3 Reasons Why DCC PLC’s Rally Is Set To Last Into 2020 And Beyond

Vertical integration of services across most industries means that DCC‘s (LSE: DCC) rally is likely to last well into 2020 and beyond, in my view. On top of that, a raft of available downstream assets owned by oil majors could be had on the cheap, contributing to a stellar performance for the shareholders of one of the FTSE 250 darlings. 

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DCC is up over 10% today on the back of strong annual results, propelled by a wise use of funds. A price target of 7,000p a share to the end of 2017 is conceivable, I’d argue — for an implied 45% pre-tax return, excluding dividends. 

If DCC’s flawless strategy persists, a 2017 forward valuation as low as 10x its net earnings could become a distinct possibility. That would imply an astonishing 2012-2017 compound annual growth rate (CAGR) of 20.6% for earnings, which could come along a 12% CAGR for dividends over the period, according to my calculations.

Here are three reasons why upside could be greater than that, though. 

1. Growth 

A Dublin-based support services firm with a market cap of £3.7bn and a very solid balance sheet (its enterprise value is £3.7bn), DCC is one of the most appealing business services propositions in the marketplace. 

It operates five units, all of which are growing fast and present defensive features. With combined revenues of more than £10bn, its energy and technology divisions dwarf the healthcare, food and beverage and environmental units, whose combined sales amount to less than 7% of the group’s total.

While DCC continues to grow organically and by acquiring assets, its stock offers plenty of value at 4,800p, where it currently trades, based on a few factors including steady margins and sound strategy, rising free cash flow and dividends, sustainable leverage metrics and efficient use of capital. 

A top-down approach also suggests that GCC is well positioned to grow across several sub-sectors and industries where demand will outpace supply for a few years from now, in my view. The industrial world is a good example. 

2. Deals

That said, its shares could offer greater long-term value should DCC entertain a soft break-up at some point — the separation of some of its assets — even under a remote scenario according to which its equity valuation struggles to keep up with its fast pace of growth.

That’s a good option to have if demand for its services subsidies.  

The majority of its sales are generated in the UK, which testifies to the huge potential offered by DDC, which is exploiting its strong equity valuation to do deals. 

The acquisition of Butagaz would represent the largest ever acquisition by DCC and a major step forward in the continuing expansion of its LPG business,” DCC said today when the deal was announced, noting that the French LPG market is the second largest in Western Europe, and approximately twice the size of the market in Britain. DCC aims to expand and as it grows it could become more profitable. It’s bulking up its core energy unit (77% of revenues), paying €464m for the acquisition of Butagaz from Shell, which will continue to concentrate its downstream footprint on a smaller number of assets.

Underlying EBITDA and EBIT multiples of 3.8 and 6.2, respectively” was the implied valuation of Butagaz, which testifies to the opportunity offered to buyers in this market. 

3. Valuation 

The divided is rising and is projected to yield 2% in 2016 — there’s a lot to like in DCC’s rising free cash flow yield and in its dividend policy, which is clearly sustainable and could surprise in future, base on DCC’s cash flow profile. 

The shares trade on net earnings and adjusted operating cash flow multiples of 21x and 12x, respectively, for 2016. Taking into account favourable conditions for support services businesses at this point of the business cycle, as well as considering the way the group is managed, there’s no reason to worry about a stock performance that already reads +65% over the last couple of years. 

We believe there will continue to be opportunities and maybe some of them bigger over the next few years, coming out of the oil majors,” chief executive Tommy Breen said today. 

Go and get them, Mr Breen!

Of course, things can swiftly change in the marketplace, so if you invest now in DCC you must closely follow the company's latest developments, its strategic moves and its quarterly results, among other things. 

Investing is hard but to minimise risk, I advise you to include DCC in a balanced portfolio also comprising some of our top value and growth picks.

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Alessandro Pasetti has no position in any shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.