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Energy Action (ASX:EAX) Improving: FY 2018 Annual Results

Claude Walker — Fri, 17 Aug 2018 04:10:08 +0000

Author: Mark Susanto

The CEO of Energy Action (ASX:EAX), Ivan Slavich, continued to put runs on the board in 2018. The energy management consultancy reported the following, yesterday:

Operating NPAT up 3% to $2.6m

Statutory NPAT up 46% to $2.6m

EBITDA up 21% to $5.7mOperating cash flow up by 92% to $6.9m

Revenue decreased by 5% to $31.2m

Net debt reduced by $3.1m to $3.8m

Fully franked dividend of 4c

A Turnaround Story

The turnaround story here is not too uncommon. Energy Action once had a nice little business which was capital light and high margin. Under the old management, the business committed major unforced errors; ‘di-worsification’, neglecting their existing technology, and taking on too much debt. Theirs was a misguided strategy, as we publicly and correctly predicted it would be.

Cue the new management, who do some things right, such as keeping costs under control, marketing their existing business and not acquiring low margin projects businesses.

Keeping costs down is doubly important because they are not experiencing top line growth in most of their businesses. We can see this when we drill down on the main segments. You can see the revenue of each segment, in the chart below:

The Procurement segment

Energy Action helps their client purchase energy through structured products, tenders and the AEX auction. Revenue grew by 15% to $9.3m for the year. Their number of AEX auctions was largely flat, while the number of electricity tenders grew by 18% and gas tenders declined by 22% due to tightness in the market

Contract management and reporting segment

In this segment the company provides services for bill validation and network tariff review. Revenue declined by 9% to $15.1m for 2018. Sites under management has declined due to the loss of a a large, yet low margin contract for 3,100 sites.

Project and advisory services (PAS) segment

Here, the company provides energy project and consulting work for buildings and organisations. Revenue declined by 15% to $6.6m in the last year. There was an active decision here to focus on higher margin consulting work and move away from lower margin supply & install project work.

Despite the top line decreasing by 5%, EAX has increased its margins due to tight control on costs and the move away from low margin project work. Management has said that they will continue to reduce costs through Business Process Outsourcing (BPO) and automation.

The cash generating capability of the business was in full show in this report -- this was the first time they have had positive free cashflow to firm (FCFF) in several years. Without any more deferred consideration payments from past acquisitions weighing on its books, Energy Action has drastically improved its conversion of EBITDA (earnings before interest, tax, depreciation, amortisation) to cashflow. , Indeed, it boasted an EBITDA to cash conversion of 121%.

Another nice thing is that there are no further “one-off” costs that plagued the statutory profit in the years prior to Mr Slavich’s tenure. You can see this in the chart, below. The yellow is the statutory profit, the blue is the profit excluding certain very real costs.

This is not to say that there hasn’t been any restructuring this year. In fact, the company restructured their sales business into a regional sales model, created a product manager role for Energy Metrics, and moved the PAS business to a consultancy arm under a new general manager.

At the current price of 86 cents, I think the stock appears cheap on the following ratios;

However, there are a few things to watch out for. The biggest problem is the lack of revenue growth.

The procurement business, which is the only business that experienced revenue growth this year has done so on the back of average $/MWh doubling over the past 4 years. This is while the number of successful AEX auctions has declined by ~30% over the same time period. If the price of electricity declines significantly in the next few years, I would expect their business to be impacted.

In the contract management business we consider the sites under contract with Energy Metrics to be a key metric, because these services earn higher margins. The number of sites served by Energy Metrics has dropped about 16% over the past 4 years. This was on top of the aforementioned loss of significant contract on the lower margin software.

One concern I have is that the slowing sales may be reflective of some structural headwind that I haven’t managed to identify. If that’s the case, the business could struggle to improve, even once the ship is in order.

