srg initiation of coverage€¦ · initiation of coverage investment case srg is a diversified...

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1

INDUSTRIALS

SRG Ltd Year End 30 JuneShare Price 1.45 A$/sh Price Target (EV/EBITDA) 1.78 A$/shValuation (DCF) 2.09 A$/shWACC 10.6% Terminal Growth 2.0% Shares on issue 65.4 m, dilutedMarket Capitalisation 94.8 A$mEnterprise Value 79.1 A$mDebt -June 17 8.8 A$mCash - June 17 24.5 A$m

Key Financials 2017a 2018f 2019fRevenue (A$m) 230.2 262.9 289.2EBITDA (A$m) 16.8 17.0 19.1EBIT (A$m) 11.9 10.8 12.0Reported NPAT (A$m) 7.9 7.4 8.2Normalised NPAT (A$m) 4.7 7.4 8.2 Gross Cashflow (A$m) 11.8 13.6 15.3Capex (A$m) -13.6 -8.0 -8.0Op. Free Cashflow (A$m) -4.5 4.4 7.1 Revenue Growth (%) 29% 14% 10%EBITDA Growth (%) 13% 1% 12%Norm. NPAT Growth (%) -24% 59% 11% Normalised EPS (Ac) 6.57 10.42 11.53Norm. EPS growth (%) -32% 59% 11%PER (x) 22.1 12.8 11.5EV:EBITDA (x) 4.7 4.7 4.1EV:EBIT (x) 6.7 7.3 6.6 DPS (Ac) 7 7 8Dividend Yield (%) 5% 5% 5% Net Cash (A$m) 15.7 15.6 17.6Net Debt:Equity (%) net cash net cash net cashInterest Cover (x) 39.6 48.8 53.9

Share Price Chart

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$1.00

$1.40

$1.80

$2.20

Oct-16 Jan-17 Apr-17 Jul-17

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Disclaimer

This analyst declares that he has a beneficial interest in SRG Ltd.

We see SRG as a growth company priced at value metrics. The

business has a strong balance sheet and specialised skill sets that lend themselves to large markets

internationally, while domestic demand supports current earnings,

cash flows and dividends.

Analyst Date Price TargetGavin Allen 23rd October 2017 $1.78/sh

Initiation of Coverage

Investment case

SRG is a diversified construction, mining and services business with strong growth prospects in a range of industries and geographies. The business is midway through a five year strategic plan in which we believe significant inroads have been made. The journey continues however, and we initiate coverage looking for further meaningful growth as the strategic plan continues to evolve. Meanwhile the business is sufficiently evolved to generate meaningful cash flow and dividends. The stock has traded back in recent times as the market looks for international work won consistent with investment in this area over the last few months. Consequently we see contract news flow as meaningful catalyst and look to colour on this front from reporting commentary over the medium term. We initiate with a Buy recommendation and a $1.78 12 month price target.

Valuation

We believe the stock is worth $1.78 per share. It trades on f 2018 EV/EBITDA of 4.7x, under peer averages such as they are. On PE basis the stock trades 12.8x, attractive compared to medium term growth prospects, and sensible enough to allow some timing fluidity as growth plans internationally evolve. Our DCF based valuation is coming out at $2.09. We set our 12 month price target at $1.78 based on a EV/EBITDA methodology, essentially looking for contract wins as catalyst to see the stock re-rate to sector averages. At a fundamental level, and as indicated by our DCF valuation, future free cash flows can drive value well beyond current PT should SRG succeed in delivering the strategic plan (in our view a $500m per annum turnover business in three to five years).

Orderbook/ earnings

In a recent market update, SRG announced a $338m work in hand position, with $160m locked away for 2018, compared to our $263m 2018 revenue forecast. The key driver to growth in 2018 is internationally in which SRG made considerable investment in 2017. This is on the back of what was substantial revenue growth in 2017, primarily driven by a significant uptick in civil activities, particularly around bridge construction and dam strengthening. We explore this further in the body of this report.

The business

The business is essentially a construction business with demonstrable history in specialised engineering and associated strengthening techniques that lend themselves to bridge, dam and difficult building construction. The mantra of SRG is “making the complex simple”. While SRG has significant opportunity in a broad sense in domestic and international infrastructure themes, we see these specialised types of projects as specifically important in understanding the pipeline of available future work. On this front SRG has embarked on an international push, representing both a significant opportunity and challenge, on which considerable investment has been made in recent times; the fruits of which are anticipated in 2018 - 2020. SRG also operates a mining business generating solid free cash flow from a number of long term contracts.

