Intertek has announced the acquisition of SAI Global Assurance for A$855m cash. The deal will be financed from new debt facilities, and values SAI at around 15.5 times forecast cash profits (EBITDA) for the year to June 2021.
SAI expects to report A$240m of revenue in the year to June 2021, with a cash profit margin of 23%. Intertek hopes to improve margins by 3 percentage points over three years, and expects return on invested capital to exceed cost of capital after 5 years.
The shares rose 1.9% in early trading.
Intertek makes most of its money testing and certifying the quality of products and components - everything from children's toys to huge components on oil rigs.
Exposure to natural resources, global trade flows and manufacturing have all been headwinds over the last year - as coronavirus wracked the global economy. However, we think Intertek's diverse offering and global customer base has shown remarkable resilience all things considered. Riding the global regulation wave remains a good place to be.
Safety checks across industries were already getting tighter and the pandemic is likely to amplify this. With services to help companies prove they comply with new requirements, Intertek is well positioned to help.
The part of the business geared towards natural resources tends to be more cyclical. Yet despite the severity of the latest oil price crash, revenues fell less than 10% in 2020. The Minerals business in particular benefitted from a surge in commodity prices which has supported global mining groups and looks set to continue.
Over the longer term the group's strategy calls for a shift towards higher-growth, higher-margin businesses - such as ESG related monitoring and quality assurance. That probably explains why the group has decided to splash the cash on a significant assurance acquisition.
Assurance is an attractive business, showing good growth, high margins and low capital requirements - so you can see why Intertek is looking for a bigger slice of the pie. However, the SAI deal comes with a hefty price tag. 15.5 times forecast cash profits (EBITDA) is not far off what Intertek's own shares trade at right now - and that's close to an all-time high. A$855m in new debt also doubles the amount of debt on the balance sheet.
The group hopes to improve margins to boost profitability, but it will still take years for the deal to break even. If the group can capture a sufficient share of the growing assurance industry that won't matter - but large deals at high prices are risky, and integrating businesses is rarely as straight forward as management hope.
Overall, we think Intertek has proven its resilience in 2020 as a diverse and operationally sound business. We do have some concerns about the SAI deal, but for now are prepared to give management the benefit of the doubt. A price to earnings ratio that's some way above the long run average might not reflect that headwind, but it's the price you pay for what we view as high quality businesses in the current market.
Intertek key facts
- Price/Earnings ratio: 29.5
- Ten year average Price/Earnings ratio: 21.8
- Prospective dividend yield (next 12 months): 1.9%
All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.
Full Year Results (2 March 2021)
Full year revenues fell 6.7% at constant exchange rates, to £2.7bn. Declines were spread across all three operating units, but Trade was hit particularly hard. Underlying operating profits fell 17% to £427.7m, better than expected.
The group announced a final dividend of 71.6p, taking the full year total dividend to 105.8p per share - in line with 2019.
The Products division reported a 5.7% decline in revenue to £1.7bn, with underlying operating profits down 12.4% to £351.6m. Performance improved in the second half as demand for Assurance, Testing, Inspection and Certification (ATIC) services increased, although lockdowns in Western Europe and North American continued to negatively impact results.
Trade saw sales fall 9.9% to £592.6m, with underlying operating profits falling 42.6% to £47.1m. The Government & Trade Services segment was hit particularly hard as Chinese manufacturing activity was disrupted and lockdowns in the Middle East and Africa affected cross border trade flows.
The Resources business saw revenues fall 6.3% to £467.5m, with underlying operating profits down 8.2% to £29.0m. That reflects reduced exploration and production investment by commodity groups, as well as fewer operational inspections, partially offset by a strong performance in the mining sector.
The group spent £79.8m on capital expenditure in the year, down 31.7% year-on-year, with no acquisitions in the year. As a result free cash flow rose 9.4% to £415.7m.
Net debt (excluding leases) fell from £629.4m a year ago to £419.9m.
For 2021 Intertek expects to deliver good like-for-like growth, and margin improvements, with capital expenditure of between £110m and £120m and to finish the year with net debt of £350m-£400m.
This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.
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