Management clearly sees these challenges and they are tackling them head on. Their focus for 2019 is to increase revenue. They will refresh Energy Metrics and develop new procurement products & services. These efforts may mean an increased level of capital expenditure, especially in terms of software development. You can see how spending on software has been increasing, below:

Finally, on 6 August, management flagged a strategic review to consider “various strategic options available to the Company to maximise value for its shareholders…[including] the potential sale, joint venture or merger of the Company with or to another organisation.” They expect this to be done in 6-12 months’ time.

I believe the company is an interesting investment proposition.

Claude tells me he is disappointed to read about the strategic review, since he thinks it is a waste of money. However, he is pleased with how current management are addressing the challenges facing the company, and he will continue to hold his shares.

The author, Mark Susanto owns shares in Energy Action and will be holding for the time being. He may sell in the future if something better comes along but will not sell for at least 2 full trading days following the publication of this article.

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Disclosure: Claude Walker and Mark Susanto owns shares in Energy Action. This article contains general investment advice only (under AFSL 501223). Authorised by Claude Walker.

How Energy Action Limited (ASX:EAX) has lost its way

Claude Walker — Tue, 19 Aug 2014 01:07:02 +0000

Energy Action is undergoing a transition from a business with a competitive advantage, high margins and high recurring revenue to an acquisitive machine with lower margins and less recurring revenue and a gradually reducing competitive advantage, as well as higher working capital needs. I have sold my Energy Action shares on open and (as I stated here, just before market open) I have removed them from the Hypothetical Ethical portfolio.

Energy Action Limited (ASX:EAX) was one of my oldest shareholdings. It is a company that provides a reverse auction platform for procuring gas and electricity, software as a service to monitor electricity use, and energy efficiency solutions for organisations wishing to cut down on energy use.

When I first bought shares in the company it was run largely by the founders, who oversaw several years of rapid growth. However, there has been somewhat of a changing-of-the-guard in recent years, and, worryingly, an increased focus on the contract based, lower margin energy efficiency solutions business. That used to be called Activ8+, then it was rebranded (at some expense I believe) to Sustainability Solutions, and now it is referred to as "Projects & Advisory Services" and operates a few different brands. This is a bad business to be in as it is specifically targeted by conservative governments who want to do the bidding of the fossil fuel companies that benefit from inefficient use of energy such as Origin Energy Limited (ASX: ORG). These companies are in direct conflict with Energy Action, any way you look at it.

Having worked in the solar and energy efficiency industries, and having studied them extensively, I can tell you that as a shareholder this move was somewhat concerning. The bad taste in my mouth was compounded by the fact that it literally took weeks for management to get back to me when I had some queries. I duly sold down most of my holding late last year.

Energy Action released disappointing full year results today, confirming management is not of sufficient quality

Employee expenses increased by $2.6 million, even accounting for $300,000 of the acquisition cost of Exergy that counted as "employee expense." Revenue increased by $3.7 million, so revenue growth is low margin revenue growth, even before you consider the fact that the acquired businesses have much higher working capital needs.

The huge 82% increase in cost of goods sold reflects the shift from low working capital SaaS and auction platform business to high working capital "Projects & Advisory Services" business.

What's more, these results don't even reflect a full year of contribution from Exergy, or any contribution from EnergyAdvice [sic] which was announced today, presumably as a result of pure coincidence rather than the hope that it would obscure disappointing results. Keep in mind the acquisitions, particularly Exergy, are what bring the high employee expenses and the high working capital needs. What a lemon.

Most damningly, the number of AEX sites under auction actually decreased, despite the fact that the company has obviously acquired a bunch of smaller customers. This is of key importance for two reasons:

1) It shows that in expanding the unpredictable and low margin Projects & Advisory Services, the company has neglected its most important competitive advantage - a strong auction platform, and;

2) That growth in the recurring revenue, high margin Activ8 "Contract Management" division will not benefit from a greater number of auction sites. In the past, convincing owners of auction sites to use the Activ8 services has been a key way of winning sales. That pool of potential customers hasn't grown.

As regular readers will know, I originally invested in Energy Action because the AEX reverse auction platform was a great offering that could attract customers to the high margin Activ8 monitoring service. I was always a little skeptical of the Sustainability Solutions/Activ8+/Projects & Advisory Services division because it is contract based, liable to be shut down by government regulation (or lack of incentives) and it requires much higher working capital, which eats into free cash flow generated by the other business lines.