SRG Ltd (SRG $1.45) Buy, Initiation of Coverage


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INDUSTRIALS

SRG Ltd(SRG $1.45) Buy, Initiation of Coverage

Financial Statements 2016a 2017a 2018f 2019f 2019fSales 178.0 230.2 262.9 289.2 318.2Other 0.0 0.0 0.0 0.0 0.0Revenue 178.0 230.2 262.9 289.2 318.2COGS -163.1 -213.4 -246.0 -270.2 -294.6Other 0.0 0.0 0.0 0.0 0.0EBITDA 14.9 16.8 17.0 19.1 23.5Depreciation & amortisation -5.4 -4.9 -6.1 -7.1 -8.1Other non cash 0.0 0.0 0.0 0.0 0.0EBIT 9.5 11.9 10.8 12.0 15.5Net Interest income/(expense) -0.3 -0.3 -0.2 -0.2 -0.2Associates 0.0 0.0 0.0 0.0 0.0Other income/(expense) 0.0 0.0 0.0 0.0 0.0Abnormal items (pretax) 0.0 0.0 0.0 0.0 0.0EBT 9.2 11.6 10.6 11.7 15.3Tax expense -3.0 -3.7 -3.2 -3.5 -4.6Minority interest 0.0 0.0 0.0 0.0 0.0Preference Dividends 0.0 0.0 0.0 0.0 0.0Reported Earnings 6.2 7.9 7.4 8.2 10.7Dividends -1.6 -4.5 -4.5 -5.1 -5.8Adjustments (one off) 0.0 0.0 0.0 0.0 0.0Retained earnings 4.6 3.4 3.0 3.1 4.9Normalized Net Profit 6.2 4.7 7.4 8.2 10.7Fully Diluted Net Profit 6.2 4.7 7.4 8.2 10.7

Cash flow (A$m) 2016a 2017a 2018f 2019f 2019fPretax Profit 9.2 11.6 10.6 11.7 15.3+ Depreciation 5.4 4.9 6.1 7.1 8.1-/+ associates profit/loss 0.0 0.0 0.0 0.0 0.0+/-write downs 0.0 0.0 0.0 0.0 0.0+ Foreign Exchange loss/(gain) 0.0 0.0 0.0 0.0 0.0- Tax Paid -0.8 -4.4 -3.2 -3.5 -4.6+ inc (- dec) in provisions 0.0 -0.3 0.0 0.0 0.0- Profit/+ loss on disposal 0.0 0.0 0.0 0.0 0.0+/- Other 0.0 0.0 0.0 0.0 0.0Gross Cashflow 13.8 11.8 13.6 15.3 18.7- Capital expenditure -5.3 -13.6 -8.0 -8.0 -8.0+/- Changes in working capital -2.4 -2.7 -1.1 -0.3 -0.3Operating Free Cashflow 6.1 -4.5 4.4 7.1 10.5+/- Acq of subs/other invest. -2.1 0.0 0.0 0.0 0.0- Dividends -1.6 -4.5 -4.5 -5.1 -5.8+ Proceeds from equiy raised 0.0 0.0 0.0 0.0 0.0+/- Proceeds from disp of subs/FAs 0.0 8.2 0.0 0.0 0.0+/- Minority interests -6.6 -1.8 0.0 0.0 0.0+/- Other 0.0 0.0 0.0 0.0 0.0Net cashflow -4.2 -2.6 -0.1 2.0 4.7Cash at beginning of period 22.5 18.3 15.7 15.6 17.6Cash at end of period 18.3 15.7 15.6 17.6 22.3

