Mytilineos Holdings SA ADR (OTC:MYTHY) reported solid revenue and EBITDA growth in H1, boosted by the power & gas business. Mytilineos is trading on low short-term multiples (c 8x FY19 P/E and 5x EV/EBITDA), but we believe the stock is even more attractive for investors focused on the strong growth potential driven by long-term projects, which, in our view, the company can finance mostly with its robust cash flow generation. We forecast a 15% net income CAGR in FY19e–22e with the new gas-fired power plant as key driver.
Power & gas boosts H1 EBITDA by 21% y-o-y
Mytilineos reported H119 results with strong revenue growth (+38% y-o-y to €991m) and EBITDA progression (+21% y-o-y to €175m). In line with our expectations, the growth was boosted by the power & gas business (EBITDA up c 3x y-o-y) thanks to higher volumes and margins. The EBITDA for the metallurgy business declined only 6% y-o-y (despite a significant decline in alumina/aluminium prices and despite an exceptionally strong H118), while the EBITDA for the EPC & infrastructure business was broadly unchanged year-on-year.
We forecast +15% FY19–22e net income CAGR
We expect EBITDA to grow strongly in FY19 (+17% y-o-y) driven by a large increase in the power & gas activities and EPC & infrastructure business and a more moderate increase in the metallurgy business. Beyond FY19, we expect a reduction in EBITDA in FY20, driven by lower alumina and aluminium prices followed by a recovery in FY21 and, especially, in FY22 reflecting the contribution of the new 826MW gas-fired power plant. Although we have reduced FY19–21 EBITDA estimates by c 5% (to reflect a more conservative growth estimate for EPC & infrastructure in FY19 and lower alumina and aluminium prices in FY20–21), we increase FY22 EBITDA significantly (+17%), reflecting the commissioning of the new power plant. Overall, we forecast a 10% CAGR for EBITDA and a 15% CAGR for net income from FY19–22e.
Valuation: Short-term value, long-term growth
The stock is trading on undemanding short-term multiples (c 8x P/E and c 5x EV/EBITDA for FY19e), at a large discount to European diversified industrial stocks, and offers strong free cash flow yields (c 13% on average in the period FY19–22). But we believe the stock is even more attractive for investors focused on the strong growth potential deriving from long-term projects, which, in our view, the company can finance mostly with its strong cash flow generation. We have increased our valuation to €14.4/share (from €12.3/share), as the impact of the recent decline in country risk premium and the inclusion of the value creation from the CCGT project more than offset the impact of the lower short-term forecasts.
Business description
Mytilineos operates three main businesses: metallurgy (aluminium/alumina production), power & gas (power production/supply and gas trading) and large-scale infrastructure EPC. The company operates in 29 countries across Europe, the Middle East and Africa and has a workforce of 2,700 employees.
H1 EBITDA up 21% y-o-y boosted by power & gas
On 12 September, Mytilineos reported H119 results with strong revenue growth (+38% y-o-y to €991m) and EBITDA progression with H1 EBITDA of €175m, +21% y-o-y, broadly in line with our forecast of €178m. In line with our expectations, the growth was boosted by the power & gas business (EBITDA up c 3x y-o-y) thanks to higher volumes and margins. The EBITDA for the metallurgy business declined only 6% y-o-y (despite a significant decline in alumina/aluminium prices and despite an exceptionally strong H118), while the EBITDA for the EPC & infrastructure business was broadly unchanged year-on-year.
Although EBITDA increased significantly, net income declined 3% to €81.6m, reflecting the impact of higher minorities (due to a pick-up in profits for power generation and Metka EGN), a higher tax rate and the impact of IFRS 16.
Mytilineos benefited from strong cash flow generation with H1 operating cash flow increasing twofold to €139m (thanks to higher EBITDA and the non-repeat of a negative working capital variation in 1H18). Free cash flow increased to €41m in H119 (vs €16m in H118) despite an increase in capex. Net debt of €422m at 30 June (vs €390m at the end of FY18) reflects the adoption of IFRS 16 (including lease liabilities of €53m in net debt).
For FY19, Mytilineos expects ‘overall significant growth and strong cash flow generation’ and confirmed that the construction of a new gas-fired power plant, a key growth project for the group, will start in October 2019.
Forecasts overview: New CCGT boosts growth outlook
We expect EBITDA to grow strongly in FY19 (+17% y-o-y) driven by a large increase in the power & gas activities and EPC & infrastructure business and a more moderate increase in the metallurgy business. Beyond FY19, we expect a small reduction in EBITDA in FY20, driven by lower alumina and aluminium prices (we revised down FY20–21 EBITDA by 4% to reflect lower prices) followed by a significant recovery in FY21 and, especially, in FY22, which now includes the full benefit of the new 826MW gas-fired power plant. Overall, we forecast a 10% FY19–22e EBITDA CAGR, which translates into a 15% net income CAGR.
We provide more details below for the three divisions of the group.
