Australia | Sep 30 2009
By Chris Shaw
The global economic downturn meant lower activity levels in all sections of most economies and the Australian mining sector was no exception as projects were scaled back or put on hold indefinitely. This meant tougher conditions for mining service companies, but according to Bank of America Merrill Lynch one of the higher quality exposures in this sector remains Bradken ((BKN)) and it initiates coverage with a Buy rating and $8.50 price target.
What sets the company apart from its peers, in the broker’s view, is its three-pronged growth strategy of leverage to mining volumes, the strong margins it generates and the scope for growth via acquisitions. The leverage issue is important, as the broker points out the downturn has seen new project capital expenditure fall, but the company has avoided much of this as its products are of the consumer wear type, meaning they are more closely tied to mining activity levels than to expenditure on new projects.
On the broker’s estimates mining volumes, and particularly those in the iron ore and coal sectors, are likely to remain relatively flat in 2009 rather than declining, before increases flow through as capital expenditure in the sector turns back up. Such expected increases offer scope for margin upside in its view, as the company has demonstrated an ability to drive margins higher via improving economies of scale and extending the value chain.
Acquisitions have played an important role in this, as the broker notes since 2004 the company has made nine acquisitions that have increased capacity, extended the value chain or added to either the group’s geographic or product footprint, meaning it has been able to operate in more areas and offer its services to more customers.
Given the broker expects relatively flat mining volumes through 2009 it sees the company delivering a relatively flat profit result in FY10, which suggests a net profit of around $66 million against the $64 million the company earned in FY09. In earnings per share (EPS) terms this implies a result of 51.3c compared to 52.6c in FY09, with the result expected to show a significant skew to the second half.
In the broker’s view this implies a pick-up in activity levels in the mining sector over the course of FY10, which in turn sets the company up well for solid growth in earnings in later years. Another likely positive for earnings is the strength of the group’s rail order book, which also sets the stage for a pick up in activity levels from FY11 in the broker’s view and also supports its thesis of expanding margins in coming years.
Its forecasts reflect this as it expects EPS of 63.6c in FY11, rising to 70.9c in FY12, while consensus forecasts according to the FNArena database for FY10 and FY11 stand at 54.3c and 62.8c respectively. There are some risks to the broker’s forecasts, one being from currency markets as for example the Engineered Products division, where AmeriCast is the driver, is expected to grow earnings in the next three years by around 6.4% annually. This imples the Australian dollar/US dollar exchange rate returns to levels more in line with its historical norm of around US72c against more than US85c currently.
Bank of America Merrill Lynch’s numbers imply a three-year capitalised annual growth rate in earnings per share of more than 10% annually, while another positive in its view will be the strength of the company free cash flows as this will facilitate ongoing expansion via acquisitions.
On the broker’s numbers the stock is trading on a FY11 P/E (price to earnings) ratio of 10.1 times, which it suggests is not a demanding multiple given the earnings growth outlook. Based on its estimates the broker has set a price target of $8.50, which compares to an average price target according to the FNArena database of $7.15.
Overall the database shows the stock is rated as Buy four times, Accumulate once and Hold three times. Deutsche Bank is another to rate the stock a Buy given it expects the mining services sector to perform well as mining volumes increase. UBS is similarly positive as it expects solid earnings growth in coming years.
Shares in Bradken today are slightly stronger and as at 11.20am the stock was up 6c at $6.72. Over the past year the shares have traded between $0.945 and $9.09.
