ACA - Arcosa: Strong Start To 2023

2023-05-21 07:03:00 ET

Summary

• Arcosa has seen a very strong first quarter.
• The hike in the full year guidance frankly looks conservative.
• Amidst huge wind tower orders for the coming years, the long-term prospects continue to look good.

In November, I believed that the infrastructure prospects for Arcosa ( ACA ) were priced in. This came after shares and the business itself had seen a strong 2022, as multiples expanded amidst the improved operating performance, with valuations more than reflecting its rosy prospects in my view.

A Recap

Arcosa was spun-off from Trinity Industries ( TRN ) back in 2019 in order to create a pure play on infrastructure. At the time of the spin-off, the company was a $1.4 billion business, one which grew to $1.9 billion in 2020 on the back of inflation, organic growth and acquisitions.

The Engineered Structures segment was the largest segment at the time, responsible for nearly half of sales, with revenues generated from the construction of utility, wind, storage tanks and associated infrastructure, while posting margins around 10% of sales.

Construction Products was the second-largest segment, which was responsible for roughly 30% of sales, focusing on aggregates and specialty markets, typically being a lucrative activity with margins reported in the mid-teens.

The Transportation segment is the smallest segment, focused on inland barges and steel components, posting margins in the low double digits.

The company earned about $2.50 per share in 2020, and with shares doubling from $30 to $60 during 2020, valuations were demanding at 25 times earnings, certainly as the company guided that it saw 2021 performance come down a bit, or be flat at best. As it turned out, 2021 revenues rose to $2 billion, driven by a $375 million deal for Stone Point Materials as earnings fell to roughly $2 per share, making it hard to become upbeat on the shares even as they fell to their high forties in early 2022.

On the back of the softer 2021 performance, the company originally guided for another year of flattish performance in 2022, not creating a compelling set-up, even as the company divested the storage tanks business in a $275 million deal.

Inflationary trends appearing during the year meant that sales and EBITDA were improving a bit during the year, as shares recovered to the $60s in November, making me still cautious despite the appealing long term prospects.

Encouraging Signs

Since November, when shares traded around the $60 mark, shares of the company have traded in a $50-$70 range, now trading towards the higher end of the range at $69 per share.

In February, the company posted its 2022 results, with reported revenues up 10% to $2.24 billion. Adjusted EBITDA improved 15% to $325 million with adjusted earnings per share up 13% to $2.19 per share. Net debt ticked down to $390 million, reducing leverage ratios a great deal, after the storage tanks divestment.

The company guided for flattish sales around $2.20 billion in 2023, but this is due to the divestment of the storage tanks business, with comparable sales reported at $2.05 billion in 2022. EBITDA was set to come in stable at $325 million, although this number is expected to include a $22 million gain on the sale of land.

In March, Arcosa announced a huge $750 million order to build wind towers with deliveries scheduled to take place between 2024 and 2028, as an average of $150 million in revenues per year is equal to about 7% of the current revenue base here (and that for a five-year period). On the back of this order, the company announced that a $55-$60 million facility will be built in New Mexico.

In April, the company posted first quarter sales that look very strong. First quarter sales rose 3% to $549 million, up 15% if we adjust for the storage tanks business divestment. The company reported huge earnings, with adjusted earnings up more than 150% to $1.06 per share. Poor free cash flow meant that net debt ticked up to $400 million. On the positive side, a $108 million quarterly EBITDA number results in an annualized leverage ratio below 1 times.

Upbeat, If Not For The Valuation

Given the very strong quarter, I am surprised that the full year sales guidance was hiked by just $50 million to a midpoint of $2.25 billion, with the EBITDA guidance being hiked by $30-$35 million to $345-$370 million. Either this shows that the first quarter strength is an isolated event, or more likely the guidance is a bit conservative. The improved earnings power is welcomed, although the higher guidance goes hand in hand with higher than expected capital spending requirements as well, hurting near term free cash flows.

Pegging earnings power potentially around $2.50 per share, perhaps a bit higher, it is needless to say that valuations remain demanding, even as leverage has come down quite a bit. Even if the company can surprise to the upside, with earnings power perhaps seen around $3 per share, I still think that shares look a bit rich, although I am very positively welcomed by the long term orders and near term momentum. All of this makes me more inclined to be involved here with the shares, probably only in the $50-$60 range.

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