Balance Sheet ($m) 2016a 2017a 2018f 2019f 2019fCash 21.9 24.5 23.0 25.0 29.7Receivables 33.2 49.7 42.1 46.3 50.9Inventories 16.6 9.7 23.0 23.0 23.0Other 0.7 1.6 1.6 1.6 1.6Current Assets 72.4 85.5 89.7 95.9 105.2Equity accounted investments 4.0 0.0 0.0 0.0 0.0Receivables 0.0 0.0 0.0 0.0 0.0Intangibles 22.9 22.9 22.9 22.9 22.9Property/Plant/Equipment 21.9 28.9 30.7 31.6 31.6Other financial assets 0.0 0.0 0.0 0.0 0.0Deferred tax assets 4.2 3.3 3.3 3.3 3.3Non Current Assets 53.0 55.1 56.9 57.8 57.8Total Assets 125.4 140.6 146.7 153.7 163.0 Payables -28.0 -34.9 -39.4 -43.4 -47.7Interest bearing liabilities -2.4 -3.0 -2.5 -2.5 -2.5Provisions -7.3 -8.3 -8.3 -8.3 -8.3Other -2.2 -1.5 -1.5 -1.5 -1.5Current Liabilities -39.9 -47.7 -51.8 -55.7 -60.0Payables 0.0 0.0 0.0 0.0 0.0Interest bearing liabilities -1.2 -5.8 -4.9 -4.9 -4.9Provisions -2.0 -0.7 -0.7 -0.7 -0.7Other 0.0 0.0 0.0 0.0 0.0Deferred Tax -1.4 0.0 0.0 0.0 0.0Non Current Liabilities -4.6 -6.5 -5.6 -5.6 -5.6Total Liabilities -44.5 -54.2 -57.3 -61.3 -65.6Net Assets 80.9 86.4 89.3 92.4 97.4 Contributed equity 40.5 41.3 41.3 41.3 41.3Reserves 2.8 2.1 2.1 2.1 2.1Retained profits 37.6 43.0 46.0 49.1 54.0Minority Interests 0.0 0.0 0.0 0.0 0.0Total equity 80.9 86.4 89.4 92.5 97.4

Performance Ratios 2016a 2017a 2018f 2019f 2019fGrowth & MarginsRevenue Growth 3% 29% 14% 10% 10%EBITDA Growth 33% 13% 1% 12% 23%EBIT Growth 188% 25% -9% 11% 29%Normalized Net Profit Growth 241% -24% 59% 11% 30%EBITDA margin 8% 7% 6% 7% 7%EBIT margin 5.3% 5.2% 4.1% 4.1% 4.9%Normalized net profit margin 3.5% 2.0% 2.8% 2.8% 3.4%Effective tax rate 32.6% 31.9% 30.0% 30.0% 30.0%

LiquidityCapex/depreciation (x) 1.0 2.8 1.3 1.1 1.0Current ratio (x) 1.8 1.8 1.7 1.7 1.8Quick ratio (x) 2.0 2.1 1.7 1.6 1.7Receivable days 63 66 64 56 56Inventory days 33 22 24 31 29Payable days 63 54 55 56 56

Risk MeasuresDividend Cover (x) 3.9 1.8 1.7 1.6 1.9Payout ratio (%) 26% 57% 60% 62% 54%Net interest cover (x) 31.7 39.6 48.8 53.9 69.7Net debt/equity (%) net cash net cash net cash net cash net cash

ReturnsReturn on avg cap. employed (%) 11% 13% 11% 12% 15%WACC (%) Return on assets (%) 8% 8% 7% 8% 9%Return on average equity (%) 8% 9% 8% 9% 11%Company cost of equity (%)

Share Data/Valuation 2016a 2017a 2018f 2019f 2019fShare DataIssued shares (m) 64 64 65 65 65Weighted ave shares (m) 64 64 65 65 65Fully diluted shares (m) 64 71 71 71 71Basic EPS (c) 9.7 12.3 11.4 12.6 16.3YoY change (%) 288% 27% -8% 11% 30%Fully diluted EPS (c) 9.70 11.07 10.42 11.53 14.97YoY change (%) 288% 14% -6% 11% 30%Fully diluted norm EPS (c) 9.7 6.6 10.4 11.5 15.0YoY change (%) 241% -32% 59% 11% 30%Dividend/share (c) 6 7 7 8 9Franking (%) 100% 100% 100% 100% 100%Gross cashflow/share (c) 21.60 18.44 20.75 23.44 28.65NBV/share (c) 126.58 134.75 136.59 141.35 148.88NTA/Share (c) 90.74 99.03 101.58 106.34 113.87

