Ventia Services: Unique Mix Of Growth & Defence

Small Caps | Jul 09 2024

Analysts highlight structural tailwinds for Ventia Services and margin protection from contract mix and flexible costs.

-Structural tailwinds for Ventia Services
-Unique combination of strong growth and defensiveness 
-Margins protected via contract mix and flexible costs
-Work-in-hand a feature of FY23 results, notes Macquarie

By Mark Woodruff

Favourable tailwinds continue to support maintenance services provider Ventia Services ((VNT)) as population growth creates pressure on existing infrastructure, with sustainability and the energy transition driving rising investment, and spending on defence rises to meet geopolitical risks.

Exhibiting defensive attributes with a strong growth profile, the company represents a unique investment opportunity on the ASX, according to Canaccord Genuity, in first-time research released last week.

Ventia's business model is underpinned by long-term contracts with government (which represent 75% of revenue) and corporates such as BHP Group ((BHP)), Chevron, and Telstra Group ((TLS)), which contribute the remaining 25%.

This spread of blue-chip clients significantly minimises counterparty risk, highlight the analysts.

Only last month, Morgans listed Ventia Services among three key picks across the Building, Construction and Engineering sectors, noting management continues to deliver shareholder value through dividends and earnings growth, with potential for future capital management.

Since listing on the ASX at an IPO price of $1.70 in November 2021, Ventia has delivered a two-year compound annual growth rate (CAGR) for revenue and underlying earnings of 11.1% and 10.7%, respectively.

The share price has subsequently risen to $4.05 and Ventia's market capitalisation of $3.4bn now sits between Morgans' other key sector picks Worley ((WOR)) and Maas Group ((MGH)) with market capitalisations of respectively $7.78bn and $1.31bn.

Providing routine upkeep to maintain asset quality and operational efficiency, Ventia operates across more than 400 sites in Australia and New Zealand (90% of FY23 revenue from Australia) with a combined workforce of over 35,500 people, of which around 20,000 are subcontractors.

Service capabilities span the full infrastructure asset lifecycle, including Operations & Maintenance, Facilities Management, Minor Capital Works, Environmental Services, and other solutions. 

The business includes four segments, namely Defence & Social Infrastructure, Infrastructure Services, Telecommunications and Transport.

Ventia holds an around 7.8% market share of a total addressable market (TAM) estimated at $73.5bn in the Maintenance Service markets, which BIS Oxford Economics (in 2022) expected to reach $87.8bn by FY26.

Contracts are secured with an average tenure of between five and seven years, with direct inflation pass-through mechanisms (95% of revenue) built into most contracts, explained Morgans.

Management is selective when choosing work and doesn't undertake major capital construction projects (more than $100m), while only 8% of FY23 revenue derived from fixed-price contracts, notes Canaccord.

Annuity-style income is generated, while cash flows from maintenance are comparatively resilient to external shocks, according to Ord Minnett, and capital requirements are typically low.

Being a Maintenance Services business, historically, Ventia had less than 1% of capex as a percentage of revenue, which Canaccord contrasts with the (similiar sized) more capital intensive Downer EDI ((DOW)), which has lower return metrics and a more inconsistent earnings profile. 

Not only does Ventia's low capital intensity provide protection against economic cycles, but it also supports a high degree of cash generation, points out the broker, enabling management to adhere to a profit payout ratio target of 75%.

As financial leverage is light, Canaccord explains management can flex the balance sheet as required, should M&A targets present attractively.

Margin protection

Courtesy of existing revenue and cost structures, Canaccord Genuity believes Ventia is well positioned to continue growing earnings in a steady fashion.

Management looks to mitigate earnings risk, explain the analysts, by contracting work with a high proportion of inflation and price escalation mechanisms for cost increases.

Since FY20, there has been a shift in the contract mix away from fixed price, with the current mix working to protect margins in times of high-cost inflation (as seen recently), observes Canaccord, resulting in a more robust earnings profile.

Ventia's scalable business model, with subcontractors accounting for around 50% of total costs, provides further flexibility to the cost base.

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