Augean — Update 8 April 2016

Industrials

Augean

Positive dividend surprise a sign of confidence

Final results

Industrial support services

8 April 2016

Price	44.00p
Market cap	£45m

Net debt (£m) at 31 December 2015		4.3

Shares in issue	102.2m
Free float	99%
Code	AUG

Primary exchange	AIM
Secondary exchange	N/A

Share price performance

%	1m	3m	12m
Abs	2.3	(16.7)	(6.8)
Rel (local)	3.0	(18.7)	4.0

52-week high/low

61.50p

40.00p

Business description

Augean manages hazardous waste through a divisional structure of five businesses: Radioactive Waste Services (3% of group revenues), Energy & Construction (37%), Industry & Infrastructure (21%), Augean Integrated Services – AIS (11%) and Augean North Sea Services – ANSS (27%).

Next event

Interim results

October 2016

Analysts

Neil Basten	+44 (0)20 3077 5700
Roger Johnston	+44 (0)20 3077 5722

industrials@edisongroup.com

Edison profile page

Augean is a research client of Edison Investment Research Limited

Despite the challenging trading conditions affecting some of the divisions, the portfolio approach allowed all the group financial metrics to show double-digit growth. Good cash generation gives the group strategic options and has allowed a positive dividend surprise (+30%) reflecting the board’s confidence in Augean’s long-term prospects.

Year end	Revenue (£m)	PBT* (£m)	EPS* (p)	DPS (p)	P/E (x)	Yield (%)
12/14	55.2	5.38	4.13	0.50	10.6	1.1
12/15	61.0	6.03	4.65	0.65	9.5	1.5
12/16e	57.6	6.58	5.08	0.80	8.7	1.8
12/17e	59.4	7.41	5.73	1.00	7.7	2.3

Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments.

Delivering the strategy

Having put a revised strategy in place in 2014, Augean’s FY15 results were further evidence that the move to ‘market facing’ divisions has allowed the group to continue its positive momentum, with four divisions out of five showing progress despite the difficult background. All the financial KPIs were positive and we were encouraged in particular by the improvement in ROCE to 11.4%. With an increasingly strong balance sheet and significant financial firepower, the focus remains on creating long-term shareholder value, whether organically or via selective acquisitions.

2016 to be challenging but further progress expected

The group remains confident it can make further progress in 2016 despite highlighting its concerns over the continued weakness in Oil and Gas exploration and delays in nuclear decommissioning. This reflects management’s revised strategy of building sustainable market positions and broader, more resilient long-term income streams with Tier 1 contracts.

Valuation: Uncertainty creating an opportunity

The recent price weakness leaves the shares at a discount to our valuation range (49-77p) and in our view appears overdone, reflecting the uncertainty caused by the weak oil price and customer response to the updated Landfill Tax guidance on landfill volumes, rather than the strong underlying progress and prospects. With current trading in line with market expectations we are maintaining our 2016 forecasts, which anticipate another year of strong PBT and EPS growth. A FY16 P/E of 8.7x and an EV/EBITDA under 4.0x seems anomalous given Augean’s strategic position and growth prospects. An increasingly healthy balance sheet has allowed a significant increase in the dividend (+30%) and with financial firepower of £10-25m available, management continues to review a range of acquisition opportunities which should further enhance returns. A successful conclusion to this selective and patient approach is likely to be well received by shareholders.

FY15 results: In line with forecasts, dividend positive

Strong group performance helped by Energy and Construction

Augean reported strong progress in 2015 with all financial KPIs showing double-digit increases (revenue +11%, PBT +12%, EPS +13% and ROCE improving from 10.7% in FY14 to 11.4%). Previous statements indicated 2015 was not without its challenges and operational issues, but by building sustainable market positions, four out of the five divisions have shown progress and the strategic benefit of this portfolio approach across diverse markets has delivered a robust outcome.

Other notable features were the strong cash generation (92% cash conversion), which after the minority buyout of ANSS (£1.2m) allowed debt to be reduced from £5.7m in FY14 to £4.3m. Augean also announced a bank refinancing on better terms, with £30m debt facilities now in place to finance opportunities both organic and via acquisition and to accelerate its strategy. The dividend increase of 30% to 0.65p was a positive surprise and reflects a progressive policy, while demonstrating management’s confidence in the future and its strong strategic, operational and financial position. Below we outline the divisional performance in 2015 and the outlook for 2016.

Energy & Construction (37% of group revenues, 84% of group EBITA)

A strong divisional performance resulted in a 31% increase in total waste volumes to 434,000 tonnes, due mainly to a significant increase in the volume of construction waste as the sector continues its recovery. This translated into a 29% increase in divisional revenues; however, APCR (air pollution control residues) had a quieter year, with the lower construction gate fees and margin mix restricting the improvement in operating profits to £6.5m (+3%). The large increase in construction volumes led to an increase in capex to maintain and develop its landfill capacity.

