AVAX — Record work-in-hand points to strong growth

AVAX made good strategic progress in H123, notably by completing the sale of its 100% subsidiary, Volterra, marking its full divestment from energy sector operations. As mentioned, in our initiation note, in June 2022 it sold a 112MW capacity portfolio of Volterra’s renewable energy source (RES) projects to PPC Group, generating a capital gain of €39.1m. The remaining retail segment was sold in August 2023 for initial cash proceeds of €6m, in addition to a further €7m advanced payment. Should certain medium- and long-term targets be met, the total transaction price has the potential to reach a maximum of €24m, which compares to disposal group net assets of €22.7m at end FY22, implying a €1.3m book profit.

H123 continuing operations saw revenues decline marginally by 1.1% to €192.2m, largely due to delays in starting new construction projects awarded during the year, mostly outside Greece. International revenues fell by 85% from €110.8m to €16.9m, which offset the notable increase in Greek revenues of 109.1% to €175.3m, reflecting a pick-up in newly secured projects.

Overall gross profit improved to €9.8m from a loss of €3.3m in H122, although this masked a substantial mix shift between domestic and international activity. Domestic activities generated a gross profit of €34m compared to €6.8m in H122, while international delivered an H123 loss of €24.2m compared to a loss of €10.0m in the prior year.

In terms of its reported EBITDA, AVAX includes the contribution from concession operations, although most of these are associates where only net income is reported at the pre-tax level in the group accounts. A minority of the concessions are fully consolidated and generate a few million euros in revenue. The presentation thus increases the group EBITDA margin, but, as we show in Exhibit 2 below, the construction segment generated a positive H123 EBITDA margin of 6.8% despite the international losses, a substantial improvement from the EBITDA loss witnessed in H122. Income from associates (mainly concessions in which AVAX holds a minority stake) stood at €18.1m, up 10.8% y-o-y.

In the past three years, AVAX has aggressively reduced debt through the strategic sale of mature concessions (in line with its long-term strategy) and non-core assets (eg the Volterra and RES projects). In H123 the company reported net debt (excluding lease liabilities) of €208.2m, a record low for the past 15 years, representing a decrease of €12.2m compared to FY22 and a decrease of €130m compared to H122. This was largely attributable to positive operating cash flow of €32.2m (H122: -€51.1m), supported by favourable working capital movements of €25.4m. This more than offset the decrease in investing cash flows to €7.7m (H122: €58.4m), which suffered from the lack of €54.4m in income from the disposal of subsidiaries included last year. The anticipated acceleration of Greek construction activity should bolster future cash flow generation, aiding the continuing reduction of bank debt and easing the leverage ratio to a healthier level in the 2–3x range (FY22 net debt/EBITDA was 4.3x).

AVAX boasts a current record work-in-hand level of c €3.2bn, with c 66% of backlog projects already commenced. Work-in-hand stood at €2.7bn at H123, a 45% increase compared to FY22, with an additional €478m signed in the third quarter. The largest new contract, signed in Q323 and awarded by Mass Group Holding, involves the construction and commissioning of a 1,750MW combined-cycle power plant in Romania, worth €673.5m. These additional secured projects pave the way for future free cash flow generation, with increased pipeline momentum set to continue as AVAX is prequalified and participating in the bidding process for numerous tenders for public-private partnerships (PPPs) and concessions.

The level of booked activity and burgeoning Greek construction project pipeline (four projects secured in Q323 with a combined value of c €300m) underpin our expectation that the group’s financial performance should strengthen in the near future. We also expect these factors to continue to drive a significant shift towards domestic activity, although international market opportunities are likely to be pursued where appropriate.

Management believes it is beginning a period where it can sustainably deliver improved profitability, which should allow for enhanced shareholder returns. The announcement of a €0.07 gross dividend for FY22 was the first for many years and reflects improved management confidence, with room for growth as the company secures additional cash flow streams.

