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Macmahon Holdings (ASX:MAH): update with management

We caught up with management this week.

Ten years ago this stock hit $1.60. Just over three years ago it was a bit above 4 cents. It’s now 25.5 cents and on the way up. The history shows what perhaps is possible in the future. But it also tells us the company has been through some very dark times.

It is this bad history the market remembers most and why the stock trades cheaply despite a strong recent resurgence in earnings.

If the past was just about the cycle MAH would probably be trading higher already, but a lot of the company’s poor performance was self-inflicted – ultimately taking too much contract risk for too little potential reward.

It is a mining contractor after all, so we don’t expect monstrous multiples, but by being smarter the management are developing a culture of more earnings certainty (at least than before) and are also looking to diversify its markets.

The key change is to inject an alliance-style model into its contracts. It means MAH is incentivising its clients to work more closely with them to ensure satisfactory outcomes by sharing in any result that beats the contracted targets … ie for jobs that come in cheaper or produce more tonnages than budgeted. Where in the past the client simply demanded an outcome regardless of changing conditions, the new model will allow for a degree of flexibility to work around potential problems. In the end there is likely to be less disruption and higher incentive to perform. MAH does a lot more pre-contract analysis than it did in the past and knocks back a lot more projects than it would have in the past. It is also sticking to reliable commodity exposures such as copper, gold and hard coking coal.

The early result is a strong rebound in earnings that was back-ended into 4Q of FY18. This suggests strong momentum heading into FY19. As does the contracts lined up in front of the company, the fact that it has allocated most of its gear and the guidance given of up to 95% ebit growth this year without factoring in any alliance-style bonuses. This is certainly not factored into the share price.

The balance sheet is in a net cash position and management expects to diversify via acquisition over then next couple of years. It recently bought civil contractor TMM which was balance sheet constrained yet with a very strong market reputation. MAH will be able to fund the company into bigger contracts and take its civil expertise into its home state of WA (from its QLD stronghold). The company also has ambition to expand its underground mining presence via acquisition. Watch this space.

It’s refreshing to see a good old brand name revitalised with smart management. It doesn’t hurt that the cycle has turned in its favour, but we are yet to see the market properly respond. As the momentum unveils over the next year we should see the stock re-rate considerably.

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