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Morningstar | No-Moat Monadelphous Shares Priced for Something Special. Our FVE is Increased 8.5% to AUD 11.40. See Updated Analyst Note from 14 May 2019

Monadelphous shares have been on a tear again; at their AUD 19.30 mid-April peaks up 50% from December AUD 12.75 lows. So far there’s no obvious explanation for the rise. Our 8.5% increased AUD 11.40 fair value equates to an unchanged fiscal 2023 EV/EBITDA multiple of 7.9. The increase reflects higher near-term commodity price expectations, and time value of money. We recently increased our near-term iron ore price forecasts by around 8%, for example, given continued strong growth in steel demand and Vale’s tailings dam failure. Higher commodity prices can be expected to be accompanied by the attendant positives for servicing of mining companies.

In the 20 years to fiscal 2018, Monadelphous traded on an average EV/EBITDA of 7.0. The current multiple based on one-year-forward EBITDA is a record 12.4, higher than the former peak of 10.9 in fiscal 2017. That prior peak came in the final year of a three-year period in which annual growth in EBITDA per share exceeded 75%. As it happened, growth in EBITDA per share slowed markedly after fiscal 2007’s EV/EBITDA peak, to a regardless healthy 10% per year for the three years subsequent, and the multiple retreated again to near the 7.0 average. The retreat came mostly via earnings growth, though the share price did pull back some too.

Is the market really anticipating plus 10% EBITDA growth rates again or is something else like a sniff of corporate activity at hand? Our fair value estimate credits an already healthy five-year EBITDA CAGR of 5.1% to AUD 152 million by fiscal 2023. We estimate the current AUD 18.45 share price credits a blistering five-year EBITDA CAGR of 15% to AUD 240 million,  barring exogenous factors. The difficulty in rejecting such growth rates outright is that Monadelphous is a comparatively small company; award of one or two major contracts that would barely move the needle for the likes of Cimic Group, for example, could see the mission accomplished for Monadelphous. It’s a binary situation.

For every half- and full-year earnings release for the last 12 years, Monadelphous has provided a figure for new and extended contracts. These have ranged between a low of AUD 450 million in fiscal 2015 to a high of AUD 2.0 billion in fiscal 2012, but on average have amounted to around two thirds of the reported revenue. The gap substantially represents growth in contracts coming from variations which are not separately disclosed. As such, announced new and extended contracts might usefully hint at the direction revenue could take, but not necessarily the magnitude.

Over the past several years, the trend for announced new and extended contracts has been in gradual decline, and Monadelphous’ revenue at least up until fiscal 2017 was also in decline. Fiscal 2018 revenue kicked up by over 40% to AUD 1.8 billion, from a low base, but without there being any change in new and extended contract trend. First-half fiscal 2019 revenue softened slightly again down 5% on the previous corresponding period with the Ichthys onshore LNG facilities finished. Ichthys’ run-off is forecast to result in lower construction revenue and 10% less group revenue for the fiscal 2019 year.

Monadelphous says the resources sector continues to strengthen, with energy to follow. It expects opportunities to generate significant new construction revenue in fiscal 2020 and beyond. The sentiment is in line with our own which anticipates an increase in sustaining capital works in the resources sector following an unsustainable period of deferment. But that said, we continue to be way less optimistic than the stratospheric share price currently implies. The shares may be priced for something other than growth expectations, but our fair value necessarily rests on discounted forecast cash flows.