Despite challenging macroeconomic headwinds, characterised by a surge in interest rates and persistent inflation in essential goods, Greek real GDP continued to show sustained robust growth of 2.5% in H123, which is expected to continue through the latter half of the year and into H124. Significant private and foreign investments are progressing, alongside increased disbursements from the Greece 2.0 Recovery Fund, boding well for the domestic construction industry. In terms of government funding of projects, Greece ranks number two globally for its procurement of infrastructure projects using PPP finance as a percentage of GDP.

AVAX is poised to benefit from the anticipated surge in Greek infrastructure investment, with management expecting improved cash flow generation driven by heightened construction activity and a robust backlog of projects contracted from 2022. In addition, the Greek construction sector was hit hard in the decade following the debt crisis that began in late 2009, meaning few companies survived the downturn. This reduced competition, which should benefit AVAX’s construction margins. The gradual reduction in benchmark interest rates by the European Central Bank (ECB) to more normalised levels (consensus forecasts the first cut in H224) should further catalyse the widening of these margins. In addition, the regained investment-grade status of Greece’s credit rating for the first time since the eruption of the debt crisis will enable companies like AVAX to benefit from reduced and less volatile funding costs, which should help improve market perception and investor confidence.

As mentioned in our initiation note, AVAX opts for a more conservative approach to bidding in order to ensure stable cash inflow with reduced risk. It now bids for the majority of larger projects in the market, competing with its three main peers, and typically wins c 20–25% of the projects for which it bids, according to management. Combined with improvements in Greek infrastructure investment, this selective approach could secure an improved rating for the company.

AVAX’s current portfolio of projects is likely to result in very strong revenue growth, which will largely be recognised in FY24. Construction project delays have substantially affected FY23, leaving potential for strong year-on-year growth in future years as more projects are secured and revenue is subsequently recognised.

In FY23, we expect group revenue to remain broadly flat at €402.2m (FY22: €402.7m) with a 1% reduction in construction revenue to €371.7m, offsetting increases of 20% to €5.7m in concessions and 10% to €24.7m in other activities (real estate and marinas). Our FY23 adjusted EBITDA forecast of €51.3m is a 12.0% decrease compared to the previous year and reflects continuing construction project delays alongside the loss of the Rio Bridge concessions participation in FY22 (concessions EBITDA decrease of 19.9% from €38.7m in FY22 to €31.0m). The implied adjusted EBITDA margin of 12.7% is moderately lower than the 14.5% achieved in FY22. In FY24 we expect a large proportion of the recently secured construction projects to commence, bolstered by a current record order backlog, and consequent substantial revenue to be recognised. We anticipate FY24 revenue and adjusted EBITDA increases of 111.6% and 75.6% y-o-y to €850.9m and €90.0m, respectively.

AVAX’s progressive net debt reduction should have a substantial impact on net finance costs, which we expect to reduce from €20.7m in FY22 to €17.1m in FY23 and €12.6m in FY24, despite this year’s surge in interest rates. We expect this to be offset by the impact of continuing construction project delays in 2023e, reflected in our anticipated decrease in continuing, normalised PBT from €25.1m in FY22 to €19.6m in FY23. However, our 2024e forecast of €61.4m in FY24 incorporates the anticipated substantial recovery in project delays alongside a record work-in-hand level with a large influx of construction projects anticipated to commence. In FY23, we forecast continuing net income of €16.1m (FY22: €19.2m), yielding a diluted continuing EPS of €0.11/share, representing a 15.4% y-o-y decrease. Note that our diluted EPS calculation incorporates our assumption that the distribution of 4m bonus shares among staff, authorised at the AGM in June 2021, is likely to be exercised before expiry in June 2024.

Our FY24 net income forecast of €47.4m, implying diluted EPS of €0.32/share, highlights the significant value of AVAX’s work-in-hand that is yet to be unlocked. We expect the backlog to continue to increase at a more normalised, moderate pace in the long term, driven by the major infrastructure projects to be tendered in the coming years, which should play a large part in driving future revenue growth and cash generation.

With a visible track record and priority of deleveraging, we anticipate FY23 and FY24 net debt (excluding lease liabilities) of €184.3m and €176.8m, respectively, implying a healthier FY24 leverage ratio of 2.0x, underpinned by top-line growth and increased profitability. This compares to 3.8x in FY22. The company also demonstrates a positive sustained net asset position with expected continued growth. Net assets in FY22 stood at €154.9m. We expect this to increase consistently year-on-year, reaching €193.4m in FY24.

