QUANTA SERVICES INC PWR
December 31, 2018 - 10:20am EST by
aa123
2018 2019
Price: 30.00 EPS 0 0
Shares Out. (in M): 150 P/E 0 0
Market Cap (in $M): 4,500 P/FCF 0 0
Net Debt (in $M): 736 EBIT 0 0
TEV ($): 5,236 TEV/EBIT 0 0

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Description

 

Description

 

Apologies in advance for the poor formatting. 

 

Quanta is a leading specialty contractor focused on the electric power, telecommunications, and oil & gas pipeline markets.

 

a.       Electric power infrastructure – largest transmission and distribution (T&D) solution provider in N.A. Unmatched scale and solution scope. 2017 revenue of $5.6 billion, 9.3% operating margin. 2018 revenue $6.25 billion at 9.75% operating margin. 85% of the business is a base business that consists of recurring small maintenance jobs for utilities. Rest represents larger projects. 

 

b.      Telecommunications – provides communications infrastructure solutions to telco customers including telecommunication towers, fiber networks, and cable installation. 2017 revenue $375 million. Scaling that business. Targets $1 billion in next 3-5 years. Expects operating margin around 10%.

 

c.    Oil & gas pipeline – Largest pipeline solutions providers in N.A. 70% of the business consists of smaller maintenance and more recurring type of work (pipeline integrity and maintenance) and 30% consists of larger pipeline construction work. 2017 revenue $3.9 billion at 4.8% operating margin. 2018 revenue $4.3 billion at 5.9% operating margin.

 

Investment Thesis

 

·    1. Company is misunderstood. Investors perceive the company as more cyclical and riskier than it is as the majority of the business (80-85%) is made up of small maintenance recurring type jobs that are inherently less risky and more stable. This base business is growing around 5-10% per year. We believe that this part of the business is overshadowed by the larger projects that are more cyclical in nature. Investor Relations person summarizes the issue well: 

 

Well, again, I think one of the messages you hear from us consistently and we continue to beat the drum is we're really focused on growing that kind of everyday work base business as we kind of commonly refer to it. It's a majority of our business. It's got great growth prospects. We love the big projects. They catch the headlines, and I know you guys are bandwidth constraints and all the companies you follow. So it's easy to pay a lot of attention to the headlines on the big projects, but keep in mind that, that's a minority of what we do. We love them, but it's a minority of what we do. And really, we're continuing to establish the company as being a diverse company, a portfolio of businesses that are in very good end markets with very good competitive positions and really a focus on strategically trying to continue to advance our differentiation. We've got a great multi-year outlook.”

 

2. Increasing margins in the oil and gas division. Division currently running at around 5% operating margins. Targeting high single digit operating margin in a normalized environment, including an improvement in the Canadian business where they are currently seeing more activity.

 

3. Increasing margin in the telecom division as the business scales – lost a little bit of money in the first half of 2018 because of seasonality and investments. Expects to exit the year at high single digit operating margin and sees the business as a 10% operating margin business as they reach scale in next couple of years. 2018 revenue $375 million. Targeting $1 billion in mid-term. Significant opportunities around 5G deployment and cross opportunities with power division (typical telco person is not certified to go through power lines for ex). CEO stated during Q2 2018 earnings’ call: “I mean, my expectation for the telecom business is, in 2019, to operate as parity to the electric margins”

 

 4.        Growing end-markets:

 

o   Record backlog and 12-month backlog.

 

o   CEO of Quanta on the Q4 2017 earnings call - “Our top 10 electrical customers in 2017 are estimated to grow their transmission and distribution capex greater than 10% in the aggregate over the next 2 years”

 

 

 

·         5. Big projects in electricity T&D are coming back. Company is seeing more large projects than they have seen in the last 5 years. Ability to boost margins in 2019 and beyond. Large transmission revenue is at a cyclical low.

 

 

 

·         6. Company has been aggressive with its share repurchases at typically the right times.

 

 

Amount

Number of shares

Average repurchase price

2015

$500

17.4

$28.74

Apr-16

$750

35.1

$21.37

Early 2017

$450

19.2

$23.44

2017

$254

7.2

$35.28

 

           

 

In September 2018, Quanta announced a new $500 million repurchase. Since mid-2014, Quanta has repurchased 36% of its shares outstanding.  Management is frustrated by Quanta’s valuation as evidenced by this exchange between an analyst and the CEO.

 

Noelle Christine Dilts

 

So I guess on that note, I know you've been frustrated with the valuation that investors are awarding Quanta at this point. You touched on this. But what do you think investors are missing? And really the question is, what -- in your view, what changes this? Is it an education issue? Or is it something else?

 

Earl C. Austin

 

I mean, I like to believe markets are efficient. And over time, efficient markets, we'll get there. We're going to go stay disciplined in doing the things that we can control. And I think when you look at us, and you look at our execution record, we'll continue to do what we say we're going to do. Talk about a 5-year strategy, go execute it. Things like that. The company is extremely focused on that. Also, we've been willing to go back in the market and buy our stock and do some things to make sure that we're creating shareholder value. It's important for us to do that. I think we're set in a good spot. If you look at it, when I think about it, at least if you go back to the $6 billion electric business that we had, what is the utility multiple? We're not even close, so -- and we're following absolutely a utility-type model. So that, again, I continue to look at the company and perplexed that -- at where we're trading and so we continue to do to the things that we can control to make sure that our investment community and our investors will get the value that the company's worth. So all things that we're looking at it.

 

 7. CEO and CFO just bought shares personally. CEO bought almost $750,000 in stock on Dec 19

 

·     8. Shortage of skilled labor – Quanta has more than 37k employees, has invested $100 million in various initiatives over the past 5 years to attract and retain best employees, recently bought Northwest Lineman College, an accredited college focused on educating and training apprentice line workers. Viewed as employer of choice.

 

 

 

·         9. Attractive valuation – see below

 

 Historically, PWR has traded at around 8x EBITDA and 15x EPS. We believe this is where fair value is and where the stock should trade.

 

·       We have assumed a base case of $950 million EBITDA in 2020 (a conservative number in light of analysts’ expectations of $1,000+), a 7.5x multiple (a conservative number given where PWR has traded in the past), a billion dollar repurchase (reasonable in light of what the company has done in the past) and 800 million of free cash flow generation during the next 10 quarters. This leads to a 65% return in 2.5 years which we think is highly attractive given the fact that the balance sheet has little leverage, most of the business is somewhat recurring, and the end markets are growing. 

 

  2020 EBITDA
  925 950 975
Multiple 7x 7.5x 8x
EV 6,475.0 7,125.0 7,800.0
Current Net Debt 736.0 736.0 736.0
FCF (10 quarters) 800.0 800.0 800.0
Share repurcahse 1,000.0 1,000.0 1,000.0
Equity value 5,539.0 6,189.0 6,864.0
Number of shares  120.7 120.7 120.7
Stock price 45.9 51.3 56.9
Return (from $31) 48.0% 65.4% 83.4%

 

 

B    Risks

 

·         Deterioration of the end markets – we believe this is mitigated by the fact that 80% of the business is more recurring in nature.

 

·        Losses at larger projects – these projects are often done under fixed price contracts and issues can arise at a project leading to losses. This is mitigated by the fact that Quanta has an excellent track record.

 

·         Value-destructive M&A – always a possibility although mitigated by a good track record and the fact that the company is allocating a lot of capital to share buyback.

 

 

I 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.

Catalyst

Further share buybacks

Potential sale of the company - we discussed this with management. they thought it was a possibility given that they see lower quality peers being bought for 10x EBITDA when they trade at a much lower multiple

Company continuing to execute

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