Riding a strong upgrade cycle

Crestchic (LOAD:272p), a fast-growing business that makes, sells and rents load banks and transformers for the commissioning, testing and maintenance of independent, off-grid power sources, has issued its fourth earnings upgrade this year, and it's another massive one, too.

New factory capacity at the expanded Burton on Trent facility is now onstream and the group’s order book is at record levels, the issue – and one that any finance director would welcome – is managing the ramp up in production capacity and utilisation rates to meet robust end market demand. Crestchic is seeing notable demand in its high-margin rental business (divisional revenue surged 43 per cent to £12.4mn), highlighting its exposure to secular growth themes: data centres, grid security, renewables, and battery farms. Revenue growth was across the board, hardly surprising given that these themes are playing out globally.

Moreover, higher utilisation rates are benefiting gross margin (up from 44.3 to 49.5 per cent) as has forward purchasing of inventory which has improved product availability and avoided subsequent price increases. Although costs have increased, too, Crestchic has been able to pass on higher prices to customers to mitigate margin pressures, such is its pricing power.

The upside of rising gross margin in a positive sales cycle on a company with a relatively fixed cost base is that an increasing amount of incremental gross profit earned passes through to operating profit. This explains why operating profit surged 131 per cent to £4.2mn, rising almost four times more than revenue. Analysts have taken note. Both Equity Development and Shore Capital pushed through near 25 per cent upgrades for both this year and next, pencilling in full-year pre-tax profit of £9mn and earnings per share (EPS) of 24.6p, rising to £10mn and 27.4p in 2023. Moreover, they have raised their dividend per share estimates sharply to 4p and 5p, respectively, up from 1p in 2021. Crestchic is expected to end the year with net cash of £2.5mn, a sum that could treble to £7.5mn, or 10 per cent of its market capitalisation, by the end of 2023 driven by estimated free cash flow of £5.4mn.

Given the scale of the multiple earnings upgrades, it’s hardly surprising that Crestchic’s shares continue to outperform the market, rising by 13 per cent since my last update (‘A data centre winner’, 9 August 2022), and 116 per cent higher than when I initiated coverage a year ago ('Alpha Research: A high-growth play on the battery storage boom’, 7 September 2021).  However, they still only trade on a forward price/earnings (PE) ratio of 10 for 2023, a modest rating in light of the secular end market demand drivers.

Equity Development has raised its target price to 360p (from 283p) and PMH Capital upgraded its target from 330p to 400p (based on an enterprise valuation to cash profit multiple of 10 times and 12 per cent post-tax return on capital). I am following suit, raising my own target from 300p to 350p based on a target 2023 PE ratio of 13.

I would also point out that the £76mn market capitalisation company should appeal to predators given its geographic spread of business – half of revenue comes from overseas – high return on capital employed, improving free cash flow generation and the increasing hidden value in its rental fleet that is insured for £40mn, or six times carrying value. Buy.

Simon Thompson was named Journalist of the Year at the 2022 Small Cap Awards

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