Undervalued stock of the week - Decmil Group

January 31, 2013, 3:46 pm John Abernethy Yahoo7

Decmil, a company that provides accommodation for large mining companies, looks well placed to benefit from continued capital expenditure in the resources sector.

With the recent rally in share prices, value investors need to be on their toes. There are relatively few quality companies priced consistently below what we believe is their true value, so investors need to look at price fluctuations and dips as buying opportunities. Only this type of nimble-footed investing will create potential returns big enough for many to consider worthwhile.

For example, Decmil Group (DCG) has recently seen its share price dip a little along with broad movements in its sector. Before the slide investors could perhaps have expected gains of around 8 per cent but today the lower share price presents investors with a chance to double the potential gains to an estimated 27 per cent - if the company performs as we expect over the next 12 or 18 months.

Decmil is an industrial services company, providing accommodation for the infrastructure and mining/resources industries. It is behind some of the vast accommodation villages that house the on-site workforces of BHP, Woodside and Rio Tinto.

Companies that are this geared to capital expenditure in the mining sector are obviously highly sensitive to any changes in spending. Increases in capex will likely see the share price rise and drops will see it decline. With the moderation in the commodities boom seeing many resource stocks take a hit, investors need to proceed with caution.

But there was more positive news in the last quarter of 2012 with China’s growth numbers stabilising and commodity imports increasing, helping bump up the price of iron ore, and markedly improving sentiment in the sector.

Crucially, capital expenditure in the oil and gas sector, and LNG, where Decmil is focusing much of its attention, is still on the increase, meaning that cashflow and demand for its accommodation, particularly its so-called build-own operate contracts should continue. Indeed, DCG raised $110m in the past five years – the majority in 2012, to fund expansion into these build-own operate markets in several oil and gas operations. Decmil’s order book now exceeds $400m, providing a healthy income stream.

More good news has emerged late last year, with Decmil winning a $30m contract to construct facilities for Rio Tinto’s iron ore operation in the Pilbara.

Management ownership of the stock is moderate at 14 per cent but managing director Scott Criddle has $1.9 million of his own money on the line, which inspires a degree of confidence.

Moreover, management has a good track record, with an average normalised return on equity of 16 per cent over the past five years, forecast to rise to 23 per cent next year. Profit growth has exceeded 20 per cent in the two most recent years and, since 2007, revenue has grown at a compound annual rate of 70.6 per cent. Net profits after tax have done even better increasing from a loss in 2007 to $39m in 2012.

We have a valuation on the stock of $3.17 for 2014, assuming it can achieve our forecast return on equity.

Decmil seems well placed to benefit from continued capital expenditure in the resources sector. Good diversification of projects, a strong pipeline of contracts and competent management mean we expect buyers of this stock to do well over time.

Company: Decmil Group (DCG)
Current price: $2.48 (31st January)
Forecast value: $3.17 and above ++
Potential upside: 28 per cent

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Investors should not rely on this information alone and should seek independent financial advice from a qualified expert before considering any share market investment.
++Fair or forecast value is the price placed on the share after calculating a range of factors including profitability, assets, debt and, most importantly, Return on Equity – the same measure used by Warren Buffett to assess long-term value.

Shares are assessed by Clime Asset Management to calculate which companies are undervalued or over-valued based on their return on equity. History has shown that the most successful companies are those that produce the highest returns per dollar of shareholders' equity, yet this is not typically how shares are valued. This system highlights shares that are undervalued on this key measure. Shares are expected to reach this value in 3-5 years, as price tends to follow value in time.

Information is intended as a guide only. For specific advice contact your financial services professional.

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