Metallurgy: in H119 EBITDA declined 6% y-o-y mainly due to the exceptionally strong result in H118, driven by very high alumina prices due to US sanctions against Russia’s Rusal, one of the largest aluminium producers globally, and the partial shutdown of the largest alumina refinery globally, Norsk Hydro’s Alunorte in Brazil. The US sanctions against Rusal were lifted in January 2019 and Alunorte restarted towards the end of H119, sending alumina (and aluminium) prices sharply lower (alumina prices roughly halved since the peak at c $600/tonne around the 1H of 2018). The current low-price environment for alumina and aluminium creates risks mostly for FY20 as Mytilineos has stated at H1 results that it has no hedges in place for next year. The full integration of recently acquired EPALME, the likely reduction in production costs (driven by lower commodity prices and efficiencies/cost cutting efforts currently undertaken by Mytilineos) should partly offset the revenue decline. Based on new lower alumina/aluminium price assumptions, now broadly consistent with current forward prices for FY20 (we assume alumina and aluminium prices c 3% higher than current forwards), we currently expect a c 20% y-o-y EBITDA reduction in FY20 followed by a gradual recovery thereafter. As a guidance the FY20 alumina price is c 15% lower than the average price for 1H19, while the aluminium price is broadly in line. The key growth project is the construction of a new alumina refinery plant; a final investment decision is expected by Q120.
Power generation: we expect FY19 to be a very strong year for the division and see this business as the key growth engine of the group’s growth over the period FY19–22 (see our recent report focusing on the prospects for this business). EBITDA grew more than three times in H119, thanks to higher volumes (driven by higher Greek power demand and lower hydro production, and increased renewable capacity) and margins (high clean spark spreads thanks to higher carbon prices, lower hydro output, stronger demand and very favourable gas import prices for Mytilineos). We expect the strong performance to continue for the rest of FY19, although H218 is a tougher comparison, and we forecast +58% y-o-y EBITDA. Beyond FY19, the key growth driver for this business is the construction of a new combined-cycle gas turbine (CCGT) power plant with installed capacity of 826MW (roughly doubling current gas-fired capacity for Mytilineos), to be commissioned by Q421. With construction planned to start at the beginning of October 2019, we now include this project in our forecasts and assume c €60m EBITDA for the plant in FY22 (for more details on the project and sensitivity to various assumptions, please see our recent report).
EPC & infrastructure: We expect strong growth for this business in FY19 (+26% yoy EBITDA), mostly reflecting normalisation for H219 following a weak H218, although we have reduced our expectations for the year following H1 results. Our forecasts imply a significant pick-up in the growth rate in the second half of the year, after the first half was broadly flat year-on-year. We continue to believe that this is realistic although we recognise that there is little visibility on the timing of the projects. The backlog at the end of H119 increased significantly compared to the end of FY18 (€1.2bn over the next five years vs €1.0bn previously) also thanks to additional projects in Chile, Greece, Slovenia and Australia. In our view, the largest risk to the pipeline remains the project in Libya (€343m contract value or c 30% of the backlog), due to the political situation. We continue to see opportunities from renewables projects (especially solar) and expect increasing profit opportunities from the development of the build, operate and transfer (BOT) business.
Forecasts changes: Lower alumina/aluminium prices and CCGT project included
Our FY19 EBITDA forecast reduces by 6% (reflecting a more cautious estimate for the growth of the EPC & infrastructure business) and we have reduced our FY20 and FY21 EBITDA estimates by c 4% to reflect lower alumina and aluminium prices. On the other hand, FY22 increases significantly (+17%) reflecting the commissioning of the new CCGT power plant. Our net income forecasts for FY19–21 reduce to reflect lower EBITDA, higher minorities, D&A and financial expenses, partly offset by a lower tax rate. Net income increases in FY22, thanks to the contribution of the new CCGT.
Net debt increases significantly reflecting the impact of IFRS 16 (a €53m increase) and the inclusion of the €300m capex for the new CCGT project (we assume capitalisation of interest costs for this project until the plant is commissioned at the end of 2021).
Valuation: Lower WACC, growth project value creation
The stock is trading on undemanding short-term multiples (c 8x P/E and c 5x EV/EBITDA for FY19e) and offers strong free cash flow yields (c 13% on average, pre-growth capex, in the period FY19–22).
We have increased our valuation to €14.4/share (from €12.3/share), as the impact of a lower WACC and the inclusion of the value creation from the CCGT project more than offset the impact of lower short-term forecasts. We see significant upside potential to the current share price, in particular for investors focused on the cash flow generation potential deriving from long-term growth projects.
Following the decline in the Greek country risk premium (Greek 10-year bond spreads vs Germany have roughly halved since the beginning of the year), we have reduced our WACC to 7.5% (from 8.5%). The reduction in Greek bond yields has been a key driver of the strong performance of Greek equities in the year-to-date, including Mytilineos, in our view.
In addition, as we now incorporate the new CCGT in our forecasts, we have included our assumptions for the value creation. This is a key driver of the increase in the valuation for the power & gas business.
While we acknowledge that the market may focus on the downside risks for FY20 due to the current unhedged positions for alumina and aluminium, we believe these concerns are likely overdone. As a sensitivity, a 10% reduction in alumina and aluminium reduces group EBITDA by 14%. Even assuming a rather negative further 10% decline in both alumina and aluminium prices, the stock would trade on only c 11x P/E and offer c 9% FCF yield for FY20, offering good value especially considering the strong growth potential.