SRG Global is a construction company, operating in 3 segments :...

SRG Global is a construction company, operating in 3 segments : asset services, mining and construction.
Breakdown of revenues : 45 % in West Australia, 44 % in East Australia and 11 % international.

One of the main interest of this company : they have transitioned to what they call annuity based business which represents 2/3 of their business. That corresponds to long term contract based work that they get in their asset services and mining divisions, while their construction business is more medium term and project based.

In an interview in July 21, the MD was indicating that they have "3 to 4 years of good organic growth in front of us".
In the same interview, he was also detailing its margin protection indicating that, in the majority of his contracts, there is some protection vs inflation.
He also said that, being a specialist, was also a good protection.

Like in FY 21, their H1 22 results are a good illustration, with a limited increase of revenues (+ 4 % in FY 21 and + 5 % in FY 22) and a clear focus on margins :
- strong top line growth in the 2 divisions (asset services and mining) which have the highest (and the most stable) margins,
- decrease of the revenue in their construction division to focus also on margins (EBITDA margin increased from 4.8 % to 7.8 %), with the decrease of revenues partly due to the exit of some low margin business in Victoria and in the middle east.

Following these results, the company raised again its guidance, expecting an EBITDA 22 in a range of 54 m to 57 m (vs 54 m previously).
Like in FY 21, they had a remarkable cash conversion in H1 22, with a ratio cash flow from operation/EBITDA of 124 % (vs 117 % in FY 21).
This is explained by a large positive contribution from working capital decrease, both in FY 21 and H1 FY 22. In FY 21, the company explained it by "the conversion of work in progress to cash and reducing payment times from customers".

Looking at their H1 22 results annualised, they had an EV/EBITDA of 4.8 x and a free cash flow yield of 15 %* (dividend yield of 4.6 % based on H1 div annualised).
Quite surprising to note that today's market cap is still under the pro forma market cap when SRG and GCS merged in 2018 (while the share of annuity business has grown from 1/3 in 2018 to 2/3 now).

Given the interest of this story and the rather low valuation, it is probably more interesting to focus on potential risks :
- the main one is probably their ability to continue to control costs in an inflationary period,
- another risk may be about their recent acquisition of WHBO (to be finalised at the end of March), where the company did not disclose much details,
- their main shareholder (Perennial, who owns 12.6 % of the capital) is now regularly reducing its share.
For each of these risks, there is some answer to show that these risks seem to be limited : costs well controlled so far, acquisition done at a rather low price (10 % of past revenue vs 48 % for SRG) and main shareholder selling does not prevent the stock to keep going up during the same period.
Anyway, there is probably a need to keep watching these risks.
The recent bankruptcy of Probuild also shows that there are still major risks in the construction sector, which could explain why valuations remain quite conservative in this sector. Probuild was a common key customer of SRG and GCS when they merged in 2018 (no more mentioned among their key customers for construction in FY 21).

Another element which is rather surprising with this story : we could have the impression that the company is focusing on short term, by limiting the revenue growth and capex, while optimising its margin and free cash flow.
However, the recent acquisition of WHBO shows that the company is also clearly looking longer term.
Regarding longer term growth, the recent presentation below also highlights the potential of a 4th division over time, with SRG engineering products, which now represents less than 5 % of their revenues, with a strong growth (H1 22 revenues were almost at the level of FY 21 revenues).

* after taking into account lease payment (4.1 m of lease payment during H1 22 and 8.2 m for FY 21).