Collecting and processing rubbish is not a glamorous or exciting task, but it is an essential process, which is why I believe that companies like Biffa (LSE: BIFF) and Renewi (LSE: RWI) could be great long-term investments.
Renewi was created in 2017 following the €510m merger of UK-based Shanks Group plc and European Van Gansewinkel Groep B.V. With over 8,000 staff operating in nine countries, Renewi is a European leader in the collection and processing of waste. And the company is at the forefront of the recycling industry. Even its name was conceived to showcase its “position at the centre of the circular economy” referring to its reuse of products.
As the world becomes increasingly aware of the impact rubbish is having on the environment, and looks for new ways to reduce and reuse waste, demand for Renewi’s services should only grow. Unfortunately, in the near term, its potential will be obscured by the integration of Shanks and EVG, which is still taking place.
City analysts are expecting the enlarged company’s overall earnings per share to fall by 14.2% for fiscal 2018 as integration costs offset growth. Management stated in a trading update published today that “the group’s overall performance for the year ended 31 March 2018 is anticipated to be in line with the board’s expectations.“
Nevertheless, as the initial integration costs drop off, analysts believe Renewi’s earnings per share will jump 41% in 2019 to 6.9p as the extraction of synergies worth an estimated €40m per annum yields results.
Based on these projections, shares in the company are currently trading at a forward (2019) P/E of just 11.5 and support a dividend yield of 4%.
Shares in Biffa also look undervalued compared to the company’s growth potential. Specifically, at the time of writing the shares are trading at a forward P/E of 10.7 and support a dividend yield of 3.3%.
As my Foolish colleague Roland Head noted at the end of last year, one of the reasons why investors seem to be placing a low valuation on shares in Biffa is the firm’s high level of debt. Biffa reported net debt of £272.2m at the end of the first half. This represents a multiple of 1.9 times the group’s underlying earnings before interest, tax, depreciation and amortisation (EBITDA). A ratio of two times EBITDA or more is usually a reason for concern.
Still, in my opinion, Biffa’s cash flow is robust enough to support this high level of borrowing. For the half year to the end of September 2017, the company generated £55m in cash from operations, forked out £19.4m for capital spending and paid off £19.9m in debt. For the period, free cash flow was £35.1m, or £70.2m annualised, compared to net debt of £305m. In my view, these figures show that the debt pile is under control, and does not represent a risk to its long-term viability in the immediate future.
So overall, if you’re looking for cheap growth stocks that support dividend yields of 4% or more, Biffa and Renewi look highly attractive.
Rupert Hargreaves owns no share mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.