Is Monadelphous’ business as tough as the industry they service?

Mining services firms have suffered as much as the miners themselves over the last couple of years as mining companies cut back on capital expenditure and negotiated better terms with suppliers. MND was no exception, with the share price falling from a high of $27 in 2013 to the current price of $10.88 today. These numbers hide the recent share price strength, however, with MND jumping 40% in July. The strong share price increase is typical amongst its peers, with other engineering firms such as Bradken (BKN) and Programmed Maintenance (PRG) both up 200-300% this year. Investors who were brave enough to buy despite the atmosphere of negative sentiment in this sector have been handsomely rewarded. On the back of this performance, Seven Group Holdings (SVW), which owns WesTrac (Caterpillar) Australia and China, has performed very well so far this year. The strong SVW performance is starting to feed into price increases for its hybrid issue (SVWPA) although the yield on these securities is still surprisingly high at 10.8%. This yield seems to overestimate the risk in holding these securities and for this reason we continue to hold them in the Rivkin Local Income Strategy.

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The share price returns on the mining services companies aren’t without risk, however, with forward earnings generally fairly uncertain. These companies are at the mercy of the mining and construction companies themselves, and can be left with high fixed costs, partly due to idle equipment, in the event of a downturn. Notwithstanding this, MND has recently announced several new contracts that it has secured including $140m for four different projects that include BHP Billiton (BHP) and Rio Tinto (RIO) as customers. Although this is obviously good news for the company, the recent share price performance seems to be more of a change in sentiment for the sector rather than a specific reaction to this or any other announcement.

MND should be reporting its result for the half ended 30 June 2016 in the next few weeks. Results for the half ended 31 December 2015 showed a 29.9% drop in revenue compared to the prior corresponding period directly as a result of a slowdown in construction investment. Although the net profit after tax was still a relatively healthy $37.6m, this was a 38% decline on the previous half. The relatively poor results over the last couple of years have led to a sequential decrease in dividend payments. Dividends totalled $1.23 in 2014, $0.92 in 2015 and the 2016 interim dividend is just $0.28. While the earnings decreases are significant, the share price had dropped more than enough to compensate, with the market capitalisation dropping as low as $500m. Factoring in a net cash position of $182m at the end of the year, the enterprise value is even lower than the market cap. At this valuation, investors were clearly pricing in further falls in both revenue and profit. The recent repricing of the stock upwards would indicate that the market has changed its mind about this and is now probably expecting a stabilisation of these numbers in the upcoming results.

With very minimal debt to service, a strong net cash position, and relatively strong cash flow for the half of $42m, MND is very well fortified to withstand the downturn in mining and construction activity. Whether or not the company has managed to staunch the declines in revenue and profit will be revealed in the upcoming half year results and these results and the outlook statement provided will either validate or crush the recent share price optimism.

This article was written by William O’Loughlin – Local Investment Analyst, Rivkin Securities Pty Ltd. Enquiries can be made via william.oloughlin@rivkin.com.au or by phoning +612 8302 3600.