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Spend to greatness

9 Dec 2015 By John Foley

One cycle turns down, while another rides upward. Even as mining and energy groups cut dividends and slash spending to deal with falling prices, UK construction-hire group Ashtead’s earnings on Dec. 9 show what happens to capital-intensive businesses when times are still good. While it is small, with a market capitalisation of just 5.6 billion pounds, the total return from the company’s shares has beaten the FTSE All Share Index 18-fold in five years, according to Eikon data, mostly because it is still spending like crazy.

Ashtead buys, rents and then sometimes sells building equipment. Every penny it has earned over the past five years – and more – it has invested in new kit. That gives rise to negative cashflow, but because U.S. construction is growing in the regions where it operates, earnings are increasing handsomely. Results published on Oct. 31 saw them climb 25 percent year-on-year. Dividends are paid by taking on debt, which increased by a quarter over the past year. But annualised EBITDA, the profit measure often set against borrowings, is rising faster.

If the cycle turns down, a company like Ashtead can stop buying or replacing new machines, and churn out cash from its fleet. That should hold provided that rental yields, and the resale value of its machines, don’t collapse. In the energy sector, to which Ashtead has only small exposure, hire groups are offering discounts of up to 30 percent, according to Jefferies research.

It will be hard, perhaps impossible, to sustain Ashtead-style share price outperformance through the cycle. The management skill is to judge the right time to stop expanding. Ashtead’s call might be easier than for a miner, chemicals company or a steel maker, since diggers consume less capital than mines or oil rigs and operate on shorter time horizons. But whether Ashtead can beat the cycle as well as ride it is a question investors don’t yet have to ask.


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