One question remaining shareholders might want to ask is why the dividend was cut if the "underlying profit" was essentially flat. My bet is that the company wants to conserve as much capital as possible so it can continue to make acquisitions that boost EPS, whether or not they represent an attractive return on invested capital. That's because management is remunerated largely on EPS. Keep in mind that's the same kind of remuneration package that lead to the demise of Forge Group. And we undoubtedly paid consultants for that. Any company with cash can boost earnings per share by simply spending the cash on a business that returns better than whatever measly interest they were receiving. As shareholders, we'd be better off if Scott bought ice-cream stores in beach towns - at least that would offer a decent ROIC and not suck up much working capital.

Worse still, the high margin monitoring segment actually saw a reduction in revenue, so there is less money from the high margin recurring business. Even worse than that, this reduction was due to a rejig of the sales team that we - once again - paid consultants to devise.

It's definitely worth noting that advertising - an expense that actually makes sense for shareholders - was basically flat. It's also worth noting that today's announcement of another acquisition (which will of course boost EPS) was gleeful about the prospect of increased employee expenses. CEO Scott Wooldridge said: "It is particularly pleasing that EnergyAdvice's existing Directors will be joining Energy Action's Executive team..." At least the EnergyAdvice acquisition will bring some new clients, but if you think the price of 9x the average EBIT of FY2012 - FY2014 is a good price, then I have some authentic persian rugs you might be interested in ;)

I wonder what multiple of FY 2014 EBIT Energy Action shareholders are paying so Scott can grow EPS? Also funny how shares represent less than 5% of the consideration for this new business. I guess Mr Phil Randall doesn't want to have too many shares. After all, we could have made a lot more money by following the other insiders' lead and relentlessly dumping shares on market.

Ok, well I could go on for hours about how annoyed I am, but suffice it to say that I should have followed my instinct and sold all my shares a while ago.

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The author sold his shares in Energy Action on open this morning. The author probably still has an indirect interest in Energy Action. The purpose of this blog is to document my thoughts on different companies in an easily accessible way and to make connections with likeminded investors. Subscribers to the Free Newsletter get sent research first, and have access to the Hidden Research.

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Energy Action downgrades profit guidance (ASX: EAX)

Claude Walker — Thu, 19 Dec 2013 23:38:50 +0000

So I thought I should share my thoughts on the recent announcement by Energy Action (ASX: EAX).

The company has said that they now expect NPAT of approximately $5 million. The supposed reason for this is that the Sustainability Solutions business has grown only about 40% (which shows how optimistic their original forecast must have been).

I'm annoyed with the company for a variety of reasons. First of all, they should be making conservative forecasts. Second, they should have foreseen that Tony Abbott would remove incentives for energy efficiency. Third, the Directors have been selling shares. Fourth, the company has been paying consultants to help it a) restructure is sales team; and b) Expand the Sustainability Solutions business.

What is required is more corporate discipline. Let's hope the new CEO stops the company haemorrhaging cash to corporate advisers and does the job he is (very well) paid to do.

Anyway, so like any good stock market opportunist I dumped 60% of my holding this morning (probably should have dumped them all). Currently, I'm reverting to my old valuations: I basically consider the range $2.80 - $3.35 to be too low to sell and too high to buy. If the share price slips below $2.80, there is an extremely high likelihood that I'll buy shares.

If the share price heads up to $3.50, I'll probably sell half my remaining holding (leaving me with 20% of my original holding).

So what have I learnt?

Well I've learnt that I should probably lighten my holdings when I consider a share price overvalued. However, it is a bit of a philosophical question because as regular readers will know, I've traded in an out of Energy Action before. At the end of the day, this is a learning process.

Should I have sold at $4.20 (prior to the downgrade)? Most likely: one teacher of mine downgraded Energy Action because of the director selling, and I have to say, I was tempted to sell at above $4, because the insiders were selling at $4.