ValuationPER (Basic) (x) 14.9 11.8 12.8 11.5 8.9PER (Fully diluted) (x) 14.9 13.1 13.9 12.6 9.7PER (Fully diluted, norm) (x) 14.9 22.1 13.9 12.6 9.7P/CFPS (x) 6.7 7.9 7.0 6.2 5.1Price/NBV (x) 1.1 1.1 1.1 1.0 1.0Price/NTA (x) 1.6 1.5 1.4 1.4 1.3Dividend Yield (%) 4.1% 4.8% 4.7% 5.4% 6.1%Fully diluted norm 3 yr EPS Cagr (%) PEG ratio (x) EV 74.4 87.7 87.7 85.8 81.1EV/EBITDA (x) 5.3 4.7 4.7 4.1 3.4EV/EBIT (x) 8.3 6.7 7.3 6.6 5.1EV/Revenue (x) 0.4 0.3 0.3 0.3 0.2

Other Information

Estimated free float 80%12-mth High/Low (A$/sh) $1.88/$1.15Average daily volume (A$m) 0.5 ASX Code SRGNext result Feb-18

Company DescriptionSRG is a multidisciplined construction, mining and services business operating in Australia and Internationally.


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INDUSTRIALS


Valuation

We set a 12 month PT of $1.78 and calculate fundamental current value (DCF) at $2.09.

SRG is a cyclical business seeking consistent growth via new international markets and new products.

On our 2018 forecasts the stock trades on PE of 13x (14x fully diluted) and EV/EBITDA of 4.7x, with $16m in net cash June 2017 and a current dividend yield of circa 5% paying out 60% of earnings.

Consistent growth over the medium term can and should see the stock trade up.

The primary investment question, then, which we explore below, is comfort and confidence in quality of earnings.

Discounted cash flow analysis

Our DCF based valuation is coming out at $2.09 fully diluted per the below:

NPV 2018 2019 2020 2021 2022

EBIT 10.83 11.97 15.47 17.02 19.57

Tax rate 30% 30% 30% 30% 30%

After tax EBIT 7.58 8.38 10.83 11.91 13.70

Depreciation 6.14 7.10 8.06 8.00 8.00

Capex -8.00 -8.00 -8.00 -8.00 -8.00

Cashflow 5.73 7.48 10.89 11.91 13.70

implied increase in cashflow 30.67% 45.58% 9.35% 15.00%

PV 35.59

Terminal Value 96.27

Add: Net cash (June 17) 15.70

NPV (A$) 147.56

SRG

Basic

NPV AUD 147.56

Weighted Average Shares 65

SRG per Share 2.26

Fully Diluted

Options/Peformance Rights 6.00

Cash realized on exercise AUDm (est)

2.00

NPV 147.56

Diluted Value 149.56

Fully Diluted Number of Shares 71

SRG per Fully Diluted Share 2.09

Comparatives analysis

SGR is often tagged as a mining services business, and is not alone in being classified in this manner by a market that has difficultly following the transition by some WA located businesses into different geographies and disciplines.

Risk Free 2.8%

Market Risk Premium 7.0%

Beta 1.3

CoE 11.9%

Cost of Debt 8.0%

Tax Rate 30%

AT CoD 5.6%

LT Debt to Total Capitalization 0.20

WACC 10.6%


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INDUSTRIALS


For completeness we provided below trading metrics of companies investors may consider SRG in relation to:

ASX Code Company Share Price (A$/sh)

P/E 18 EV/EBIT 18 EV/EBITDA 18

EPS 18 Growth

DCG Decmil Ltd 1.33 20.0 13.5 9.6 100%

IMD Imdex Ltd 0.95 18.2 11.9 8.5 36%

NWH NRW Holdings Ltd 1.21 11.8 8.3 5.0 102%

PEA Pacific Energy Ltd 0.54 10.9 8.5 5.3 12%

SWK Swick Ltd 0.29 54.5 27.6 4.1 136%

SXE Southern Cross Electrical Engineering Ltd 0.73 13.5 9.3 5.7 100%

TPP Tempo Australia Ltd 0.18 10.5 4.1 3.9 100%

ZEN Zenith Ltd 0.62 12.0 7.1 5.5 -18%

SRG SRG Ltd 1.45 12.8 7.3 4.7 59%

VEE Veem Ltd 0.56 12.5 10.6 8.7 52%

GCS Global Construction Services Ltd 0.80 10.0 5.3 4.1 14%

Average 18.3 10.8 5.9 69.6%

Consensus numbers (not covered)