The December 2015 update by HMRC of Landfill Tax guidance relating to certain types of contaminated soils has caused some short-term uncertainty in the market with the full effect on volumes sent to landfill still being assessed. However, management was already targeting a reduction in construction volumes to more normal levels in 2016. It is a key strategic objective in the short to medium term to target a number of APCR (air pollution control residues) contracts to support the growth in the Energy to Waste sector, which are higher margin and will provide a better balance to the business.

Radioactive Waste Services (3% of group revenues, 14% of group EBITA)

Despite a 26% reduction in volumes, RWS produced a credible 5% increase in revenues and a 9% improvement in operating profits to £1.1m due to a better price per tonne. The division has seen a temporary hiatus due to contract delays and lower volumes from the Nuclear Decommissioning Authority (NDA) and this is likely to continue into 2016 given revised government projections and the seasonality and timing of contracts. To offset this, throughout 2015 the business has sought to diversify its income streams with revenues from customers other than NDA increasing to 49% (31% in 2014). The long-term outlook remains encouraging with Augean assets key to the government’s radioactive waste strategy and the decommissioning is expected to pick up in 2017.

Industry & Infrastructure (21% of group revenues, loss making)

While the division remained loss-making (£0.7m) mainly due to performance issues at Avonmouth (a new management team is now in place), we note that the loss was reduced in the second half. As indicated previously, the reduction in drill cutting volumes at Port Clarence led to the decision to make a £2.9m ‘non cash’ impairment of the asset. Encouragingly, a number of new industrial service contracts have recently been won covering a broader range of support services and in our view this diversification is key to a turnaround in performance of this division.

Augean Integrated Services (8% of group revenues, loss making)

While the financial performance of the division remains slightly disappointing (revenues £6.0m +44%, loss £0.6m) management is encouraged by the strong order book momentum at Total Waste Management (TWM) and a more resilient operational performance by the East Kent incinerator. With many of the new TWM contracts starting in 2016 and lasting three years, utilisation should also improve at East Kent and we forecast a positive contribution in 2016.

Augean North Sea Services (27% of group revenues, 17% of group EBITA)

Against a deteriorating market background ANSS produced a robust performance, with a modest 2% increase in revenues and a 32% jump in operating profits to £1.3m. This mainly reflects a strong H1 and management flexing the variable cost base (68% op costs variable) to remain profitable as the year progressed. To offset lower drilling activity, ANSS has increasingly looked to diversify the business towards production waste and onshore industrial services. It has been awarded a number of new multi-year contracts with operators/tier 1 customers and these represented 89% of revenues in FY15. To support its operations in the Southern North Sea the group recently bought a site in Great Yarmouth. Given the current pain within the Oil and Gas industry, while we forecast a lower contribution from ANSS in FY16 we expect it to remain profitable due to its variable cost base, leaving it strategically well positioned for when the industry emerges from the downturn.

Financials: Positive start to 2016, forecasts unchanged

After a robust 2015, we were reassured by the company’s outlook that it has made a positive start to the current year and is trading in line with market expectations. Given the short-term pressures (oil price weakness, change in landfill tax guidance, delays in nuclear decommissioning) affecting some of the divisions, this positive start demonstrates the increasing resilience and visibility given by recent contract wins.

It is worth reiterating the group’s financial strength and the future strategic options this allows:

■

Strong operational cash flow and cash conversion has reduced debt to £4.3m. Assuming some capex on landfill capacity, we forecast debt to reduce again in 2016 and could move to net cash in 2017

■

With net debt below 0.4x EBITDA and new debt facilities of £30m, management has significant firepower (£10-25m) and continues to look for acquisitions but is selective and prepared to be patient.

■

As evidenced by the 2015 dividend of 0.65p (+30%) the Board has indicated a progressive dividend policy and with cover still over 7x scope for further increases. 2016e yield 1.8%.

We maintain our 2016 forecasts and introduce our 2017 forecasts (see Exhibit 1 and Exhibit 2).