The Author owns shares in Energy Action. Nothing on this website is advice, ever. This post is for entertainment (and for my own reference!)

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Growth prospects of Energy Action (ASX:EAX)

Claude Walker — Fri, 19 Jul 2013 10:41:27 +0000

Not everyone I’ve talked to sees the same value I do in Energy Action (ASX:EAX) so I thought I would share this valuation with my readers; please feel free to let me know what you think.

This article assumes a fair bit of knowledge; if you want the basics, you can find them here and here.

I’ve split the businesses to make an estimate of how they will perform in FY2013. In all my projections, I aim to underestimate results (because I want a margin of safety anyway). I have assumed that sustainability (Activ8+) will actually underperform 1H2013 by 5% in both scenarios. In the low estimate I have simply doubled 1H2013 revenue for Procurement and Monitoring. In the Mid Estimate I have attributed 2^nd half improvements of 2.5% and 3% respectively. I have added in the expected contribution of Ward Consulting to Procurement and Monitoring in the 2^nd Half, but not attributed any growth to that business.

EAX Revenue by Segment

Fosters are using a 32% EBITDA: Revenue ratio for FY2013 and Ord Minnett are using 33%.

EBITDA Estimates For Energy Action in FY2013 (based on revenue estimates above)

The reason I have looked at EBITDA is to try to understand the growth of the company. I calculate FY 2012 EBITDA to be $5,666,67. Even in my worst case scenario, the company grows EBITDA at 1.2%. At the optimistic end of the scale, the company grows EBITDA 19.4%

The purpose of this exercise was to explore the growth rate of the company, based on a conservative set of assumptions. The conclusion, is that FY2013 will be an improvement of 1.2% - 19.4% on FY2012.

Looking beyond FY2013 here are the main reasons that I believe that the company will be able to continue on this growth trajectory.

The AEX service costs the customer very little up front, and offers to save them money. It is thus a relatively easy service to sell.
Many customers seem to initiate contact with Energy Action when they suspect there is an error in their energy bill. Thus, in the natural passage of time, as such “mistakes” occur, more organisations will be driven to contact Energy Action
Once the carbon tax issue is resolved, contracts under the AEX will be simpler, and probably longer, increasing both upfront fees and ongoing revenue (NB: EAX charges upfront fees but receives a small % from the retailer on an ongoing basis – I previously did not understand this, and need to look into it further)
Energy Efficiency is reasonably embedded in people’s minds, but this has not been the case for very long.
There is no evidence of meaningful competition to the AEX, and this gives EAX a competitive advantage when trying to sell Activ8 and Activ8+ services.
Energy Action has largely focused on medium scale enterprises. As their brand becomes more established, I think they stand a better chance of winning larger clients (eg Ramsay Healthcare).
Energy Action has an opportunity to partner with firms such as First Solar. Because solar is most valuable if it is part of an integrated system, Energy Action adds real value. Because First Solar has the balance sheet to fund projects, this strategy is the best possible way to develop Activ8+

However, there are some things that could prevent the company growing

If the way electricity is billed changes (can of worms), then the AEX could become a lot less useful, but Activ8+ would become more relevant.
If the retailers changed the way they did business, then they could make the Activ8 service significantly less valuable. They could also compete in this space, which would be very dangerous for Energy Action. Unlikely for this reason.
If Energy Action lacks discipline operating Activ8+ they could hurt their profits. It is important that they do not stump up the cash for much, but rather continue to focus on grants, and partnering with other firms as a middle (wo)men. Political correctness is always hilarious, as are non-sequiturs.
The carbon pricing "debate" may continue for a long time.

Estimated buy price for Energy Action shares based on solid growth

These valuations are more conservative than Fosters and Ord Minnett. The discount rate is 10%, and the remainder value is 8x cashflow. The critical factor is that I have simply estimated the starting cashflow. The cashflow last half was $2.4 million, and I think this company is growing.

