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Mader Group (ASX: MAD)

Initiation Report – High Conviction Buy – 15th April 2024

Mader Group (ASX: MAD) provides contracted skilled labour to the mining and civil industries. Established in 2005, the company has over 3000 employees servicing over 400 customers at more than 460 locations globally.

MAD’s main game is maintenance, with broad expertise across heavy machinery, rail, road, vehicles, infrastructure, drill rigs, marine, power generation, electrical, and more. Other services include rapid response, technical support, spare parts, tool hire, cleaning services, shutdown teams and training.

Mader Group 1H24 Results Presentation

There are strong synergies across offerings. The company can provide tool hire, spare parts, and maintenance on drill rigs, excavators, trucks, crushing facilities, train cars and tracks for the same project. They can help a mine shut down and perform planned maintenance. The rapid response team can address unplanned equipment failure. They can also clean equipment and train plant operators.

Supplying all these services under one umbrella is a big benefit. Rather than coordinating maintenance, parts, and shutdowns across three to four different suppliers, a mine or civil operation can outsource that work to one supplier in Mader, who will take ownership of the project and manage all internal communication.

There are several reasons to like this business. Its growth rate is outstanding, with 30% pa growth over 10+ years. It also has an interesting cultural competitive advantage, which we will explore.

It’s also a founder-led business. If you’ve followed our reports for a while, you may have noticed that we value founder-led businesses.

That’s because the person who built the business from nothing to where it is today is still running things. They’ve proven their expertise in the industry, and there is reason to believe they can continue to deliver. They are also generally strongly shareholder-aligned, as they tend to own a big stake in the company.

Luke Mader – Executive Chairman and Founder (Source: Mader Group website)

The man in the above photo is Luke Mader. He founded the Mader Group and remains its Chairman. He has a 56% ownership stake in the business. He is certainly shareholder-aligned, and importantly, we know he’s a very effective leader and business builder.

The stellar job management has been doing at Mader can be seen in the ROIC and ROE. We’ve seen a consistent increase in operating efficiency. Mader has been able to do more with less as they get bigger, which is exactly what we want to see. In the last two years:

  • Return on Assets (ROA) has gone from 14.8% to 16.2%,
  • Return in Invested Capital (ROIC) has gone from 19.7% to 22.3%, and
  • Return on Equity has increased from 35.5% to 37.6%.

Mader’s Growth Drivers

Mader’s revenue growth hinges on three key factors:

  • Increased demand in existing and new customer acquisition within their current regions (Australia being a strong example).
  • Diversifying their services in established regions to include areas like ancillary services and infrastructure maintenance, complementing their core mechanical maintenance offerings.
  • Expanding geographically into new markets that align with their expertise, like North America.

These are the factors driving growth in Mader’s target market:

  • Total commodity/mineral production, where more production translates to more machinery requiring maintenance.
  • The average age of existing machinery as older machinery needs more upkeep.
  • The growing trend of outsourcing equipment maintenance by mining, energy, and industrial companies.

High Capex Indicates High Growth

While Mader operates globally, Australia and North America (USA and Canada) are its two biggest markets. They have made significant inroads in Australia – currently engaged by over 320 customers and accounting for about 75% of the total revenues. Revenue in the region continues to grow in the 25-30% range, indicating a large addressable market.

The North American market is bigger than Australia. Mader has recently begun penetrating the region and as such, growth numbers are over 50%. The most recent report shows that about 25% of overall revenue comes from North America and is generated by over 80 customers. The North American mining industry is significantly larger than Australia’s, and we can expect Mader’s revenues from the region to eclipse Australian revenues in the long term. However, the business and growth strategy requires growth capital, and we are seeing continuous investment in capex.

Growth in North America is also typically more expensive than in Australia – due to higher levels of competition and increased costs. For instance, when Mader signs up a new customer and has to provide skilled labour, additional service vehicles must be purchased to serve the new customer. In past earnings calls, CEO Justin Nuich has gone on to say that capex in North America is higher due to the need to purchase bigger vehicles. A Toyota Hilux would suffice in Australia, but in America, Mader requires vehicles such as the Ford F-550 or Dodge RAM, costing about 1.5x to 2x more.

But this additional capex is offset by a higher market size, the ability to generate higher contract values from each client, and ultimately higher earnings margins. In anticipation of the growth ahead, Mader has been ramping up capex investment. In the last 3 years, capex was $11 million, $39 million, and $48 million. In 1H24, Mader invested $19.5 million, and we can continue to expect such investments. While high capex reduces cash flows, it indicates a huge market size. Mader is certainly in growth mode, and markets are focused on the company’s ability to drive revenue growth rather than its ability to convert it into high cash flow.

1H24 Results Show the strategy is working

There was strong growth during 1H24, synonymous with prior periods. Revenue was 34% higher at $374.4 million compared to 1H23. EBITDA rose 43% to $48.5 million, while the bottom-line NPAT figure rose 38% to $24.2 million.

The bulk of revenue came from Australia, with $275.1 million up 26% from $218.5 million. However, North American revenue showed the most impressive growth, with $94.2 million, up 64% from $57.3 million. The rest of the world delivered just $5.1 million, up from $4.5 million.

