2023-09-06 09:02:15 ET
Summary
- NV5 Global, Inc.'s financial metrics are a little on the lower side but at the midpoint of the sector.
- The company is strong financially, however, the revenue guidance keeps my assumptions on the conservative side.
- I would like to see the company's revenue growth reaccelerate once again and for the company to stop diluting its shareholders.
Investment Thesis
I will go over NV5 Global, Inc.’s ( NVEE ) financials to see whether the pullback YTD is a good time to invest in the company. The company is running smoothly, however, the financial metrics aren’t up to my standards in terms of efficiency and profitability, so for this reason, I would like a further pullback in the shares to match my risk/reward profile.
The Company
NV5 Global is a provider of technology and consulting services to private and public sector clients, and it covers a range of different areas, from infrastructure, utility services, construction, real estate, and geospatial markets. The company works with many clients in the Airports, military, commercial spaces like zoos and stadiums, healthcare, education and public institutions, transportation, government, and water. The company has three reportable segments: Infrastructure, which includes engineering, utilities, testing, and QA. Building, Technology and Sciences Segment, which includes clean energy consulting, environmental health sciences, buildings and program management, and Geospatial Solutions. Around two-thirds of the company's total revenues come from public and quasi-public sectors.
Financials
As of Q2 ’23 , the company had around $28.8m in cash, against around $206m in long-term debt from its credit facility. This number has ballooned quite considerably from the end of FY22; however, I do not think the leverage is bad. If the company manages interest expenses, then it is free to use the debt smartly. The company’s historic interest coverage ratio has been really strong in the past and if we estimate around $10m in interest expenses for FY23, the coverage ratio according to my estimates is still somewhere around 11x, meaning the EBIT can cover the debt interest 11 times over. For reference, 2x is considered healthy, but I always look for at least 5x. I think it is safe to say NVEE has no insolvency risks.
The company’s current ratio has been within my range of 1.5-2.0. This range in my opinion is the most efficient ratio because it tells me that the company is not hoarding cash, which could be used to expand its operations and further the growth of the company, and it also means that the company can easily pay off its short-term obligations. Anything over that range I consider inefficient.
Speaking of efficiency and profitability, the company’s ROA and ROE have been very steady at around 5% for ROA, which is my minimum acceptable rate, and around 7%-8% for ROE, which is a little under my 10% minimum. This doesn’t necessarily mean that these are bad metrics. If we look at some similar companies, we can see that ROA and ROE are around the mid-point of the competition, so it is sector-wide to be slightly on the lower end of returns.
A similar story can be seen in the company's return on capital, which also sits around the mid-point of the competition, meaning it does have some competitive advantage and a moat, however, it's not the best out there compared to some competition, as CRA International ( CRAI ) is taking the top place in all three metrics.
In terms of revenue growth, the company saw ~31% CAGR over the last decade, which is fantastic growth. This growth can be attributed to organic growth as well as to acquisitions over the years. in the past 2 years, revenue growth slowed down to 7% in FY21 and 11% in FY22. The management is also guiding for around 13% growth in FY23, which isn't bad, however, it is a far cry from its 10-year average, so, I’ll have to be conservative in my assumptions later.
In terms of margins, the company has held similar margins over the last while, with slight dips at the end of FY22. As of Q2 ’23, NVEE gross margins expanded to around 50.6%, while operating margins sit at around 7.2%, which is slightly below FY22’s numbers. The increase in operating expenses can be attributed to the increase in payroll costs, which was driven by an increase in employees compared to last year.
The company has also been diluting its shareholders quite a bit in the last 10 years, which is not ideal. I would like to see the company buying back shares at a reasonable price instead of diluting the value of each investor. The number of shares increased 285% in the last decade, which isn’t what I am looking for.
Overall, the company seems to be running decently over the years. It is making a lot of cash from operations, not in any trouble of insolvency, and about in the middle of profitability metrics. I was a little disappointed with the revenue growth over the last 2 years, and the guidance of 13% isn’t outstanding either. If the company manages to return to around 20% for the next couple of years, then I would be more interested in the company. Also, the dilution of investors isn’t ideal either, especially when the share price has come down YTD by about 21%.
Valuation
As I mentioned earlier, the company saw fantastic historical revenue growth over the last decade, around 31% CAGR. However, I cannot assume that the company is going to continue on that trajectory for the next decade, especially when the management guided around 13% for FY23, which is much smaller than the average. It is going to be harder for the company to grow as it is not as small as it used to be. So, for my base case scenario, I went with around 8% CAGR for the next decade. For the optimistic case, I went with around 12% CAGR, while for the conservative case, I went with around 6% CAGR.
In terms of margins, I decided to improve gross by around 300 bps from FY22 to FY32, and operating margins by around 300 bps or 3% also. This will bring net margins from around 6% in FY22 to around 11% by FY32, which seems reasonable to me.
On top of these estimates, I will add a 25% margin of safety for extra breathing room and to be more conservative. With that said, the company's intrinsic value is around $70.71 a share, implying a 29% downside from current valuations.
Closing Comments
I would be willing to pay around $70 a share for how the company is operating currently, with such expectations built in. It is hard to be too optimistic about the company’s revenue growth potential because it guided quite weakly in my opinion compared to its historic growth, so, I have to be on the more conservative side, and I would require a little extra cushion of safety if I was to jump in with my money. I believe that around $70 a share, the company is a very attractive investment, which reflects my desired risk/reward profile.
If the company can prove that it can grow at a much faster pace than what I assumed, I will adjust my model accordingly and see how much the company is worth to me then. If the company can win more contracts over time and keep its backlog healthy, the company may be a good investment for the long haul, however, right now, I will be conservative and wait and see how the rest of the year unfolds. I will be setting a price alert around my PT and will come back now and again to see what kind of numbers and guidance the management will report in the future.
For further details see:
NV5 Global: Slightly Too Pricey For A New Investor