Key assumptions: Strong Industry Tailwinds, plus improving margins through scale and cross-selling services. Remainder value in 2017 is based on 8x Cashflow, which is a bit unrealistic, because if the company does actually grow every year until then, it would probably be going for a lot more than 8x cashflow.

The real question is: will this Energy Action keep growing by at least these amounts for the next four years (and beyond)?

The Author owns shares in Energy Action both directly and indirectly.

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Energy Action trading close to fair value (ASX:EAX)

Claude Walker — Fri, 10 May 2013 03:43:24 +0000

The share price of Energy Action has been trading above $3 for some time now, having reached as high as $3.50. The company is growing revenue streams, and in a recent update, informed shareholders that it has appointed Fort Street Advisers to help “assess growth opportunities in the market.” They have also appointed an executive search firm to help find a replacement for Managing Director Valerie Duncan, who has signaled her intent to retire at some point in 2014. Evergreen Capital Partners and Perennial Investment Partners hold approximately 9% and 6% of the company respectively. Citigroup Global Markets also holds a relevant interest in about 5% of the company, subject to an obligation to return the borrowed stock to the lender. I don’t dare speculate as to what this means, however, what is certain is that Energy Action is no longer under the radar.

I believe that EAX is a well-run company, with dependable, diverse revenue streams, in a market that is likely to grow. Of particular note is that it has teamed up with First Solar to install solar panels for a major client. It’s great to see Energy Action partner with another well-run company.

On the other hand, I also think the company is fully priced by the market at current prices of about $3.10. Indeed, using a discounted cash flow model (which may not be the superior way of valuing this stock), and assuming strong growth, I value the stock at no more than $3.25 (That’s a market capitalization of about $83 million). As a shareholder of August Investments, I supported the Managing Director’s decision to sell part of the holding of EAX at above $3, simply because it no longer presents the same compelling value as it did in the past.

In conclusion, the annual report will tell us a lot about Energy Action’s prospects. Of some concern to me is that management have essentially outsourced part of their job to Fort Street Advisers and an executive search firm. Current management have demonstrated great skill in growing the company, organically and by acquisition; they will be a tough act to follow. The bottom line (of this research) is that if the number of customers using the AEX continues to grow, Energy Action has a bright future, because this will allow it to cross-sell its more profitable services... er...efficiently.

Dilution is occurring as a result of acquisitions

At the time of writing, the author does not have a direct interest in Energy Action. The author has an indirect interest in shares of EAX, through August Investments.

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Introduction to Energy Action (ASX:EAX)

Claude Walker — Mon, 24 Sep 2012 02:39:58 +0000

Energy Action Group (ASX: EAX) is rare among environmentally positive equities in that it is profitable and is able to pay regular dividends. It was listed on the ASX in October 2011 at $1.00 per share. EAX provides energy retrofitting services to government and private organisations. It also owns the Australian Energy Exchange where energy retailers bid to provide the best energy prices to organisations and those organisations are able to re-sell excess energy already contracted. Both services provide substantial savings to their customers and have environmental benefits.

At the current $2.45 per share, the dividend yield is 2.94%, but this is covered twice by the internal earnings yield of 6.1% (PE 16.3). The Cashflow yield is even higher, at 7.6%. ROE after tax is an impressive 34.8%. This is a typical profile for a growth stock, but unlike some growth stocks EAX’s balance sheet is extremely healthy. At 30 June 2012 EAX had no significant borrowings and there was $6.8M cash in the bank. Since then they have taken over a similar business, Ward Consulting, for $4.2M.

Energy Actions’ business growth is impressive. We have examined pre listing accounts back to 2008. Comparisons are difficult, but there is an obvious pattern of growth in profits and assets. In February 2012 the Federal Government’s announced that energy saving measures taken by small manufacturers will be subsidised on a 1:1 basis, compared to the previous 1:3 basis. This should bring more business Energy Actions’ way. A negative is that a large proportion of shares on issue are held by pre-listing investors, management and staff. They may be tempted to sell at share prices well above their pre-listing entry price.

Research provided by
August Investments Pty Ltd
(August Investments holds shares in EAX)

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