Lockerbie & Hole shares are thriving but still don't get much respect. The stock changes hands at 12 times estimated earnings, not much considering the bottom-line growth.
That kind of multiple isn't unusual in the construction contracting industry, where earnings are inconsistent and risk tends to loom over rewards in the minds of investors. But if you think the infrastructure boom I've discussed in the past has legs, and particularly the oil sands theme, you have to think Lockerbie is still interesting. Here are a few reasons to suggest the multiple might move up along with earnings.
Lockerbie's founding company is more than 100 years old yet the name is new to investors because the company went public last year. Add that it's based in the cold hinterlands of Edmonton and you have a couple of explanations for the lack of profile.
But given the trends in the industry and the company's progress, that will likely change.
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Infrastructure plays are interesting for a number of reasons. First, our roads, hospitals, bridges, utility poles, water plants and so on are old and crumbling. Second, governments and the private sector have the money and a good reason to invest: Most of the problems in the world today - famine, energy shortages, commodity demand, water needs - will be solved, at least in part, right here in Canada. Third, infrastructure financing has become very sophisticated. Finally, environmental degradation will also lead to more spending. This is benefiting Lockerbie and others. I would argue that the group will get more attention over time.
Lockerbie is also winning the confidence of investors based on what it's doing internally. CEO Gord Panas was the chief financial officer until 2006 when the company hit the financial wall, suffering big losses because of fixed-price contracts. Fixed-price deals mean Lockerbie promises to do the work at a guaranteed price. Mr. Panas moved quickly to shrink the company to profitability. It's now growing again.
Fiscal 2008 revenue was a lot lower than 2006 sales but earnings (before interest, taxes, depreciation and amortization) came roaring back from next to nothing to $37-million. The year-over-year improvement was 67 per cent. Share profit more than doubled.
It looks like the company achieved this turnaround in part by relying less on fixed-cost contracts, which fell from 52 per cent of sales in 2007 to 40 per cent in the latest year. And although fixed-cost contracts can be more profitable, Lockerbie's EBITDA margins are going up. The multiple should rise if this trend keeps up.
If the pundits are right about oil prices, there will be more investment in the oil sands, notwithstanding the challenges of getting things done in labour-strapped Alberta. Oil sands projects make up about 40 per cent of the revenue.
One of the risks to investing in Lockerbie is the concentration of business it does with its two biggest clients, worth 48 per cent of revenue and even more of the backlog. A delay or cancellation of a contract could be very painful for shareholders. And there's not much the company can do about that, at least near term.
What might help the company diversify its customer list is a growing expertise in water systems. One of the company's latest contracts is for a water plant. It's smallish - $30-million, compared with a total backlog of almost $1.1-billion - but water infrastructure is an area the company is betting on, which makes sense, because although the water issue in Fort Mac has earned a few headlines, it's going to get a lot more attention, and it won't be good. According to Alberta Energy, oil sands use two to 4.5 barrels of water per barrel of crude. An area covering 50 square kilometres that was once boreal forest and wetland is now toxic tailings ponds. With water supplies declining, that can't go on. Lockerbie has worked on a lot of water projects, and expertise in the oil sands can be carried over to mining projects, where the company already does a lot of work.
These are soft arguments to a hard mathematical question, admittedly. That multiple is low for a reason, notwithstanding estimated earnings growth of 24 per cent expected in fiscal 2010.
But investing isn't about numbers alone. Management (which, including directors, owns a lot of stock) have demonstrated discipline and forward-thinking. If they execute, that should eventually show up in the numbers, including the multiple.
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