Exhibit 1: Operating profits divisional mix, 2016/17 forecasts

Division (£m)	H1	H2	FY14	H1	H2	FY15	FY16e	FY17e
Energy & Construction	2.9	3.4	6.3	3	3.5	6.5	6.7	6.7
Radioactive Waste Services	0.7	0.3	1	0.8	0.3	1.1	0.7	1.0
Augean Integrated Services	-0.4	-0.3	-0.7	-0.4	-0.2	-0.6	0.3	0.6
Industry & Infrastructure	-0.5	-0.1	-0.6	-0.5	-0.2	-0.7	-0.4	0.0
Augean North Sea Services	0.3	0.7	1	1	0.3	1.3	0.9	0.9

Central costs	-0.2	-0.7	-0.9	-0.4	-0.5	-0.9	-1.0	-1.2
Operating profit	2.9	3.2	6.1	3.5	3.3	6.8	7.2	8.0
Interest	-0.4	-0.4	-0.8	-0.4	-0.4	-0.8	-0.6	-0.6
Profit before Tax	2.4	3	5.4	3.1	2.9	6	6.6	7.4

Source: Company accounts, Edison Investment Research

Exhibit 2: Financial summary

	£000	2013	2014	2015	2016e	2017e
31-December		IFRS	IFRS	IFRS	IFRS	IFRS
PROFIT & LOSS
Revenue		47,123	55,204	61,005	57,628	59,372
Cost of Sales		(31,368)	(38,852)	(42,592)	(39,016)	(39,439)
Gross Profit		15,755	16,352	18,413	18,612	19,933
EBITDA		8,906	10,033	12,056	12,890	14,212
Operating Profit (before amort. and except.)		6,235	6,146	6,820	7,193	8,035
Intangible Amortisation		0	0	0	0	0
Exceptionals		(6,250)	823	(3,508)	0	0
Operating Profit		(15)	6,969	3,312	7,193	8,035
Associated company		(13)	(5)	0	0	0
Exceptionals		0	0	0	0	0
Net Interest		(674)	(759)	(788)	(611)	(621)
Profit Before Tax (norm)		5,548	5,382	6,032	6,581	7,414
Profit Before Tax (IFRS)		(702)	6,205	2,524	6,581	7,414
Tax		(977)	(1,125)	(837)	(1,382)	(1,557)
Profit After Tax (norm)		4,571	4,257	5,195	5,199	5,857
Profit After Tax (IFRS)		(1,679)	5,080	1,687	5,199	5,857

Average Number of Shares Outstanding (m)		99.7	100.1	102.1	102.2	102.2
EPS - normalised (p)		4.48	4.13	4.65	5.08	5.73
EPS - normalised and fully diluted (p)		4.48	4.01	4.53	5.08	5.73
EPS - (IFRS) (p)		(1.79)	4.92	1.60	5.08	5.73
Dividend per share (p)		0.35	0.50	0.65	0.80	1.00

Gross Margin (%)		33.4	29.6	30.2	32.3	33.6
EBITDA Margin (%)		18.9	18.2	19.8	22.4	23.9
Operating Margin (before GW and except.) (%)		13.2	11.1	11.2	12.5	13.5

BALANCE SHEET
Fixed Assets		59,997	63,215	62,889	64,845	66,719
Intangible Assets		19,800	19,898	19,971	19,971	19,971
Tangible Assets		40,192	43,317	42,918	44,874	46,748
Investments		5	0	0	0	0
Current Assets		12,863	16,295	18,004	19,982	23,458
Stocks		296	410	306	289	298
Debtors		9,806	12,785	11,829	12,574	13,255
Cash		418	1,412	3,553	4,803	7,589
Other		2,343	1,688	2,316	2,316	2,316
Current Liabilities		(9,030)	(11,213)	(10,838)	(10,238)	(10,548)
Creditors		(9,030)	(11,213)	(10,838)	(10,238)	(10,548)
Short term borrowings		0	0	0	0	0
Long Term Liabilities		(15,876)	(14,542)	(15,657)	(15,810)	(16,015)
Long term borrowings		(8,909)	(7,124)	(7,818)	(7,818)	(7,818)
Other long term liabilities		(6,967)	(7,418)	(7,839)	(7,992)	(8,197)
Net Assets		47,954	53,755	54,398	58,779	63,614

CASH FLOW
Operating Cash Flow		5,862	9,416	12,348	11,562	13,832
Net Interest		(629)	(516)	(715)	(611)	(621)
Tax		(316)	(801)	(1,105)	(1,382)	(1,557)
Capex		(6,286)	(5,240)	(7,616)	(7,654)	(8,050)
Acquisitions/disposals		0	(300)	(1,050)	0	0
Financing		(757)	569	96	0	0
Dividends		(249)	(349)	(511)	(665)	(818)
Net Cash Flow		(2,375)	2,779	1,447	1,250	2,786
Opening net debt/(cash)		6,116	8,491	5,712	4,265	3,015
HP finance leases initiated		0	0	0	0	0
Other		0	0	0	0	0
Closing net debt/(cash)		8,491	5,712	4,265	3,015	229

Source: Company accounts, Edison Investment Research

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United Kingdom

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