If you haven’t already (or just want a reminder), I strongly suggest that you read my original investment case for Consolidated Infrastructure Group (CIL) over here.
In summary, while details have moved around and time has passed, the major thrust of my investment case for CIL has not changed.
You can probably stop reading here. The rest of this article will be a touch technical regarding some details of the Group and my valuation thereof, but the relevant point is that I have not changed my view of CIL: I still like it and, in fact, see it as even cheaper now and its prospects even brighter given its Conlog acquisition.
Now, some detail for those of you who want it…
Almost all of my assumptions for CIL’s Power Segment (i.e. Conco) are proving (at least in the short-term) to be a bit conservative. The Order Book has grown a little faster than I expected and the Group–despite some disappointments across “greenfields” avenues like its maintenance business–is generally doing excellently with an Order Book up to R5bn (excluding c.R2.3bn of renewables projects that would’ve added c.R400m revenue). Conco’s Order Book grew 20% (c.78% if you include the R2.3bn in delayed renewables orders in the business).
Updating my Power segment’s fair value for CIL, I arrive at a fair value of R4.4bn or c.2150cps per CIL share. This is a bit of a conservative view of Power’s fair value in my opinion. But the business is still in a growth phase and it is drawing down a lot of cash for investment into working capital, thus a little conservatism is perhaps justified. (Note: This fair value is quite a bit below my previous fair value for Conco, but the risk-free rate in South Africa has risen, I have hiked my CAPM beta, and I have lowered the contribution of debt in my WACC calculation to show a slightly more conservative gearing structure. Both influences have driven fair value downwards, despite improving fundamentals.)
So what is the market currently paying 120cps per CIL for?
Well, let me show you something here (Source: CIL):
That is the breakdown of CIL’s Group profits. As you can see, the Power segment is a large contributor, but definitely not the only one (in fact, Power only makes up c.43% of historic profit and even less of post-Conlog forward earnings). The rest of the Group generates profits of c.R224m or c.110cps (even after Conlog’s rights issue, but excluding Conlog’s profits… I.e. This is massively conservative!).
So you are paying 1.0x Price Earnings for the rest of CIL’s Group and getting Conlog free. That feels very, very cheap… But, once again, let me be conservative: AES may turn out to be worthless (unlikely, in my opinion, but again: we’re being conservative) as AES is stuck out in Angola. Thus, let’s discount AES’s profits to nil. The rest of non-AES CIL generated c.43cps EPS per CIL share. This means that at 120cps, you are paying 2.8x PE for the rest of CIL’s Group. I think that is cheap, but let us assume that the market is correct here.
At this point I’d like to repeat the earlier point I made above: no matter what PE of 2x or 5x or 10x that you should be paying for the rest of CIL’s non-AES businesses, you are still getting Conlog free.
Just what is Conlog?
I am not going to repeat what is already out there. Go and read CIL’s results presentation over here, but refer specifically to slides 35 to 39. Here CIL discloses both what Conlog’s business is and just how big it is relative to CIL.
In summary, though, for those of you who are not going to go and read this document:
- Conlog is a smart metering business with major local, African and international business that focusses on prepaid electricity in Emerging Markets. This is a booming market and will likely remain a booming market.
- 60% to 70% of Conlog’s revenue is from outside of South Africa with its sales predominantly to utilities and distribution companies across the world. Conlog is pretty much a global player here with some valuable intellectual property. Fact.
- African prepaid meter market expected to grow at 15% real growth rate (i.e. excluding inflation).
- Using what CIL has disclosed as the effective pro-forma effects of the acquisition and reverse engineering them, I have arrived at the conclusion that Conlog generated revenues of c.R450m in FY 15 and Profit After Tax of c.R125m. This is only my guestimates, but they are also historical in nature and I would expect future numbers to be bigger as Conlog grows.
- I.e. Conlog is both exciting and big in CIL’s life.
Just to put this in context, Conlog’s R125m translates into 61cps per CIL share. This is all on its own and assuming zero growth. Now put that 61cps at a 10.0x to 15.0x PE and see where you get for CIL’s sum-of-the-parts…?
What I am saying here is quite simple: far from my opinion remaining unchanged about CIL as a great investment, I think it has actually gotten better as an investment (both cheaper as a share and better as a Group).
I’m almost embarrassed to release my view of what CIL’s fair value is because the potential implied returns here are massive. I could be wrong, but I think the margin of safety here is sufficiently wide that I am currently holding CIL as my Small Cap Fund’s largest investment.