Infrastructure and Energy Alternatives (“IEA”) is a renewables-focused E&C company trading at over a 3-EBITDA turns discount to E&C peers servicing the utility industry. In addition, the company trades at an exceptionally low valuation on an absolute basis at just 4.9x EV/EBITDA (which includes the distribution of earn-out shares) and has 20%+ FCF yield.
We believe the company is on the cusp of a massive growth and earnings inflection which should become evident when the company reports 2Q results on August 9th. Revenue should increase more than 3x from 1Q, and revenues and EBITDA should experience accelerating y/y comps over the next 3 quarters, averaging more than 90% y/y.
IEA exited 1Q with record backlog ($1.1bn) and visibility into the out year – a trend that we believe continued in 2Q. Additionally, the company was on the road in June and reiterated confidence in full year revenue and EBITDA of $805mn and $80mn (both at mid-point) versus $454mn and $52mn, respectively in 2017 (also see June investor presentation http://bit.ly/2Mp7kC2). We note this is a low capital intensity business (2% of revenue), with significant structural barriers to entry, and only 3 major domestic players.
The utility-scale wind energy sector is poised for record growth over the next several years, including a forecast of 31% y/y from MAKE Consulting for 2019 (11GW versus 8.4GW in 2018), well below the 13% revenue growth modeled in 2019 from the sole sell-side analyst covering IEA. Notably, we also expect solar (6% of revenue) to grow faster than IEA’s corporate average in 2019.
Why this opportunity exists
SPAC heritage – IEA became a public entity via a SPAC through its merger with MIII in March. Investors frequently have a negative view towards SPACs and therefore largely ignore them when mergers occur. Additionally, SPACs, unlike IPOs, fail to have significant price discovery through a traditional roadshow, resulting in potential mispricings. We note that IEA was “sold” by Oaktree, which was in the 8th year of the PE Fund that owned IEA. While Oaktree took some cash off the table, they also rolled an equity stake which represents 48.3% of the company. Assuming IEA achieves EBITDA targets in 2018 and 2019, Oaktree stands to receive an additional 9mn shares (we are confident IEA will hit the targets and have included earn-out shares in our valuation) increasing their stake to approximately 67% of the company. As such, Oaktree remains a highly invested and motivated partner to MIII and IEA, and is actively using its significant network to help source and diligence potential M&A transactions (we would be surprised if a transaction is not announced in the next 3 months).
Small-cap/limited coverage – IEA has a market cap of just $220mn and a single sell-side firm following the company. Assuming Oaktree receives its 9mn earn-out shares and the stock appreciates, resulting in additional Founder shares vesting (at $12 and $14) as we anticipate it will, the market cap would be approaching $500mn, making the company relevant to a larger investor base. IEA recently appeared at a Stifel conference and we suspect that they and others will pick up coverage of IEA in coming quarters.
Wait and see following tepid 1Q – We believe that many institutions that have looked at IEA are taking a wait and see approach following a tepid 1Q. Revenue declined 4% y/y to $50.1mn while adjusted EBITDA was a loss of $8.9mn versus a gain of $4.1mn in 1Q 2017. These results reflect delays in projects due to uncertainty regarding the Trump tax policy on renewables, worse than expected weather, and delays in solar due to tax changes. Despite a soft 1Q, management reiterated full-year guidance on its 1Q call. We believe that when it becomes evident that IEA’s business is very much on track, and poised for significant growth in 2019 as well, the stock should move dramatically higher.
Wind at IEA’s back – IEA is poised to experience dramatic growth over the next several years, buoyed by a strong move to renewables in the United States, coupled with favorable tax policy. IEA currently generates approximately 88% of revenue from utility-scale wind, 6% from solar, and 6% from civil/other. In the wind sector there are more than 60GW of projects safe harbored as of 12/31/2016 to receive the full Federal Production Tax Credit (PTC). The clarification regarding the Administration’s policy regarding the PTC is reflected in the American Wind Energy Association’s (AWEA) May estimate that the US’ full wind pipeline now totals 33.5GW at the end of 1Q, up 34% versus a year prior. This pipeline represents 37.5% of all the wind currently in operation in the US.
More recently, MAKE Consulting provided a forecast for 8.4GW of wind construction in 2018, 11GW in 2019 (31% y/y growth) and 13GW in 2020 (18% y/y). Considering the sole sell-side estimate has 12.5% revenue growth forecast for IEA in 2019, we believe there could be substantial upside to 2019 estimates, particularly since we expect solar, which has been a drag year-to-date due to import taxes (but has not lost any projects – and has a solid funnel of opportunities), to grow substantially next year.
While PTC tax benefits begin rolling off at a rate of 20% per year post 2020, it’s important to note that in many geographies wind costs are already at or below parity with conventional energy sources.
Source: IEA June Presentation
Moreover, technology improvements are ongoing, and significantly improved battery storage in the 2022/3 timeframe, should dramatically increase wind efficiency and position it for sustained growth even without tax benefits. In addition, 26 States in the US have established Renewable Portfolio Standards (RPS), mandating the use of renewable energy in coming years, which should further bolster demand. Finally, many large corporations including Adobe, AT&T, Bloomberg, Facebook, Nike, T-Mobile and others have entered into power purchase agreements (PPAs), which we believe will be an ongoing trend.
While solar is currently just 6% of IEA’s revenue, we expect it to be a significant growth engine for IEA over coming years. In 2017 the company hired teams to build out its solar capabilities, which increased SG&A in 1Q, but had no commensurate benefit to revenue. We think that will change. IEA has guided that solar will grow organically and via M&A over the next several years and has noted that many of its existing utility-scale wind customers are strong prospects for solar.
Source: IEA June Presentation
Diversification via accretive M&A – We expect IEA to make at least one sizable acquisition in 2018 at a purchase multiple of 4-5x EBITDA. While the company is currently trading at the high-end of this range, we expect that IEA will use cash from its current borrowing capacity of $80mn at ~5.7%-5.8% interest, which would prove meaningfully accretive. Management has noted that they have an actionable pipeline of acquisition candidates. Importantly, the company has commented that it will not issue equity at current prices to finance an acquisition.