Get defensive with Inspired

In January, we suggested gas producer Serica Energy (SQZ) as a way for investors to make some gains on the back of spiralling energy costs. A significant increase in Serica’s share price has now been wiped away as the market has priced in the new windfall tax (Stifel even knocked its target price from 453p to 350p in response) but strong earnings remain locked in. 

The fortunes of Serica are indicative of the risks involved in buying into cyclical and politically volatile industries. 

Following the energy cost theme, Inspired (INSE), formerly Inspired Energy, offers another ‘inflation winners’ bet. It acts as a middleman for companies negotiating power agreements and also advises companies on cutting their power usage. 

The recent surge in costs has seen interest rise in its ability to cut power bills, as well as the ‘optimisation’ division, which advises companies on cutting power use. 

Inspired also puts together carbon emission reports, a growing requirement for listed and private companies, with carbon metrics used increasingly as a performance metric, even being linked to debt costs for some companies. 

Bill shock 

The chair of Marks & Spencer (MKS), Archie Norman, put it plainly last week: “The cost of doing business is going up, taxes are going up, regulatory pressures are going up”. The winners would be those who “can trade well in the downturn” and have “efficiency opportunities”, he added. 

This is basically a stump speech for Inspired. Chief executive Mark Dickinson said one major retail client had paid around £300,000 for his company’s services and saved around £20mn over five years as a result. 

At the same time as these services have come into higher demand – demonstrated by news orders* for January and February almost doubling in value compared with last year – Inspired’s share price has come off a quarter, and the 14p share price level is not far off a 12-month low. As power prices are set to remain high, this gives investors an opportunity to buy in at a value level.

Growth is not spectacular on a year-on-year basis, in terms of sales and cash profits, but zoom out to a five-year horizon and it starts looking flashier: sales CAGR over that period is 26 per cent, while cash profits is 8 per cent. The cash profit tumbled in 2020 due to the pandemic (falling from £16.7mn to £11.2mn) but has quickly rebounded, with the consensus forecast for 2022 at £21.6mn as well. 

There are growth plans: Inspired aims to get its enterprise value from around £200mn to £500mn in about five years. Obviously, this could be done by piling on debt and going on an acquisition spree, but Dickinson said he was keen for a “quieter 2022”, after raising equity in 2020 and making a handful of bolt-on acquisitions during the past two years. 

Assurances​​​​

The ‘assurance’ division is Inspired’s bread and butter. It has the strongest cash profit margins – near to 50 per cent – and contributes the most in revenue. The ‘optimisation’ unit, which sells energy efficiency advice and equipment, is set to overtake it in terms of sales by 2023, but with a far lower cash profit margin of around 20 per cent. The catch is Inspired sees the assurance market as “mature”. This means it might be good for 5 per cent growth a year in terms of sales, but won’t deliver serious increases. 

Where added sales are more likely to come from is cross-selling between divisions. 

The new environmental, social and governance (ESG) unit is largely built around quantifying companies’ carbon output, a growing slice of Inspired given the tighter and tighter regulations around releasing this kind of data. Sales for the ESG division were under £1mn in 2021, but this was double the year before. House broker Shore Capital sees sales hitting £4mn in 2024. 

The outlook is very positive for this area. The government brought in new rules around climate risk reporting earlier this year, extending the Task Force on Climate-related Financial Disclosures (TCFD) rules to all listed companies, where previously only those with premium listings in London had to present a higher level of information. 

Greater demands for climate risk data is already driving sales at Inspired: Dickinson said companies coming in the door looking for ESG reporting help and then paying for services from the assurance and optimisation divisions afterwards. 

“Does a company figure out how to comply with legislation themselves? Or do they give it to someone like us to do, when we’ve already got all the data,” Dickinson said. This approach is where Inspired aims to become so invaluable that companies will be unable to unbake the proverbial cake, and choose to go without Inspired’s services. 

Contracts remain fairly small compared with overall revenue as well, mitigating risk from bigger clients pulling contracts. There is one significant risk in the wings, however, in the form of Gazprom Energy, the Kremlin-owned UK gas provider. Inspired said in March that 5 per cent of its revenues were linked to Gazprom contracts, through clients' supply agreements. If Gazprom was to go under this would knock up £3mn from 2022 cash profits. Since March, Gazprom Energy has remained trading and now the German government has taken control of its parent company, in an agreement set to last until the end of September.

Management also flagged some risks from the broader energy crisis as well: “Market conditions, including record high commodity prices, have led to some customers delaying renewals of supply contracts, which is predominantly the point at which assurance customers contract with the group”, Inspired said in March. It added this was likely “a point of timing” issue rather than any greater demand drop. 

Inspiration

Clear competitors for Inspired aren't obvious – there is eEnergy (EAAS), a smaller Aim-traded company that does similar consulting work with a net zero carbon emissions focus. Others include in-house units from engineering giants such as Siemens, although these are focused on selling products internally. eEnergy also noted an uptick in interest because of the energy crisis. 

Inspired does have plenty of parallels with IT firms. Its software services division had a cash profits margin above 70 per cent last year. Sales are only around £2mn but this is a handy contributor to the overall profits figure, something the ESG division will not be for some years. 

Investors would be getting a stable company with longstanding clients. The Gazprom risk is clear – although the market reaction was muted after Inspired outlined the sales and profit knock from a potential collapse – and out of management's hands. The company is on a good path in terms of ESG reporting and has headroom in terms of debt if acquisitions in that space look like an easier way of building scale. As the reality of these new climate reporting guidelines become clearer through this first annual reporting season with them in place, we imagine boards will be running to Inspired's door as well, especially those who already do business with the company. 

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*changed to reflect new orders were double the year before, rather than the total order book