Report from Under the Radar as promised
The facilities management and labour hire company has been languishing because of the resources slump, but it will be mining that helps dig the group out of its hole. The current share price, which is a 22% discount to net tangible assets, assumes no earnings growth. But the group is producing solid cash flow, reducing debt and paying dividends.
WHY WE LIKE IT
Trading at a fifth of the value of its sales and producing strong cash flow, Programmed is a case of a big company in a small market cap disguise. While the company does not give earnings guidance, improved conditions are expected in the current half. The group has impressed by paying down debt, while maintaining dividends. At its current price the stock is very cheap, trading at a 22% discount to its net tangible assets. With Programmed’s merger with Skilled Group complete, growth is forecast to come from both its sizeable presence in resources and the industrial and infrastructure sectors. Programmed believes that mining conditions look to have bottomed after three years of woe.
WHAT'S NEW?
In the full year to March Programmed reported revenue up 21% to $2.7bn, mainly from its beefed-up key divisions of labour hire and facilities maintenance. The profits were underwhelming however, mainly due to weaker labour demand. Excluding previous year one-offs including a $102m write-down of the marine division that services offshore oil and gas facilities, underlying earnings climbed 5% to $41m. Outside of anticipated growth in its resource related services, the group will benefit from the sale for almost $30m ($7.5m cash up front) of its international marine division to Dutch recruiting firm Atlas Professional.
CANARY IN THE COAL MINE
Perhaps more so than any ASX entity, Programmed’s sprawling business reflects the fortunes of the broader economy, but especially the resources sector.
Programmed’s exposure to mining is a big reason why investors have ignored the stock, but it’s a key reason why we believe that its fortunes will improve. The group is also exceedingly cheap, trading at a 22% discount to its net tangible assets, on a price earnings (PE) multiple of 9 times and on a dividend yield of 4.4%.
Programmed’s activities include blue and white-collar labour hire, maintaining facilities such as schools and prisons and providing services to offshore oil rigs. The company almost doubled in size in October 2015 after the Perth based Programmed merged with Skilled Group, the country’s biggest blue-collar recruiter. Since then, management has diversified its operations away from the WA mining sector to eastern-seaboard activities.
LIGHT AT THE END OF THE MINE SHAFT
The merger with Skilled has produced huge benefits of scale, with at least $30m of cost savings realised in the first 12 months compared with the initial target of $20m.
Top line growth has suffered because of the mining slump, though: at the time of the merger the combined group had proforma revenue of $3.4bn for the 2014-15 year. This assumes the merger had been in place in that year. In the 12 months to March 2017, Programmed generated $2.69bn of revenue.
The merger initially boosted the group’s exposure to resources, with a proforma 13% of revenue from mining and 28% from oil and gas. In the year just gone, mining accounted for 13% and the marine contribution shrunk to 7%. In other words, the company’s reliance on resources has more than halved.
Yet it’s a good thing the company didn’t lighten its resources exposure further, because management is confident that conditions have troughed. If that’s the case, the company is well leveraged to a recovery.
Also worth mentioning is the sale of its international oil division for just under $30m, which continues the group’s efforts to reduce debt. This operation was small and with its dispersed global presence was more trouble than it was worth. The deal also involves Atlas buying half of the local marine business and it’s hoped that the joint venture will enjoy a fresh inflow of work from Atlas, which has a presence in 16 countries.
CASH IS THE KEY TO PROGRAMMED
Management has successfully completed its merger with rival Skilled Group, with the stated cost and synergy benefits more than achieved. The company has carefully managed its cash flow during the downturn and implemented further savings in its labour hire division, the biggest part of the combined business. The company has taken a conservative approach to dividends, preferring to pay down debt.
The company certainly has capacity to increase its dividend payout because of its strong free cash flow, which is operating cash flow minus investment spending. Despite weakness in its labour hire business in FY16 Programmed still reported free cash flow of $54m, down from $64m previously. Management is positive about current-year cash flow, given the Atlas proceeds and the cost savings benefit. The group’s debt reduced from $240m to $200m and on market estimates is expected to decline to $160m this year. This implies a comfortable debt to equity ratio of 25%.
Despite the muted payout, the stock yields more than 4%, fully franked. On another value measure, Programmed trades well below its net tangible asset value of $2.30 per share.
RECRUITMENT ARM IS LABOURING
Programmed has not had everything go its way. Employers in blue-collar sectors such as retailing and manufacturing have been reluctant to hire and there remains “considerable uncertainty” in those markets. Managing director Chris Sutherland tells Under the Radar that he does not think the lull reflects a structural shift caused by robots taking over jobs such as forklift driving. But it might be related to online disruption, especially in the retail sector. As a hedge, the group operates a training business to reskill workers affected by automation or globalisation and it has embarked upon $10m of cost savings, resulting in 60 redundancies. Offsetting the blue-collar boom, jobs are being created in sectors such as healthcare, aged care and education.
KICKING GOALS FROM THE INFRASTRUCTURE BOOM
While State Governments have been constrained, the Federal Budget committed funding to big-ticket infra projects including the $10bn Melbourne to Brisbane inland railway and Sydney’s second airport at Badgery’s Creek ($10bn).
Like the Fremantle Dockers, which Programmed sponsors, the group looks to be in recovery mode and could enter its own purple patch over the next two years or so. While the broader economy poses an uncontrollable risk, most of Programmed’s maintenance contracts are long term in nature.
- RATING BUY
- ASX CODE PRG
- CURRENT PRICE* 1.78
- MARKET CAP ($M)* 463
- NET DEBT ($M) -200
- * Data as of 1 Jun 2017
- TIP DATE 1 JUN 2017
- TIP PRICE
BULL POINTS
- RESOURCES DOWNTURN APPEARS TO HAVE BOTTOMED
- DEBT IS REDUCING
- INTEGRATION WITH SKILLED GROUP COMPLETE
- OPPORTUNITIES IN SECTORS SUCH AS HEALTH CARE AND EDUCATION
BEAR POINTS
- FULL YEAR RESULTS WERE LOWER THAN EXPECTED
- BLUE-COLLAR LABOUR DEMAND IS SUBDUED
- EXPOSED TO THE BROADER ECONOMY’S FORTUNES
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