News: KOV Korvest Expects 1H FY19 To Result In A Profit Before Tax In Line With 2H FY18, page-4

"Anyway, the figures I have for H2 were:
H2 Revenue = $27.4m
H2 Profit = $1.3m"


@jaluma,

You have calculated H2 Revenue correctly, but you seem to have made an error in determining H2 Profit.

Recall that the guidance was for Pre-Tax Profit in DH2018 to be similar to Pre-Tax Profit for JH2018.

FY2018 Pre-Tax Profit was $1.902m and for DH2018 it was $0.774m, so JH2018 Pre-Tax Profit was $1.13m.


At any rate, I understand that its not perfectly convenient having to calculate second-half figures by subtracting first-half numbers from full-year figures, but in this company's case I don't think any guidance put forth by management can ever really be very meaningful.

The reason I say this is because Korvest has quite limited visibility into its galvanising business (work literally comes into the yard on a daily basis, and gets done on a batch basis, meaning there is very little signalling from customers ahead of them delivering stuff to Korvest's plant).

And even in the EzyStrut business, where one might expect there to be a greater degree of predictability given the discrete nature of the infrastructure projects that consume Ezystrut's products, even in this business there is a elevated variability of dispatching given that the exact timing by which contractors need to take delivery of cable trays and accessories is impossible to know, given the nature of major construction projects. (Often Ezystrut is busy producing to order, but then the contractor calls a halt on dispatches because because of some or other on-site delays. Conversely, sometimes contractors suddenly need product "yesterday" and Ezystrut has to scramble to fulfil the order.)

So, I wouldn't get too hung up on "guidance" from Korvest because, while it points to around $1.1m Pre-Tax Profit for the current half, my strong suspicion is that it is conservatively struck (for the very reasons discussed above), and it could quite easily come in at a level somewhat higher than that, depending on the specific timing of dispatches over the next few months.

The lumpiness of earnings is another reason I think that the better way to value KOV is not based on accounting profits recorded in any given financial period, but - rather - in terms of the cash generating ability of the business at various points of the business cycle.

For context, over the past 3 years alone - and remember, that's a time frame that coincided with a severe post-commodity boom slump - KOV generated $6.5m in FCF (actually, it was more than $10m, but there was $3.8m of working capital release from lower inventories), which is equivalent to almost one-third of the current EV of the company.

So that's one third of the current EV represented by core FCF (excl. working cap reductions) generation in just 3 years, during the ugliest period of the cycle.
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At the mid-point of the cycle, KOV's Free Cash Flow is typically around $3.0m pa to $4.0m pa. At the current EV of $23m, that equates to a FCF Yield of 13%pa to 17%pa.

And when the company is operating at full capacity, it generates Free Cash Flows of around $6.5m pa to $7.0mpa (corresponding to a FCF Yield in excess of 25%pa).


Now I can't say for sure when the next cycle peak will be (my best guess is that it will occur some time over the next 3 years based on all the infrastructure work in the pipeline), and I suspect that we will be at something akin to "mid-cycle" between now and then, i.e., sometime in the next 12 to 18 months.

If I am right about the trajectory of demand for KOV's products and services, based on the strong upcoming macroeconomic picture being portrayed by companies and economists - and assuming a typical cycle of 2 years' upswing (@15%pa FCF Yield), 2 years at the peak (@ 25%-30%pa FCF Yield) and 1 year of cyclical moderation (@15% pa FCF Yield) - it means that KOV will basically generate its EV in cumulative FCF over just the next five years.

And, given the board's strong dividend remit, all of those Free Cash Flows are expected to find their way in the pockets of shareholders.