatively stable cash flow stream, as over 90% of its revenue is recurring and roughly 75% is derived from long-term contracts (5-10 years) with government agencies. We expect that Jacobs will continue to expand its ATN business through strategic M&A, such as the recently announced KeyW deal, particularly focusing on opportunities that would allow the firm to enhance its capabilities in cybersecurity, IT, and predictive analytics.BIAF, which generated 59% of sales in fiscal 2018, also has a relatively low risk profile when compared with some of the firm’s peers in the engineering and construction (E&C) sector, as fixed-price construction contracts constitute only 8% of the segment’s revenue. We think the low exposure to fixed-price construction will lower the risk of significant cost overruns. We view Jacobs’ portfolio transformation favorably. As the ECR segment had high exposure to volatile oil and gas prices, and its operating margins have long lagged those of the remaining two segments, we think the divestment will lower the risk and boost the margins of Jacobs’ overall portfolio. Furthermore, we like the strategic fit of the CH2M acquisition, as the deal has bolstered ATN’s nuclear business, allowing it to become a Tier 1 nuclear services provider, and increased BIAF’s exposure to end markets that we think will benefit from favorable long-term trends, including water and transportation (as we think that increased infrastructure spending will be necessary to replace aging infrastructure in the U.S.).