SRG Global

The mule is back

In February of last year, we wrote about SRG Global’s acquisition of the ALS Asset Care division. That writeup can be found here:

At the time we used a quote from Lyle Lanley off The Simpsons to describe Small Cap companies that are flush with cash. This quote was: “Y'know, a town with money is like a mule with a spinning wheel. No one knows how he got it and danged if he knows how to use it!”

When cashflow is strong, small caps tend to look to spend it on the expectation the good times will last. In SRG’s case, they have been consistently cashflow positive since 2020 and anytime the balance sheet swings to net cash they have gone out and made an acquisition. We have covered the recent history of acquisitions in the link above.

So, last month when SRG preannounced their FY24 result and we saw that the company had gone from Net Debt of $17m, 12 months ago, to a net cash position of $18m now, we did make the observation in our July writeup that “as the cash balance grows, you can’t rule out further acquisitions.”  Coming back to the above analogy, the mule well and truly got its spinning wheel back.

Source: Company filings, author’s calculations

With the full details of the the FY24 result out now, we can say it was solid, driven by the previous mentioned ALS acquisition. Earnings Per Share (pre amortisation) grew 15% and puts the company on a trailing P/E of 12.3x at 95 cents. They also announced a final dividend of 2.5 cents, taking the full year dividend to 4.5 cents.

Source: Company filings

However, the main news was not the result, instead it was the new acquisition of Diona. Diona is essentially a utility maintenance company, with operations in the Water and Energy space. The strategic rationale makes a lot of sense, it diversifies the company further away from industries such as mining and construction into less cyclical industries, whilst also increasing the East Coast presence.

SRG makes a big deal of the shift in its revenue base in recent years away from project work to recurring revenue. The split post the acquisition will stand at 80% recurring / 20% project. It is nice that they have maintenance work, but we have to remember that some of the industries they operate in are highly cyclical (i.e. mining), so their recurring revenue is potentially riskier than companies that quote this metric in other sectors. The one thing that we would highlight from this metric is how attractive the addition of Diona is for them. It is a business focused on the maintenance of essential services and has a client base that is largely government. As a result, the acquisition increases the quality of their revenue.

The purchase price also means the financials stack up. At c. 6x EBIT, the acquisition is expected to be 10% EPS accretive when factoring in the dilution from the equity offering. On a proforma basis, the FY24 EPS number would have been 8.6cps, making the historical multiple 11x.

The forward guidance has been updated to $125m, c. 6% growth on the proforma FY24 numbers, and Net Debt will be 0.3x that. As with the previous acquisition, it will not be long until the balance sheet is back in net cash. Factoring in that 6% growth rate to EPS places the company on 10.4x forward. Note that the guidance only includes a 10-month contribution from Diona, against a full 12-month contribution in the proforma numbers so the 6% number is understating the expected organic growth.  

It is rare that an acquisition ticks the boxes on almost every front, increasing the quality of the business, reducing the cyclicality and being earnings accretive. All of that and we still haven’t mentioned that it increases the Work in Hand by 50%. The market has reacted positively to the news, and reports are that the institutional placement was very well supported. Historically, this company has traded around 10x NPATA. With a small contractor, it is rare to see them much above 12x, however given the increase in quality provided by this acquisition, it is possible we could see a slight rerate.

The mule appears to have come up with a winner yet again.

Just a friendly reminder that none of the above is investment advice, it is factual commentary on a portfolio run by the author.