I didn't mean to "burst your bubble"; merely calling things out...

I didn't mean to "burst your bubble"; merely calling things out as I see them, as I would do to myself if I owned the company outright because, to me, there is no difference in approach to company ownership whether I own 100% of an enterprise, or just 1% of it.

And if I owned 100% of SXE I would view the company's financial position not solely on the cash it held at any point in time, but also on how much cash it needed to keep going, i.e., considering a full capital balance... Capital Held plus Capital to be Generated less Calls on Capital.

In that capital balance equation, the calls on capital for a business such as this the most important aspect, and one that doesn't get the attention it deserves, in my view.

When it comes to calls on capital, there are three main buckets that need to be full:

1.) Working capital.

Very few investors consider working capital demands when it comes to investing (and even fewer even know what working capital even is!). This is especially the case for companies operating in highly cyclical industries, as SXE does.

Probably less than 5% of investors have ever worked in the finance function of a corporation, and probably less than 1% of those have been in a senior finance position (eg. Finance GM or CFO) in any company (and certainly no one has been in a senior finance position in all the different sorts of businesses represented on the ASX!).

So very few investors really understand the funding requirements of various business models.

In the engineering contracting industry when new orders are won, significant expenditure gets incurred even ahead of the commencement of the project(s) for mobilising equipment and personnel, and then even more cash outflows are incurred as the actual project work commences. Often it can be as long as 6 to 9 months between when new projects are won and first progress payments are received from clients. Six months is a long time to be spending money without a commensurate cash inflow.

And the more contracts that are won, the more the early stage demands on the firm's capital.

In an engineering contracting businesses, the CFO probably sweats even more than the project managers!


1.) Acquisitions


You say, "Aquisition history,again yr point relating to the dollars involved relative to the return appears a issue.", yes it is an issue, but it is what it is.

Because it is both a cyclical and competitive sector, growth by gaining market share organically is challenging, which is why many engineering contractors engage in M&A (either to buy out competitors, or to enter a new geography, or to plug cyclical holes in earnings).

Take SXE's acquisition of Trivantage in Dec 2020:

Given a deferred payment was made in the past 12 months, Trivantage would have contributed at least $10m in EBIT in the FY2022 result, which would have group EBIT of around $26m to $27m (derived from EBITDA guidance of $35m to $36m less D&A of $9m).

Which means the legacy business (i.e., pre-Trivantage) is currently generating EBIT of around $16m to $17m. By contrast, in FY2019 (pre-acquistion) it did $19.4m in EBIT.

So the core business has clearly gone backwards between FY2019 and FY2022.

And it is to neutralise that kind of earnings decay (in this case my sense it is due to margin pressure more than just normal business cyclicality) for which acquisitions need to be made.


1.) Risk Management

Make no mistake; this is not a very pretty business.

Tendering for projects is competitive and the margins are very thin; circa 5% EBIT/Sales.

Which means that if they price a job slightly incorrectly or experience just a few % cost overruns, then the operating profits quickly evaporate. Or worse, in the event of sizeable legal claims for non-performance.

Although, to be fair, SXE is positioned on the less risky end of the engineering construction ecosystem. Still, in this game it is is prudent to always have a meaningful cash buffer, just in case.



Finally, you said, "sxe is not going broke and its interesting you don't believe there will be much organic growth whether margin ,sales considering the govt wants Australia to become battery operated."

There's no suggestion of it going broke and when I say "no organic growth", I'm talking about through-the-cycle organic growth (i.e., ending up at successive cycle peaks at troughs with higher levels of profitability).

I do expect there to be earnings growth, but it is merely cyclical in nature, as opposed to structural long-term organic growth.

And because the growth is cyclical, not purely organic, this is important consideration for the appropriate valuation multiple at various points in the cycle.

Where we are in the earnings cycle for SXE is in the eye of the beholder: if we are near the bottom of the cycle the valuation multiple should expand (in anticipation of a recovery in earnings), and at the top of the cycle the multiple should compress (pre-empting the coming reduction in earnings).

Everyone will form his or her own view of the proximity to cyclical highs, of SXE's current earnings (clearly the earnings are far away from trough levels):




If the business is close to peak earnings currently, then the current P/E multiple of around 10x is probably fair (some might even form the reasonable view that it is too high).

But if one takes the more aggressive view that "this cycle is different because it is going to be stronger for longer", meaning SXE's earnings are still not close to peaking, then the stock should be trading on a higher P/E multiple.

I'm sort of 70% in the latter camp, 30% in the former.

Clearly difficult to have firm conviction.

[Investing in deep cyclical equities is not easy.]

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