Summary: What's changed: Weak 1H12 result. 1H12 sales fell 7%, driving EBITDA down 37% (a 24% miss vs. our forecast) as utilization rates plumbed new lows (66%) driven by contract delays and management’s reluctance to reduce headcount given perceived medium-term demand. Uplift expected in 2H12. Operating sales fell 7% (a 3% miss) although committed revenue for 2H12 is sitting above the pcp, suggesting a recovery in utilization rates and earnings. Strong balance sheet and dividend. A net A$12.5 mn received from the Tenix settlement drove a doubling of gross operating cash flow to A$17.6 mn, turning the balance sheet into a net cash position. As such, 1H12 DPS rose to 5.5¢, reflecting a dividend payout ratio of 95% on underlying NPAT. ? Implications: EPS -21%/-14%/-11%. In cutting our utilization rate assumptions to 69% in FY12 before recovering to 73% in FY13, our EPS forecasts have changed by -21%/-14%/-11% over FY12-14 respectively. Buy retained. We have retained our Buy rating based on the issues impacting the business largely reflecting a sector downturn in sales that we expect will improve in FY13. While conviction in our call has reduced, we view OKN’s high degree of operating leverage, strong balance sheet and high dividend yield (9.0%) as offering an attractive risk/reward payoff. ? Valuation: TP -3% to A$1.47. Our 12-month Target Price has fallen 3% to A$1.47 (from A$1.52) due to our EPS revisions being partially offset by higher market multiples. Our TP is based on a 30% discount to the Small Industrials index FY13E EV/EBIT multiple. ? Key risks: Downside: Soft corporate spending, leading to further contract delays.
Outlook: While management did not provide explicit FY12 guidance, it expects a “stronger 2H12 result in all locations subject to any further deterioration of economic conditions”. This is expected to be derived from both: (i) stronger sales, with committed revenue at 31 December running at higher levels than the pcp and a relatively solid sales pipeline; and (ii) margin improvement resulting from better utilization rates and cost savings from natural attrition in middle management (c.A$1 mn annualised). Specifically, we view the following as key to achieving improved performance over 2H12: ? Shift of projects from ‘committed to commenced’: While 75% of management’s FY12 revenue forecast has been ‘booked and committed’, these are still subject to possible delays as seen in 1H12. The next 4-6 weeks are key in seeing some of these projects transition to the ‘commenced’ phase, with most risk viewed as lying in the NSW business (c.36% of 1H12 revenue) where delays have been more prominent. The ACT business (c.22% of 1H12 revenue) is expected to benefit from a strong tender pipeline and the typical government budget flush in June. ? 2H12 utilisation in the low-mid 70%s: Given the current project backlog, management views a utilization rate of 73%-75% in 2H12 as achievable (1H: 66%). ? Continued Victorian improvement: The troubled Victorian operation (c.38% of 1H12 revenue) improved sales and EBIT in 1H12, albeit at a slower pace than hoped given the macroeconomic environment. While key operational issues are on the mend (i.e. staff churn, utilization, right-sizing the business), the business needs to secure a stronger pipeline than currently exists in order for this turnaround to be sustained.
OKN Price at posting:
$1.07 Sentiment: None Disclosure: Held