GNG GR Engineering 1.26 10.5 6.1 5.7 71%

ASL Ausdrill 2.18 15.6 7.3 3.4 75%

MND Monadelphus 15.87 26.5 16.4 13.2 -2%

RCR RCR Tomlinson 4.29 17.9 13.0 8.7 60%

MAH Macmahon 0.24 18.5 10.1 3.8 100%

MRM MMA Offshore 0.18 -3.5 -22.3 9.2 58%

MLD MACA Ltd 2.25 13.2 9.2 4.3 31%

Average 11.9 7.7 6.9 51.1%

yy The company specific situation of many of these companies are so diverse that comparisons are a bit meaningless, however we note the following broadly:

o There are a number of companies exhibiting significant 2018 growth simply because 2017 was a difficult year, providing a low base

o Each of the companies need to be considered in relation to confidence in earnings delivery and prospects which vary widely

o Nevertheless, at PE of 13, EV/EBIT of 7.3x and EV/EBITDA of 4.7x, SRG compares favourably with these companies.

yy The key takeway is perhaps that provided SRG can deliver numbers as we forecast, the stock should trade up.


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INDUSTRIALS


12 month price target

We see a 6x EV/EBITDA and 9x EV/EBIT multiple targets as reasonable compared to peers as provided above:

2019 F

Forecast EBIT 12.0

Target EV multiple 9.0

Target Enterprise Value 107.7

Net cash June 2017 15.7

Market Capitalisation 123.4

Shares issued (diluted) 71.3

Indicative value $1.73

2019 F

Forecast EBITDA 19.1

Target EV multiple 6.0

Target Enterprise Value 114.4

Net debt June 2017 15.7

Market Capitalisation 130.1

Shares issued (diluted) 71.3

Indicative value $1.83

Average $1.78

We see the market looking firmly at 2019 in 12 months and derive our 12 month price target of $1.78 per the above.


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INDUSTRIALS


Order book/ Earnings

We provide below a build up of actual and forecast earnings for SRG:

2015 2016 2017 1H 2018 2H 2018 2018 2019 2020

($m) ($m) ($m) ($m) ($m) ($m) ($m) ($m)

Revenue

Construction 104.4 119.9 159.0 82.0 108.8 190.8 209.9 230.9

Mining 66.3 56.5 68.7 30.0 42.1 72.1 79.3 87.3

Other 1.6 1.6 2.5 - - - - -

172.3 178.0 230.2 112.0 150.9 262.9 289.2 318.2

Construction 2.2 4.9 5.3 3.3 4.4 7.6 8.4 10.4

Mining 13.2 11.2 13.0 6.0 7.3 13.3 14.7 16.1

Corporate -4.3 -1.1 -1.5 -2.0 -2.0 -4.0 -4.0 -3.0

EBITDA 11.1 15.0 16.8 7.3 9.7 17.0 19.1 23.5

Less one off gains -4.9

Add investment cost international* 3.6 -

Normalised EBITDA 11.1 15.0 15.5 7.3 9.7 17.0 19.1 23.5

Depreciation -7.9 -5.4 -5.0 -3.0 -3.1 -6.1 -7.1 -8.1

EBIT

Construction 2.2 4.9 5.3 2.9 4.0 6.8 7.6 9.6

Mining 5.3 5.8 8.0 3.4 4.6 8.0 8.4 8.9

Corporate -4.3 -1.1 -1.4 -2.0 -2.0 -4.0 -4.0 -3.0

EBIT 3.2 9.6 11.9 4.3 6.6 10.8 12.0 15.5

interest -0.7 -0.3 -0.3 -0.1 -0.1 -0.2 -0.2 -0.2

EBT 2.5 9.3 11.6 4.2 6.4 10.6 11.7 15.3

Tax -0.9 -3.1 -3.7 -1.25 -1.9 -3.2 -3.5 -4.6

NPAT 1.6 6.2 7.9 2.9 4.5 7.4 8.2 10.7

Normalised NPAT (inc international exp costs) 4.7

EBIT margin

Construction 2.1% 4.1% 3.3% 3.5% 3.6% 3.6% 3.6% 4.2%

Mining 8.0% 10.3% 11.6% 11.3% 10.9% 11.1% 10.6% 10.2%

yy The growth we are looking for in 2018 is primarily driven by top line growth via international markets as per the below:

