ARB Holdings published an excellent H1:21 result showing good revenue growth and particularly strong profit growth from key cost-savings measures annualizing across the period.
Revenue rose +5% y/y, Operating Profit shot up +59% y/y (thoroughly beating our expectations), & HEPS grew +26% to 41.1cps (H1:20 – 32.6cps).
For a Group that typically generates strong cash flows, cash generation was particularly strong over this period and the Group’s balance sheet remains very much ungeared.
Our Thoughts: Emerged Stronger
Management has built a superb Group over the years and, over the current pandemic, reacted swiftly in reigning back expenditure. Following from our previous results note, we believe that H1:21 has demonstrated that the Group has emerged stronger with more market share than at the beginning of this period. In the long-term, this can only be a good thing.
We expect dividends to resume with the full-year results and have maintained our revenue expectations while adjusting our margin assumptions to reflect the fantastic gains made by the Group in H1:21 annualizing even further into H2:21E.
Forecast, Valuation & Implied Return: EV/EBIDTA lining up with DCF
We see fair value as 631cps (previously: 464cps) on a Price Earnings (PE) of c.9.2x.
Interestingly, we have built a new EV/EBITDA Model for ARB against a hand-selected peer set and this model arrives at a fair value of 624cps, thus lending weight to our DCF fair value.
Our implied 12m TP of 737cps (previous 12m TP: 546cps) places the share on an Exit PE of 12.9x & implies a potential return of c.71%, albeit with typical macro-risks remaining present.
While “cheap” is not a defining characteristic of the current domestic small cap market, the combination of it with the high-quality of ARB’s track record and prospects makes it unique.
ARB Holdings maintained its revenue during a tough period that included political upheaval in South Africa, SOE paralysis, sour consumer sentiment, a sovereign downgrade and a technical recession (not officially over at the date of publishing).
The Group reported +4% y/y growth in HEPS to 61.9cps (FY 16: 59.7cps), beating our previous forecast of 61.4cps.
The Group continued to generate strong cash flow with well-managed working capital whilst adding to its store and product footprint.
Management remains committed to the organic and acquisitive growth of existing operations.
Our Thoughts: Resilience & Upside
Solid results year-after-year continue to build the Group’s track record for resilience while management put in place longer-term initiatives for growth that looks
We do note the various changing dynamics in the cabling supply market as a risk while the currently exercisable put option by Eurolux is actually a good opportunity (in our opinion).
Forecast, Valuation & Implied Return: Still Undervalued
We raise our estimated fair value for ARH to 687ps (previously: 664cps), which puts the stock on an implied Price Earnings (PE) of 11.1x.
In our opinion, this PE does not appear unreasonable against either ARH’s own history or the various comparatives in the market.
Rolling our fair value forward at our CoE we arrive at a 12m TP of 809cps (previous 12m TP: 779cps).
A 12m TP of 809cps places the share on a comfortable Exit PE of 12.9x.
FY 15: Tougher Trading Environment Than We Anticipated
Amidst a tough domestic economy and a management transition, ARB Holdings reported flat FY 15 results with a small decline in the Electrical Division being offset by growth in the Lighting and Corporates Divisions.
The Group reported revenue of R2.1bn (FY 14: R2.2bn), strong cash generation and flat HEPS of 50.0cps (FY 14: 50.3cps).
These results were driven by an unexpected drop in activity and spending by Eskom (particularly in their rural electrification programme) and infrastructure-related work in a slowing, troubled domestic economy.
The Group’s finances remain robust and management has declared a normal and a special dividend of 20.1cps (FY 14: 20.1cps) and 10cps (FY 14: 10cps) respectively, implying that the Group’s share is trading on a Dividend Yield (DY) of c.5.0%.
Given the tough environment, we see ARB Holdings’ good FY 15 results as indicative of the Group’s underlying quality.
The macro-environment will be the biggest challenge for the Group’s short-term organic growth ambitions, but the long-term strategy of expanding the Group’s product lines, geographies and markets (both organically and acquisitively) should yield upside.
In the short- to medium-term, though, it is likely that any major growth will be driven by acquisitive actions taken by the Group. While this is hard to forecast (and we do not even try), management have reasserted their intentions to conclude strategic and meaningful acquisitions in due course.
We revise our fair value to 613cps (previously 715cps) putting the share on a Price Earnings (PE) of 12.3x. This arrives at a 12m TP of 712cps (previously 836cps) on an Exit PE of 12.9x implying a 12m return of c.20% with acquisitive upside risk to these numbers
Key risks to the Group are unchanged from our original Initiation of Coverage. In fact, the macro risks remain even more pertinent in the current environment.
Business Overview: Market, Store and Product Expansion
ARB has built a scalable electrical products distribution and wholesaling business off the back of a core cable product supply with key growth drivers being the expansion in product lines, movement into new territories, markets and industries and selected strategic bolt-on acquisitions.
The Electrical Division is predominantly a wholesaler of cables, overhead lines and related electrical components in Southern Africa.
In mid-FY 12 ARB Holdings acquired a 60%-stake in Eurolux (Pty) Ltd, a fast growing importer and distributor of light fittings, lamps and ancillary electrical products.
The Group Services segment includes the strategic and operational activities as well as holding the underlying property portfolio of the Group with a book value of R163m.
Key Issues: Macro-economic Variables Worrying
With many frothy indicators, the construction, building and related market in South Africa has many short-term downside risks including the current labour environment, the rising interest rate cycle and the upcoming elections.
Despite this, South Africa’s infrastructure needs are significant as encapsulated in the National Development Plan (budgeted c.R827bn spend) and the building materials market stands to benefit handsomely from this (eventual) roll-out.
Forecast, Valuation and Implied Return: Attractively Priced
Our fair value for ARH is 622cps on a PE of 13.5x. Rolling this forward at our Cost of Equity (CoE), we arrive at a 12 month Target Price (TP) of 727cps on an Exit PE of 12.7x implying a return of 21% from the current levels.
The two key risks to our above valuation methodologies are (1) the major macro-economic variables in South Africa (noted above), and (2) the timing and successful implementation of ARB’s product, store and market expansion drive (including any potential future acquisitions).