Downer is an acceptable quality services company. Margins are typically low, but contracts are long dated, usually not overly complex, cost + type structures (carrying little “existential risk” from complex engineering projects on a fixed price lump sum basis) with some modest inflation protection from periodic resets.
Those general predictable revenue streams are not especially capital intensive, and as such DOW tends to produce quite good free cashflows.
However, they aren’t totally immune from higher wage pressures, and DOW is a labour intensive business, something that management drew attention to at the call.
They’ve also been affected by COVID, as workers isolate, projects get put on hold, and partners (as DOW works collaboratively with clients) who have also had staffing shortages, which has a downstream impact on Downer.
Skipping to the punch line, the DOW results outlook statement is quite underwhelming, and vague for this stage of the pandemic.
It also appears to be a sizeable miss to consensus.
The stock had traded (over the past year) quite well, often held out as a market favoured industrial. We’d viewed the stock as somewhat expensive, given the generally average quality, and modest operating leverage, and noted the stock had been derating ahead of the result, putting back on our radar.
Certainly, relative to DOW’s history, the stock isn’t all that cheap, although in absolute terms the yield is not unattractive, and relative to a) the broader industrials sector and b) the broader benchmark, is reasonably priced.
The balance sheet is also in good shape, with recent divestitures set to take gearing down to 19%.
We’d suggest it will trade quite weakly today, based on the seeming miss to consensus.
[EDIT – it did initially trade weakly, but recovered to trade only slightly down. That suggests the market had in mind more pronounced COVID impacts, and more pronounced wage inflation, than the actual outcome].
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