Brightview (“BV”) is a company that has been posted on VIC once in the past. Cubbie, the author of that posting, did a good job of giving a background on the company. I will, therefore, spend relatively little space describing the company and focus this writeup instead on recent developments at the company and why I think the investment is attractive today.
Brightview is the largest provider of commercial landscaping services in the United States. The company was formed in 2014 through the merger of Brinkman and ValleyCrest under the ownership of private equity firm KKR. BrightView’s services include landscape design, development, maintenance, snow and ice removal, water management, tree care and others. BrightView serves commercial clients in diverse end-markets, including corporates, homeowner associations (HOAs), public parks, hospitals, hotels & resorts, and education. BrightView operates on a national scale, with over 22,000 employees and 200+ branches serving customers in all 50 states. Brightview operates its business in two different segments.
1.Maintenance Services ($1,813M revenue, $282M EBITDA in 2019): Maintenance services include landscaping maintenance, ancillary services such as tree cutting and irrigation, and snow removal. Contracts generally last from 1-3 years and renewal rates approximate 85%. Snow removal provides counter-seasonal revenue and earnings but varies year-to-year based on the amount of snowfall. Corporate and HOA customers comprise approximately 70% of maintenance services revenue.
2.Development Services ($0.6bn revenue, $0.3bn operating profit in 2019): This segment provides bespoke landscaping design and development services for new facilities and significant redesign projects. Specific services include project design and management services, landscape architecture, landscape installation, irrigation installation, water features, etc. Project sizes range from $0.1M to over $10M with an average size of approximately $1M. Development services typically serve as a feeder to maintenance services with historical conversion rates of 20-30%.
·Well positioned for COVID-19 given defensive business model: The US commercial landscaping market is highly resilient driven by contractual revenue streams and the services are essential to clients throughout the business cycle. While the impact from the coronavirus is certainly not over, as of the date of the 2Q20 earnings call (BV’s fiscal year end is September so that is through March 2020) BV was maintaining its base maintenance contracts at 97% of pre-covid levels. The 97% figure includes the effects of retail and hospitality on the business which are facing a particularly acute challenge in the COVID-19 environment. The resiliency of the business model is further demonstrated by the 2008-2010 recessionary period in which the industry experienced modest average annual revenue declines of 2.2%.
Brightview is currently underearning in FY2020: While the base management services contracts are very stable, the ancillary business has a discretionary component. Ancillary spend comprises approximately 25% of the maintenance services business. We expect this business to be down in the low-teens in the second half of FY2020 but to fully recover by the end of 2021 once fears of the coronavirus have passed and BV is able to benefit from increased demand for suburban properties which requires more landscaping. Furthermore, FY2020 was a poor year in terms of snowfall which affected the snow removal business. During fiscal 2Q20, snow removal revenue was down approximately $90M relative to 2Q19. Management stated the decremental in that business was approximately 30% which equates to a reduction of EBITDA in the mid-to-high 20s.
·Market leader with benefits accruing to scale: Brightview is the market share leader in the $70B US commercial landscaping market. BV has approximately 3% market share while the next closest competitor is at less than 1%. This scale enables BV to win national accounts, achieve procurement advantages and, importantly, leverage strong route density to deliver advantaged local performance across its national footprint.
·Long runway for M&A, a good use of capital: We expect M&A to serve as an attractive growth lever for BV given the company’s market leadership and the highly fragmented nature of the commercial landscaping industry. We see BV as the industry’s acquirer of choice given its scale, which also confers meaningful negotiating leverage in the acquisition process, as evidenced by BV’s historical ability to acquire at attractive valuation levels of 6-7x EBITDA. BV management is then able to reduce costs through the centralization of equipment purchase and the implementation of its electronic time capture systems for labor management.
Reason for Mispricing and Valuation
Brightview is currently mispriced for two main reasons in our opinion. The first has to do with the fact that the business is currently underearning. As mentioned previously, both the ancillary business and the snow removal business will be depressed in FY2020 relative to normalized levels. The second reason for the mispricing is due to recent stock sales by KKR. On June 10, BV announced that KKR and MSD Partners would be launching a secondary offering and selling 10M shares. KKR and MSD had not sold any shares during the IPO (done at $22 per share in June 2018) which was a selling point for owning the stock following the IPO. In addition to giving investors pause (KKR and MSD are large shareholders and have board representation), the offering was not executed well. The shares were brought to market in a bought deal underwritten by Goldman Sachs. The shares were sold at $13.40 when the stock had been trading as high as $16 three days before the offering and at $14.70 per share just before the announcement of the offering. It is our understanding that many of those shares were placed with non-fundamental investors who expected a quick bounce (especially given the large discount to the prior close). Unfortunately, this secondary took place on the same day the markets were down 5-7% due to concerns around a resurgence of the coronavirus (June 11). Instead of a quick bounce, these new shareholders were now losing money and have been selling since then. While we are not happy KKR and MSD are selling, we note that they have been in the stock for 7-8 years and have to exit at some point. Furthermore, the board members from KKR are not the people who participated in the deal.
We believe Brightview will do EBITDA of approximately $265M in FY2020. This is close to where consensus is for this year and implies a revenue decline of mid-single digits in 3Q per management guidance, primarily comprised of a low-teens decline in ancillary services due to the covid-19 disruptions. In 2022, we assume snow removal revenue returns to average historical levels of approximately $245M which generates incremental EBITDA of $27M relative to FY2020. Ancillary services achieve 2019 levels by the end of 2021 and grow 3% in 2022 adding approximately $15M to EBITDA. Non-ancillary services continue to grow at approximately 3% organically post 2020 and development EBITDA is reduced by $10M as fewer projects are implemented post covid-19. Finally, after a brief hiatus due to the coronavirus, BV resumes its M&A purchases and acquires $100M of new businesses at a 6x multiple increasing EBITDA margins of acquired companies commensurate with past purchases. These assumptions lead to an Adj. EBITDA of $325M in 2022. We value the business at 9x EBITDA which equates to an approximately 7% unlevered FCF yield which we think is appropriate for a business with a strong competitive advantage with the ability to deploy capital accretively through M&A, but whose organic growth is only 2-3%. At a 9x multiple the enterprise value would be $2.9B with a market cap of $1.9B (including $135M of free cash flow generated post acquisitions during this period) and a share price of $18. Based on today’s price of $10.86 per share, this represents approximately 65% upside. In a downside scenario we contemplate a down year in snowfall similar to 2019 ($27M reduction in EBITDA), development EBITDA $20M below our base case due to non-residential construction pulling back further than expected post covid, and ancillary business only coming back to 97% of 2019 levels. This leads to an EBITDA of approximately $270M which at a 7.5x multiple yields a share price of approximately $9.20, a downside of 15%. We would also note that PE has been active in the space and has paid double digit EBITDA multiple for this type of businesses. While KKR has just sold some shares, we wouldn't exclude a sale of the company at some point.
I do not hold a position with the issuer such as employment, directorship, or consultancy. I and/or others I advise hold a material investment in the issuer's securities.