Thursday 27 August 2015 by Alen Golubovic Company updates

Emeco – weak FY15 result and increasing credit pressure

Emeco’s FY15 result reflects the challenging conditions faced in mining equipment hire sector. While revenues were broadly in line with FY14, EBITDA fell by 36% reflecting increasing margin pressure but also a very weak 1H15 result. Resultant financial leverage (net debt / EBITDA) is up to 9.5 times which is considered very high

Figure 1 below shows Emeco’s full year financial performance. While revenues were broadly in line with FY14 and fleet utilisation improved (currently 74% versus 50% at 30 June 2014), EBITDA and profits were impacted by a weak first half and continuing margin pressure. EBITDA margins impacted by $14.1m in one-off costs relating to preparing machines for rent which were idle during prior periods and relocating fleet. EBIT margins were further impacted by an increase in depreciation resulting from higher utilisation and a change in depreciation policy on idle fleet

The FY15 free cash outflow of $18.5m was driven by reduced earnings, capital expenditure required to return idle fleet back to rent and a small number of asset additions required to replace end of life units rented to existing customers.

Emeco FY15 financial performance

A$million FY14 FY15
Revenue 241.1 242.8
EBITDA 67.3 43.4
EBIT (10.9) (59.2)
 NPAT (21.6) (94.9) 
 Statutory NPAT (123.1) (224.2) 
 Free cashflow 85.9  (18.5) 

Figure 1
Source: FIIG Securities, Emeco

On a relatively positive note, Figure 2 below shows that the second half of FY15 was an improved result over 1H15. 2H15 revenues were up 12.5% to $132.3m while EBITDA was down 10% to $27.2m.

Emeco half-yearly performance breakdown

Emeco half-yearly performance breakdown
Figure 2
Source: Emeco

The written down value (WDV) of assets fell to $496m versus a net debt position $413.9m as reflected in Figure 3 below. Of this, $367m of asset value relates to owned fleet while the remainder is under operating lease or finance lease.

Sustaining capital expenditure was up in FY15 due to required spending to return idle fleet back to rent. $24.8m in cash was generated from asset disposals in FY15 despite the difficult second hand market, and $32.3m of non-current assets are classified as held for sale recognised at 30 June 2015, scheduled for disposal over FY16.

Fleet additions have been funded by a mix of cash purchases for replacement assets on existing contract sites and operating leases to source non-core assets required to secure recent contract wins.

Emeco rental fleet and net capex FY15
Figure 3
Source: Emeco

With a FY15 net debt / EBITDA ratio of 9.5 times Emeco’s financial leverage is excessively high. Given the current outlook it would be difficult to see the Emeco senior secured bonds being fully refinanced without some form of equity capital injection or a recovery in earnings (which seems less likely in the near term). We do however note that two institutional investors, First Samuel and Black Crane (an Asian hedge fund) have increased their shareholding to about ~30% and have progressively increased their ownership of Emeco shares over this year.

If conditions continue to remain challenging between now and the bond maturity date in 2019, at some stage Emeco will need to consider a recapitalisation or debt restructure to avoid a default on the bonds. We do not believe this is imminently required with the company having $27.8m of cash on hand but if FY16 proves to be the same as FY15 then we believe that action will be required over FY17 to manage the high financial leverage in the business. With utilisation levels up to 74% it would be difficult to see many further material asset sales occurring while equipment is largely in use.

We reiterate the Emeco bonds are senior secured and there is no other debt outstanding with the exception of finance leases. Based on the FY15 asset value, 89% of net debt ($367m / $413.9m) is covered by Emeco wholly-owned assets based on the balance sheet WDV. Over time this level of asset coverage is expected to deteriorate in the absence of debt reduction as asset values depreciate. In addition there is no certainty that current WDV is an adequate representation of market value in a liquidation scenario, and some haircut to WDV would need to be applied to determine a liquidation value.

In addition, the previous managing director has stood down and has been replaced by the chief operating officer. We believe the management change was driven by the failed Rentco and Orionstone corporate activities. A change in management with a more operational focus could change Emeco’s fortunes but only the passage of time will tell us.

Please contact your FIIG representative for more information on the Emeco bond.

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