Aecon’s shift toward energy and mining contracts has paid off handsomely for the infrastructure builder.
Aecon Group Inc.'s resurgent stock is no longer the battered, oversold top pick of a handful of analysts that it was few a years ago. Yet, even after rising 70 per cent since last June, it could well run further due to improving profitability and rising spending on infrastructure and big projects in Canada.
Since deciding to pull back from the construction of buildings and focus instead on mining and energy projects in 2010, Aecon has come a long way in rebuilding its reputation. Its margins are improving and it no longer trades at a substantial discount to other Canadian construction firms.
"If they can keep the top line steady, win their share of projects and keep their margins expanding, the stock can still go up from here," said Jeffrey Young, chief investment officer at NexGen Financial. All 12 analysts covering the stock rate it "buy," with an average price target of $20.10. The stock closed Friday at $18.04.
Aecon's shift in focus was one of necessity.
Investors bought into the company after the 2009 financial crisis, expecting a lift from stimulus spending. But that spending drew big international firms to Canada as well, making the business far more competitive, said Frederic Bastien, an analyst at Raymond James. Tendered building projects attracted ever more bidders, squeezing margins on what was already only a thinly profitable division for Toronto-based Aecon.
By redirecting its efforts westward, Aecon instead aligned itself with Canada's resource industries. Energy and mining projects are more complex, draw fewer bids, and have higher margins. "You tend to work for private companies, which more often than not don't give the project to the lowest bidder," Mr. Bastien said. "Relationships are more important. Track record is more important."
In establishing its track record in energy and mining, Aecon has stumbled. The company took on too many projects, some of them on unfavourable terms, Mr. Bastien said. In 2011, Aecon announced a hit of about $50-million on its fixed-price contract for Suncor Energy Inc.'s Firebag 3 project.
By September, 2011, the stock sank as low as $7.05, its lowest level since late 2008. But the company honed its focus, bid more strategically on projects, shifted resources to Calgary, and established itself as one of the go-to names in energy and mining projects, Mr. Bastien said.
Those projects now account for almost 70 per cent of Aecon's revenues, while the infrastructure segment makes up most of the remainder.
The goal of increasing average margins to 9 per cent by the end of next year, from about 6 per cent less than two years ago, "remains intact," Pierre Lacroix, an analyst at Desjardins Securities, said in a recent note.
"I don't think the Street's got those margin targets in their numbers," Mr. Young said. "So if the company can show progression towards that, you could see this re-rated a bit."
The construction business, however, is an unforgiving one. One or two troublesome projects can kill the company's margins. And only about 25 per cent of the Aecon's revenue is recurring, he said.
Mr. Lacroix said that Aecon expects continued growth in the energy division in Western Canada and is well-positioned to benefit from an increase in broader infrastructure spending.
"There are not a ton of other growth opportunities," Mr. Young said. "If you're looking for growth, it's one of the few areas you can find it."
Tim Shufelt