1H 2016 2H 2016 FY 2016 IH 2017 2H 2017 FY 2017 1H 2018 2H 2018 FY 2018

($m) ($m) ($m) ($m) ($m) ($m) ($m) ($m) ($m)

Civil 8.1 20.4 28.5 41.3 39.3 80.6 35.0 41.3 76.3

Mining 26.8 26.6 53.4 29.5 28.1 57.6 30.0 30.5 60.5

Building 32.5 31.6 64.1 29.5 28.1 57.6 25.0 40.7 65.7

Product 7.3 8.7 16.0 8.3 7.9 16.1 8.0 9.1 17.1

Services 6.5 9.5 16.0 9.4 9.0 18.4 9.0 9.4 18.4

International* - - - - - - 5.0 20.0 25.0

Total 81.2 96.8 178.0 118.0 112.2 230.2 112.0 150.9 262.9

*International considered seperately as an estimate by Euroz in 2018.


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INDUSTRIALS


yy Supporting our $263m revenue forecast for 2018 is $160m in work locked away for 2018 as per the following (Euroz estimate):

2018 2019 2020 Total

($m) ($m) ($m) ($m)

BGC (various) 20 20 20 100 5 years with BCG Whyalla and South Middleback

Evolution 30 30 30 90

Other 10 10 5 25

Mining 60 60 55 215

Keepit Dam 12 - - 12 Original $24.4m over 2 years from 1Q 2017

Margaret River bridge works * 11 - - 11 Full contract $22m in JV with WBHO infrastructure

Kuwait LNG 15 9 - 24 Full contract $26m for Hyundai enginerring

Other (smaller jobs)** 62 14 - 76

Construction 100 23 - 123

160 338

* SRG share

yy So we are looking for a further $100m in work won and billed in 2018, with a weighting to the second half.

yy Much of this $100m we would expect to occur in the normal course in a number of smaller $2m to $10m jobs.

yy Nevertheless, SRG are tendering $1.25b in more meaningful opportunities which can be broadly summarized by the following pie chart:

Source: SRG Ltd

yy The most significant opportunities exist in civil works domestically with increasing opportunities internationally.

yy We look at the major opportunities broadly amoung dams, buildings, bridges and tanks.


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INDUSTRIALS


The business

SRG presents the business in six units, described by the following schematic (per company presentation):

Source: SRG Ltd

There is some cross selling between each of the units and at a reporting level, results are segmented between construction and mining.

Broadly however, 2017 revenues are split as follows:

Source: SRG Ltd management presentation


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INDUSTRIALS


Our 2018 forecasts we split as follows, recognising the international component separately:

29.0%

23.0%25.0%

6.5%

7.0%

9.5%

2018 Revenue Percentages

Civil

Mining

Building

Product

Services

International

Source: Euroz estimates

Mining

The mining unit represents in the region of 25% of total current revenues.

Major clients are Evolution Mining, running until January 2019, with a two year option. This contact generates circa $30m per annum in revenue.

In addition, SRG recently extended arrangement with BGC, for a further 5 years until mid 2022, generating approx. $20m in revenues per annum.

In addition to drill and blast services, this unit provides a range of engineering and speciality services that broadly shore up, stabilise or steepen mining surfaces. Techniques include cable bolting and speciality concrete canvas.

Primary drivers for this business are opportunistic drill and blast contracts as new mines develop together with cross selling opportunities within mining clients on the speciality services SRG can provide.

We see the mining services business as steady going forward.

Civil

The civil business has grown strongly in recent years, now representing we estimate circa 30% of our 2018 revenue expectation. In previous years some of this work has been international.

It is not a civil business in an earthmoving sense; it provides specialist technical solutions to complex problems, particularly where the issue at hand is solving load bearing problems.

This type of expertise lends itself to bridge construction, dam strengthening and tank construction in particular, to which SRG brings to bear specialist techniques in ground anchoring and post tensioning systems.

The strong recent growth has been driven by a number of sizable dam, bridge and tank projects won in recent years and the challenge will be to replicate this work going forward. To this end we see SRG looking both domestically and internationally.

We see this business steady domestically. We explore opportunities internationally below.


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INDUSTRIALS


Building

We see this unit as circa 25% of total 2018 revenues domestically, providing construction services on significant structures, specialising in post tensioning techniques and cross pollinated strengthening services in concrete, also used in the civils unit.

This division is benefiting from strong east coast building and infrastructure themes at present and, as with civils type activities, we believe SRG will be looking to expand these services internationally.