First half EPS increased 38% to 12.12 cents. The 3.80 cent dividend was a 58% increase but still represents a conservative payout ratio of 31% of EPS.

Since the company is strongly reinvesting in growth, we don’t see this payout ratio increasing in the short term unless growth opportunities dry up. But that seems very unlikely. Right now, Mader has plenty of growth pathways, and the tricky part is prioritising focus. That said, with revenues and earnings growing substantially year-on-year, we can expect dividends to continue growing.

Debt Reduction

Mader’s net debt position closed the half-year at $35.3m, a reduction from $42.7m at 30 June 2023. This is a 17% decrease from FY23 and reflects the Group’s continued cash flow conversion strength, which is underpinned by robust working capital management.

The Group is now targeting a positive net cash position over the medium term whilst maintaining strong ongoing growth and a dividend payout ratio of approximately one-third of NPAT.

During the half-year, Mader successfully renegotiated and renewed its long-term finance facilities within Australia. Renewing these facilities expanded the tenure of its working capital facility to support continued growth.

Outlook & Valuation

In the FY23 results release, the company gave guidance for FY24.

Revenue is expected at $770 million with an NPAT of $50+ million.

For context, FY23 delivered revenue of $608.8 million and NPAT of $38.5 million. So that’s a 26% revenue growth and 30% + NPAT growth on FY23.

Source: Mader Group Euroz Hartley’s Presentation

There’s every reason to think this is achievable.

FY22 revenue grew an impressive 32%, with a 45% increase in NPAT. The pace increased in FY23, with 51% revenue growth and NPAT rising 38%. The company upgraded its FY23 guidance twice before coming in well above its third and highest guidance.

Growth has been roughly 30% over the last 10 years, and MAD expects this pace to continue.

Growth is expected on all fronts. The core business in Australia will likely continue to grow at a solid pace, and contribute the bulk of the gain. However, the North American division has shown bigger percentage gains from a lower starting point.

If the North American operation can deliver growth similar to FY23, the current guidance would be far too low. It’s very hard to predict the continuation of such explosive growth. However, if we just extrapolated the growth in FY23 to FY24, revenue would come in at roughly $1 billion.

The company is targeting $1 billion in annual revenue by FY26, which is achievable. If the North American business accelerates in growth instead of slowing down, we could be looking at well over that figure.

That’s not to say that this is the most likely outcome. We are just sanity-testing the company’s own guidance, and in light of recent growth, it looks conservative and very achievable.

Four analysts currently cover Mader. For FY24, consensus estimates are in line with the company’s guidance.

For FY25, consensus revenue is $921 million, an increase of 19.5% on the FY24 guidance. EPS is estimated at 31 cents, an increase of 24%. For FY26, revenue is forecasted to rise by 11.8% to $1029 million, and EPS is up 16.1% to 36 cents.

Analysts expect the growth in the business to slow. That may be fair enough.

We think these estimates are conservative. As we said, Mader has been growing its revenues at a CAGR of 30% in the last 10 years. They are now penetrating the largest market in the world and have significantly ramped up capex. Our base case scenario saw the company continuing to grow top-line at 30%. There are signs of early success in the USA, and the company is effortlessly taking market share. And let’s keep in mind that the market opportunity in the US is much bigger than in Australia. So, while the future is uncertain, the possibility of the company strongly outperforming current expectations is real.

If consensus estimates are realised, Mader will have a forward PE of 24x for FY24, 19x for FY25, and 17x for FY26. Given the growth runway, we think these are conservative numbers and expect a rerating as Mader shows more evidence of penetration in North America.

Recommendation

Mader Group is a quickly growing mining services player that differentiates itself by having a strong culture. This allows them to attract and retain a talented, motivated workforce with strong global mobility.

The business is differentiated across various customers, sectors, and applications. This reduces the risk of a specific industry downturn harming its profitability too extensively. While mining may experience a slowdown, particularly in certain commodities, there will always be a large pool of operating mines for Mader to service.

Additionally, as certain commodities experience downturns, others will become popular. So, while the writing might be on the wall for thermal coal, demand for copper and lithium will only increase. While the materials might differ, the tools used to extract and process the ore are largely the same. It requires diesel trucks, excavators, drill rigs, rail lines and locomotives, roads, and other infrastructure.

Mader has broken into the large and lucrative North American market, and they are only getting started there. The opportunity is much bigger than the Australian market, where MAD has already delivered big wins.

We see no reason for this massive success story to slow down anytime soon, especially with a highly aligned and successful founder who’s already delivered the strong results the company has achieved so far.

We recommend a ‘Buy’ for Mader Group (ASX: MAD) up to $7.00 and sell above $11.40.

Mader has already had an impressive run-up from a low of 62 cents in 2020 to a high of $7.98 in late August 2023. Since all-time highs were reached, there has been a broad sideways consolidation. However, we know this company can deliver good guidance beats, so there’s just as much upside potential.

We are happy to be going long here, as the overall story is so compelling that we are happy to take on the risk of any potential short-term volatility.

The current consolidation shouldn’t last long. Our bet is that the next big move will happen on the FY24 earnings release, particularly if the markets receive more evidence of penetration in the USA, and we want to be positioned for a potential upside breakout.

Source: TradingView / Shares in Value

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