Ashtead Group: Improved Business Guarantees Higher Valuation (OTCMKTS:ASHTY)
Following a successful third quarter of 2023, Ashtead Group plc (OTCPK:ASHTY) raised its guidance for FY23 investments and revenue growth. While growth in both revenue and profit was widely expected, the FY24 investment guide was quite surprising , suggesting that a Sales run rate before the permanent consensus. This, in turn, will likely result in an upgrade in consensus earnings estimates for FY24, in my view. What I found most interesting and encouraging was that management reiterated its optimism about the company’s performance for the coming quarters. That gives me hope, because in the previous quarters I had doubts about the longevity of growth, despite the strong growth. For FY24, it’s encouraging to hear that a growing fleet, favorable interest rates, and contributions from mergers and acquisitions should all help meet or exceed targets set for the year.
After reviewing the results of 3Q23, I’m even more convinced than before that ASHTY is a superior company. I think ASHTY is less cyclical now and has higher margins and a better cash flow profile than in the past. Essentially, it’s easier to invest in ASHTY stocks today than it was in the past. In particular, I think ASHTY’s rapid growth period is probably over.
More significantly, however, the business is far less dependent on market cycles. I think ASHTY can sustain its growth in the current market while keeping its margins and returns healthy and expanding its free cash flow. Most importantly, in my opinion, ASHTY has shown much greater resilience than previous down cycles, with improvements in today’s business model. From a valuation perspective, a higher multiple is justified by the fact that ASHTY’s growth is now more predictable, earnings stronger and less cyclical. That being said, I think ASHTY will continue to perform in FY24 and the market should reassess the stock as a result.
Strong US market
It’s fantastic to hear that the strong performance of the 3Q call has been consistent across regions and service offerings. Despite the favorable supply-demand ratio, however, supply bottlenecks, inflation and a shortage of skilled workers remain an issue. Perhaps most importantly, and this ties into the point I made earlier about a more effective business model in this market, ASHTY is still gaining market share.
In all of this, the most important thing to remember is that the market is undergoing fundamental changes, with rental penetration increasing in favor of a handful of dominant players like ASHTY. In my opinion, ASHTY should use this time to its advantage by streamlining its operations and consolidating as much market share as possible so that it is better prepared to compete for market share when the economy improves. In terms of pricing, management expects rate increases to continue across the industry in FY24.
As for US construction, both the Dodge Momentum Index and the number of new construction projects are still at robust levels. Investors should note that factors such as reshoring and federal spending laws have significantly decoupled the non-residential cycle from the residential cycle. Management also noted that future market demand would be robust based on the already known and forecast construction volume. Because of this, I believe ASHTY will benefit from this for some time to come.
New EQ lead time
The bad news is that the CAPEX guide does not suggest increased device availability. Lead times are still extremely long and restrictions are not easing. However, management found that the bigger and smarter players are securing a bigger share of the equipment by aligning with the OEMs at an earlier stage.
FY23 & ’24 Guide
U.S. rental income increased 27% in the third quarter, driven by high occupancy rates and rising rates for rental vehicles. As a result, management has raised its rental income growth forecast for FY23 to 23-25% from 20-23% and is confident that this positive trend will continue in the near future. Despite the dilutive effect of greenfield additions and ongoing M&A, Q3 saw solid improvement in EBITDA, which is also encouraging. Management has expressed confidence in continued growth in FY24.
The new FY24 guidance of $4.0 billion to $4.4 billion in gross capital expenditures and projected rental income growth is significantly higher than previously anticipated by the market. I expect stronger rental growth and high incremental margins to continue fueling the upside in ASHTY’s earnings. Supply bottlenecks, inflation and skills shortages are likely to continue to crowd out smaller players and benefit large service providers like ASHTY.
Third quarter 23 results for Ashtead Group plc were impressive, with an upgraded FY23 revenue growth forecast and a surprise FY24 investment guide, indicating a revenue growth rate above consensus. Management’s optimism about performance for the coming quarters is also encouraging. Importantly, ASHTY’s less cyclical nature, higher margins, and better cash flow profile make it a superior company today than it was in the past.
While Ashtead Group plc may have ended its period of rapid growth, the company’s increased predictability and resilience in down cycles justifies the current elevated valuation multiple (compared to the past). Overall, I believe Ashtead Group plc’s strong performance in the current market combined with its promising prospects for the future makes it an attractive investment.
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