Services

Services represent approx. 7% of total revenues.

The services division offers specialist advice to property owners, builders, designers, mining companies and contractors on status, long term behaviour and avenue to repair and strengthening of concrete and concrete structures.

Works includes concrete repair and remedial works on specific projects as well as full design and construct packages.

The advice may cross sell to the civil and building units which can carry out the work.

Products

Products represent approx. 8% of total revenues

SRG invents, manufactures and distributes innovative products used in construction and mining, often specific to specialist strengthening and repair techniques provided in other divisions.


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Strategy

We see the broad strategy of the business being to increase scale via organic growth and opportunistic acquisition to generate a circa $500m business that better leverages the fixed nature of operating and corporate costs.

International market are obvious opportunities.

By way of example, SRG may currently work on 4 or 5 dams per annum in strengthening and repair, generating between say $10m and $30m per dam over a 2 or 3 year program.

SRG recently announced 50/50 JV with Trayor Brothers to target the dam strengthening market in North America.

It is estimated there are some 14,000 dams in this region with short term strengthening requirements of various degrees and urgency.

It will take time for this JV to gain traction, however the opportunity is clearly lucrative.

SRG already provides these speciality skill sets internationally, for instance on the Hazelmere Dam in South Africa.

The North American JV is merely (albiet an exciting) extension of a current strategy to take existing skill sets off shore.

The same can be said of LNG tanks, such as a recent $26m award to construct tanks for Hyundia Engineering on a Kuwait LNG project.

Pillar two of the international expansion process is to follow strong client relationships into international markets, such as is currently underway in Hong Kong, where SRG have followed CIMIC in hope of assisting in significant infrastructure works planned or underway, particularly in bridge and tunnelling work.

We see SRG as potentially a $500m revenue business over the next two to four years, doubling revenues however offering earnings leverage significantly beyond this as fixed overheads are better covered.

There is clearly plenty of leverage to our forecasts were this strategy to play out as hoped.


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Balance Sheet

SRG was net cash $15.7m at end June 2017, sufficient for current growth ambitions as forecast

Risks

Short term earnings risks are primarily around a second half skewed 2018 and what we see as $100m of work to be won and billed.

Much of this will occur in the normal course and does not necessarily require large contact news to get there, however any news on sizable wins will be obvious catalyst.

As with any contracting, execution is always a key risk, particularly on hard money contracts.

The growth we are looking for is primarily internationally, and consequently there is potential for some fluidity around the timing of the earnings growth we are looking for as these endeavours gain traction.

Top 20 Shareholders

as at 20th October 2017

Shareholder Number of Shares %

1 J P Morgan Nominees Australia Limited 4.87 7.45

2 Sandhurst Trustees Ltd 3.98 6.08

3 Mr Peter John Mcmorrow + Mrs Bernadine Ann Mcmorrow 3.87 5.91

4 Hsbc Custody Nominees (Australia) Limited 3.11 4.76

5 National Nominees Limited 2.68 4.09

6 Bnp Paribas Noms Pty 2.29 3.51

7 Aust Executor Trustees Ltd 1.94 2.97

8 Bnp Paribas Noms (Nz) Ltd 1.93 2.95

9 Sandlir Pty Ltd 1.75 2.67

10 Tintagel Nominees Pty Ltd 1.10 1.68

11 Kailva Pty Ltd 1.00 1.53

12 Zero Nominees Pty Ltd 0.90 1.38

13 Mr Kenneth John Beer 0.85 1.30

14 Argyle Holdings Pty Ltd 0.85 1.29

15 Aust Executor Trustees Ltd 0.76 1.16

16 Dr Janet Dawn Kencian 0.56 0.85

17 Mr David Macgeorge 0.49 0.75

18 Sandlir Pty Ltd 0.46 0.70

19 Mr Brendan Thomas Birthistle 0.45 0.69

20 Martre Properties Pty Limited 0.45 0.69

Total 34.27 52.41

Summary

We see SRG as a growth company priced at value metrics. The business has a strong balance sheet and specialised skill sets that lend themselves to large markets internationally, while domestic demand supports current earnings, cash flows and dividends. Despite a second half earnings skew we see SRG as midway through a medium term strategy to at least double the revenue base, generating significant financial leverage. We initiate with a Buy recommendation and $1.78 12 month PT.


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