NOA - North American Construction Group: Interesting Indirect Mining Play

2023-09-12 12:22:07 ET

Summary

• North American Construction Group Ltd. announced the acquisition of Australian Heavy Equipment Solution provider MacKellar Group.
• The acquisition brings diversification in terms of geographical region, activities, and end clients.
• The deal is seen as very accretive to earnings per share and improves pro forma EBITDA.

I have never covered shares of North American Construction Group Ltd. ( NOA ) before. As the business announced a relative large acquisition this past summer, being accompanied by a wildly enthusiastic reaction from investors, establishing a thesis on the company seems long overdue.

I find it an interesting business which has seen very strong operating performance in recent times, while it has made a very interesting, relative cheap and diversifying acquisition. This all makes me quite compelled and interested, although I have not forgotten about the cyclicality of the business in the past.

The Business

North American Construction Group is a provider of mining and heavy construction services. The company has a mobile fleet of more than 900 heavy equipment assets, 70 years of reputation since it was founded in the 1950s, and a workforce in excess of 3,000, most of which are operational.

The company proudly claims that this equipment has a replacement cost of over $2 billion. These assets are typically deployed in heavy civil & bulk earth moving operations, as well as project & mine site management operations. About half of sales rare generated from Canadian oil sands operations, complemented by a 30% exposure to general Canadian mining operations, as well as civil construction and some other items.

Essentially operating as a contract manufacturer, North American Construction claims to have significant barriers to entry. This includes the fact that such machines typically involve huge capital expenditures, while the company claims to have a very strong safety track record, internal maintenance activities, strong partnerships and relationships with indigenous stakeholders. Longer lead times from OEMs are just another reason why customers opt for its services.

The Numbers

A $400 million business a decade ago saw sales plunge below the $200 million mark by 2016, causing share to fall to just the $1 per share mark, although the company managed to post breakeven results despite tough market conditions. The business turned as commodity prices recovered, meaning that sales surpassed the half a billion mark in 2019. After seeing some weakness in 2020, shares rose to a record $770 million revenue number in 2022.

The company posted operating profits of $71 million as the company reported adjusted earnings of $2.41 per share. Net debt was reported just over $300 million, as this number excludes tens of millions of dollars in financial lease obligations. With EBITDA reported just shy of a quarter of a billion dollars, leverage ratios were modest, as the earnings resulted in a non-demanding multiple with shares trading around $15 at the time.

The resulting 6 times multiple looks very modest, but this is a cyclical business after all. In July of this year, the company posted second quarter results with revenues up 26% to $436 million in the six-month period. Strong operating leverage meant that adjusted earnings nearly doubled to $38 million, with adjusted earnings more than doubling to $1.43 per share.

The 26 million shares of the company rose to the $20 mark over the summer, granting equity of the business a $500 million valuation, while the company reported a net debt load of $394 million, for a $900 million enterprise valuation. This was largely backed up by a $683 million book value of the equipment assets, which the company claims has a replacement value three times that amount, with earnings power trending close to $3 per share.

A Huge Deal

With operating momentum and confidence running high at the business, North American Construction Group announced a $395 million purchase of Australian Heavy Equipment Solution provider MacKellar Group. Since the company moved into the Australian market in 2021, both companies have been talking to one another. The deal bring some diversification in terms of geographical region, activities and end clients, making the overall business likely a bit more resilient.

The highlights of the transaction reveal huge potential as the purchase price comes in at just 2.75 times EBITDA, far below the own multiple. With a deal tag equal to nearly 50% of the own valuation, investors liked the comments that the purchase price comes at a discount to the reported book value and furthermore might be up to 50% accretive to earnings per share.

Moreover, the deal tag is comprised out of $275 million "upfront" component with earn-outs and deferred payments making up the remainder of the $395 million acquisition sum. With the company seeing earnings at $2.70 per share at the midpoint this year, pro forma earnings might improve to the $4 per share mark. Moreover, pro forma EBITDA is seen around $400-$450 million, with leverage seen up to nearly $800 million, but that is assuming the full earn-out to become reality.

Shares jumped from $19 to $24 overnight in July, adding over $130 million to the market valuation of the firm as the purchase price looked reasonable by all means. After trading at a high of $26 over the summer, shares have now settled around the $23 per share mark.

And Now?

The reality is that both the deal and the prospects for North American Construction Group Ltd. look quite enticing, but then again I have not forgotten about the cyclicality of the business and its shares in the past.

Given all this, I find it hard to chase the shares here, but on the other hand, I am very eager to learn more about the business and its performance. Given all this, I decide to place North American Construction Group Ltd. shares on my watch list, as I am anxious to learn more about the performance and the impact of the pending deal here.

For further details see: