Equipment rental companies are an essential part of keeping the construction industry operating smoothly.
Heavy equipment like scaffolding and JCBs are too costly for all but the largest of construction firms to own, so the presence of middle men willing to rent out these big-ticket items is essential to smaller contractors. Therefore, if people are tightening their belts, equipment hire firms may be the first to feel the pinch as smaller projects are cancelled and contractors rent less kit.
Equipment rental company Ashtead (LSE: AHT) released its first quarter results earlier this month and today I’ll be scouring them for any sign of a change in the UK market post-Brexit.
All’s a-ok at A-Plant
Ashtead owns A-Plant, the UK’s largest equipment rental company with 156 stores. I’d therefore expect to see any recession warning signs in A-Plant as early as anywhere else. But Q1 Rental revenue grew 13% at A-Plant, an impressive result that implies construction is hotting up, not grinding to a halt.
Management describes end markets as strong and I can find nothing that points toward recession in this report. In fact, I’ve not seen any results negatively impacted by Brexit outside of financial companies who might have seen their asset under management figure fall in line with markets temporarily.
So what does this mean for Ashtead? Is it a buy?
American opportunities abound
A UK recession would be bad news for Ashtead as it would for anyone doing business in Britain, although the company only derives 15% of revenue from the UK.
The company generates the vast majority of profits from its US operation, Sunbelt. It’s the second largest equipment hire firm in the US, but commands only 6% of an extremely fractured market. This has created an opportunity for consolidation and Sunbelt has been growing through successful bolt-on acquisitions.
This seems a sensible strategy because scale is a serious advantage in the rental world, enabling larger companies to buy equipment in bulk at lower costs. Cheaper equipment means large operations like Sunbelt can choose to either pass on savings to customers or to increase margins, an attractive position to be in.
Larger companies can also own a more diversified range of equipment and transfer it between branches when necessary to ensure a higher utilisation rate. This matters because equipment that isn’t being used is expensive to store and maintain, without bringing in any revenue to offset these costs.
Ashtead shares have jumped 19% in the last three months, largely due to Brexit-based fears abating, but it still trades on a reasonable 15 times earnings. Barring a recession in the US, I believe Ashtead could be fairly priced considering the opportunity in front of it. Unfortunately, that’s a big if. I believe a recession to be unlikely, but if history has taught us anything, it’s tough to predict where we are in the cycle. Therefore, I’m not confident enough to own Ashtead at current multiples, although a 20%-30% reduction in share price might tempt me.