AVAX has a visible track record of positive continuing operating cash flows, which we expect to increase by 18% to €15.5m in FY23, largely due to more favourable working capital movements (positive compared to negative in FY22). We forecast reduced cash inflow from investing activities in FY23 of €60.8m (FY22: €158.8m), almost fully attributable to the lack of Volterra disposal income absorbed in FY22. Overall, we expect positive net cash flow for FY23 of €33.3m and a smaller €7.6m inflow in FY24, attributable to less favourable working capital movements and the exclusion of net disposal of group assets held for sale (we forecast €22.6m in FY23 from the disposal of the retail segment of Volterra).

AVAX’s stock price has rallied strongly recently, with the broader market also rallying and reflecting the wider rapid improvement in the Greek economy. As AVAX secures more construction projects at higher margins, we expect the share price to approach the potential value of the company. In this section we outline our combined three-stage tapered discounted cash flow (DCF) enterprise valuation for subsidiaries (primarily construction) and value for associates (mainly concessions), and look at how the company’s multiples compare with its peers. On this basis, we value the stock at €3.2/share, which implies 87% upside from the current share price. We also note that the shares trade at an FY24e P/E discount to peers of 60%, with a current dividend yield of 4.1% at the upper end, which supports our valuation.

We value the subsidiaries (mainly consisting of construction projects) at €339.8m (€2.3/share) using a three-stage tapered DCF, with the following key assumptions in the model:

Free cash flow included in this DCF calculation includes the totality of the construction division and real estate, in addition to the Athens Marina (99.84% participation) (ie all of the subsidiaries). To put it in perspective, our valuation of €2.3/share for subsidiaries (excluding associates) alone represents 35% upside to the current share price. The current share price of €1.71 implies a WACC of more than 12%, which in our view looks unreasonably high considering the sustainable growth prospects and secured long-term cash flows with a record order backlog.

The sensitivity of our assumptions is reflected in the table below, indicating differing terminal value growth rates and WACCs. For example, raising our terminal value growth from 0% to 2% gives a value of €2.6/share, representing 52% upside to the current share price.

We value the majority of AVAX’s associates based on FY22 fair value, albeit for the near-expiring Athens Ring Road concession valuation we use dividend share for the remaining concession period (which expires in October 2024), alongside share of equity on liquidation with adjustments. Typical dividends for this concession are c €90m annually and the equity return to shareholders on liquidation of the concession amounted to €183m (for 100% participation) at mid-2023. We note that there is potential for additional income from this concession for foregone revenue due to elections (no tolls operating), the COVID-19 pandemic (traffic lockdown) and other externalities.

We obtain a total valuation for associates of €433m, €138m above the recognised book value of €295m. Operation of these critical assets provides the company with long-term and visible cash flow streams (up to 2061) with scope for contract renewals and additional PPP project adoption with c 12–13% targeted internal rates of return.

Exhibit 10 shows our total valuation for AVAX of €3.2/share, implying 87% upside to the current share price of €1.71. As mentioned earlier, we use a diluted number of shares, incorporating our assumption of the likely distribution of 4m bonus shares to staff.

Exhibit 11 shows a selected list of AVAX’s European peers, with the three in bold being its largest Greek competitors. AVAX currently trades at P/E multiples of 15.5x in FY23e and 5.3x in FY24e, representing a premium of 24% and a discount of 60% to European peers, respectively. Its gross dividend yield of 4.1% is at the upper end of its respective peer group. Our valuation of €3.2/share suggests significant upside potential.

In FY23, Greek construction companies responded well to the strengthening Greek economy, notably Intrakat and AVAX, which were up c 214% and 118%, respectively. It is important to note that AVAX’s current order backlog, which exceeds €3.2bn, is significantly higher than those of its three Greek construction peers (averaging c €2.5bn). Given the record order book combined with an improving balance sheet, the discount to foreign peers appears unwarranted to us and should narrow in our view.