Argan Inc. (AGX), through its subsidiary Gemma Partners, is an Engineering, Procurement and Construction (EPC) company for the power and renewable energy industry. The company has a history of delivering a diverse subset of power generation infrastructure projects. AGX has managed the EPC of more than 80 facilities, equating to over 14,000 megawatts of power-generating capacity from combined (and simple) cycle natural gas fired power plants, biomass projects, solar facilities, wind farms, biofuel plants and environmental facilities.
AGX reported a $1.2B backlog as of 10/31/15, vs. $660M on 7/31/15. The company carries a market cap of $435M with a Total Enterprise Value of $263M ($172M in net cash) as of 1/20/16. For the trailing 12 month period ending 10/31/15, Argan generated a total of $399M in Revenue and approximately $62M in EBITDA, placing the stock at a 4.2x EV/EBITDA. The company’s balance sheet and current valuation, coupled with what we believe to be a secular tailwind of incremental growth – driven by a replacement cycle of old coal generated power facilities in favor of environmentally friendlier gas fired power plants and renewable based alternatives – makes Argan an attractive, long term investment.
Industry Trends Are Compelling
Coal fired electricity, as a proportion of total U.S. electricity production has declined from 51% in 2000 to 39% as recently as 2014. To boot, more than 60% of coal fired power plants are over 40 years old, with many nearing the end of their useful lives. Gas fired power production, in turn, has seen material growth as a percentage of total U.S. electricity production from 16% in 2000 to 27% in 2014. Although total power generation in the U.S. has grown by only 3% over the last 10 years, natural gas fired power sources has increased by 58% while coal fired plants have experienced a total decline of 20%.
We believe industry trends will continue to favor both natural gas and renewables. This is being driven predominantly by new regulatory standards put in place by the EPA to reduce carbon emissions. Natural gas and renewables offer an efficient, greenhouse friendly and less costly means to replace coal electric power generation facilities and satisfy future consumer demand for more electricity.
In addition, new emission standards have become a major obstacle for any plans to build new coal fired power plants. The coal industry is similarly concerned that pending regulations limiting carbon emissions may jeopardize the continuing operation of existing coal fired power plants. The future of “clean burning coal” is equally uncertain. Many of these recently constructed clean burning coal based plants, flaunted as the gold standard for generating clean electricity from low quality coal, have experienced soaring construction costs.
Powerful Cost Incentives
Economically, new natural gas fired plants are relatively cheaper to procure and construct than coal, nuclear, or renewable plants and produce dramatically less carbon dioxide emissions than coal. The abundant availability of cheap, less carbon intensive natural gas should continue to be a driving factor in the economic assessment and sustainability of future power plants.
Argan tends to bid projects on a fixed cost basis, with an average project size of $270M over its last seven jobs – with three years average duration on these projects. Argan Management’s extensive experience in properly estimating costs and delivering projects on a timely basis has allowed the company to successfully and sustainably operate its business at economically robust margins compared to competitors. We believe industry trends will continue to look favorable for Argan in the years to come, allowing the company to steadily build its backlog and generate strong free cash flow streams for the foreseeable future.
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Disclaimer: Argan, Inc. information was obtained from: http://www.arganinc.com. This commentary is not an offer to sell or the solicitation of an offer to buy any security in any jurisdiction where such an offer or solicitation would be illegal. This commentary is distributed for informational purposes only and should not be construed as investment advice or a recommendation to sell or buy any security or other investment, or undertake any investment strategy. It does not constitute a general or personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual investors. The price and value of securities referred to in this commentary will fluctuate. Past performance is not a guide to future performance, future returns are not guaranteed, and a loss of all of the original capital invested in a security discussed in this commentary may occur. Certain transactions, including those involving futures, options, and other derivatives, give rise to substantial risk and are not suitable for all investors. There are no warranties, expressed or implied, as to the accuracy, completeness, or results obtained from any information set forth in this commentary.
About The Author: David LaSalle
David LaSalle, along with his co-Portfolio Manager James Boucherat, combined their existing advisory business (previously Perlus Investment Management) with Pacific View Asset Management, LLC in September 2014, creating Pacific View’s UK subsidiary, Pacific View Asset Management (UK) LLP. David serves as the co-Portfolio Manager and co-Head of Pacific View’s Microcap team. David has almost 17 years of investment industry experience. David’s career in finance began in 1998 as a Credit Analyst for Wedbush Morgan Securities, developing and implementing margin solutions for the firm’s brokerage accounts. From 1999 – 2001, he worked as a trader for B. Riley and Co., a boutique research firm. In 2003, while completing his Master’s degree in Finance, David won, through a competitive selection process in association with his university, an internship as an equity analyst for Parnassus Investments, a socially responsible mutual fund focused on mid to large cap companies. David then served as Head of Research for San Francisco-based hedge fund Core Fund, focusing primarily on U.S. public microcap equities. David later spent three years with New York-based hedge fund MicroCapital, L.P., as the Vice President of Research, where, in 2005, he met and worked with James Boucherat on the value side of the portfolio. David helped create Perlus Investment Management with James Boucherat in 2008. David completed his Bachelor of Arts in History from the University of California, Santa Barbara, and his Masters of Science in Finance from Golden Gate University.
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