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Gamble of the week: Profit from waste
The shares in this waste management firm have suffered from poor performance on the Continent. Yet major new investment makes this stock a buy for the brave, says Paul Hill.
Shanks shares are down nearly 40% over the past year even though it operates in a relatively stable industry and is winning new business. In April the firm closed a £750m, 25-year public finance initiative (PFI) contract with Barnsley, Doncaster and Rotherham councils for the treatment of black bag waste.
Shanks will build a mechanical biological treatment and anaerobic digestion facility in Yorkshire by 2015. The plant will process "solid recovered fuel" (plastics and biodegradable waste), biogas for energy generation, and digestate for compost and fertiliser.
Investor concern has stemmed from fears over its Dutch (50% of sales) and Belgium (23%) subsidiaries, which are the major bread-winners. Here the softening macro environment, the sharp fall in paper recyclate prices and tougher competition have hit its solid waste business.
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To make matters worse, the euro has weakened, reducing its profits in sterling. In response, Shanks is targeting UK growth and further cost savings. A big investment programme also remains on track, with the initial £100m phase expected to achieve post-tax returns of 12%-15% this year. The second £150m phase is set to kick off shortly. The board is investing in recycling, waste-to-energy, composting and anaerobic digestion plants.
Analysts expect turnover and underlying EPS of £774m and 7.35p respectively for the year ending March 2013, rising to £798m and 8.9p 12 months later. I would rate Shanks on a seven times EBITDA multiple. Adjusting for £161m of net debt, a £80m PFI portfolio and an £8m pension deficit delivers an intrinsic worth of over 150p a share. That's almost double today's level and you get a 4% yield.
UK investors need to keep an eye on currency fluctuations and borrowings (at 1.7 times EBITDA), particularly if Benelux is sucked deeper into the European quagmire. Nonetheless, helped by tightening environmental laws, the stock could rally strongly or even attract a bid.
Investec (joint house broker) has a price target of 145p, with the next trading update expected around the AGM on 19 July.
Rating: SPECULATIVE BUY at 82p (market capitalisation £325m)
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Paul gained a degree in electrical engineering and went on to qualify as a chartered management accountant. He has extensive corporate finance and investment experience and is a member of the Securities Institute.
Over the past 16 years Paul has held top-level financial management and M&A roles for blue-chip companies such as O2, GKN and Unilever. He is now director of his own capital investment and consultancy firm, PMH Capital Limited.
Paul is an expert at analysing companies in new, fast-growing markets, and is an extremely shrewd stock-picker.
