Downer EDI Limited surges 4% on an intelligent acquisition: is now the time to buy?

A forward PE ratio of just 8 makes Downer EDI Limited (ASX:DOW) very appealing.

| More on:
a woman

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Downer EDI Limited (ASX: DOW) is a maintenance and engineering contractor focussing on the mining, large infrastructure and rail sectors. On Monday the group announced the purchase of Tenix Holdings Australia for $300 million in a purchase that promises to address the forecast fall in earnings per share.

Strong Core Business

Downer's core business of infrastructure maintenance and maintenance of rail rolling stock remains surprisingly profitable and has picked up much of the slack from a decline in mining construction spend. Years of conservative growth saw the company's balance sheet exit the mining boom in excellent shape, and smart management diversified the company away from mining contracts into many long-term rail and infrastructure maintenance contracts.

Sensible Acquisition

The purchase of Tenix will boost Downer's exposure to the defensive energy, gas and water industries which will provide the company with a greater proportion of recurring income. Importantly, Tenix only generates around 15% of revenue from the mining and energy sector and the purchase will not require excessive gearing or the issue of shares.

Earnings Boost

Downer's management expects the purchase to be immediately earnings per share accretive, however the actual impact is unknown. For your interest, I did a little math to find out what MIGHT happen:

If the company was purchased on a P/E ratio of 10 (assuming a cheap price for low growth), net profit for the year could be increased by $30 million. Downer recorded profit of $215 million in the 2014 financial year and was expected to record a 5% fall to around $205 million this financial year.

The purchase will settle on October 31, indicating 8 months of contribution from Tenix, or a $20 million addition to profit, bringing the theoretical total to $225 million – a 5% INCREASE on last year. Now if we assume purchase costs of $5 million, net profit could fall to $220 million for the 12 months to 30 June 2015, or 51 cents per share (a 2% increase from 2014).

Cheap, Reliable Earnings

I'll be honest; I've never actually spent much time looking at Downer EDI. I always assumed they had massive exposure to mining and thus I wasn't interested. Its exposure will likely be around 30% of earnings following the purchase, which is manageable.

Based on my quick analysis, Downer is currently trading on a 2015 price to earnings ratio of just 8.2. Even if mining earnings fell to zero, the PE would increase to around 12 – not very demanding for a company with new growth and cost-out opportunities.

Motley Fool contributor Andrew Mudie does not own shares in any companies mentioned. You can find Andrew on Twitter @andrewmudie

More on ⏸️ Investing

Close up of baby looking puzzled
Retail Shares

What has happened to the Baby Bunting (ASX:BBN) share price this year?

It's been a volatile year so far for the Aussie nursery retailer. We take a closer look

Read more »

woman holds sign saying 'we need change' at climate change protest
ETFs

3 ASX ETFs that invest in companies fighting climate change

If you want to shift some of your investments into more ethical companies, exchange-traded funds can offer a good option

Read more »

a jewellery store attendant stands at a cabinet displaying opulent necklaces and earrings featuring diamonds and precious stones.
⏸️ Investing

The Michael Hill (ASX: MHJ) share price poised for growth

Investors will be keeping an eye on the Michael Hill International Limited (ASX: MHJ) share price today. The keen interest…

Read more »

ASX shares buy unstoppable asx share price represented by man in superman cape pointing skyward
⏸️ Investing

The Atomos (ASX:AMS) share price is up 15% in a week

The Atomos (ASX: AMS) share price has surged 15% this week. Let's look at what's ahead as the company build…

Read more »

Two people in suits arm wrestle on a black and white chess board.
Retail Shares

How does the Temple & Webster (ASX:TPW) share price stack up against Nick Scali (ASX:NCK)?

How does the Temple & Webster (ASX: TPW) share price stack up against rival furniture retailer Nick Scali Limited (ASX:…

Read more »

A medical researcher works on a bichip, indicating share price movement in ASX tech companies
Healthcare Shares

The Aroa (ASX:ARX) share price has surged 60% since its IPO

The Aroa (ASX:ARX) share price has surged 60% since the Polynovo (ASX: PNV) competitor listed on the ASX in July.…

Read more »

asx investor daydreaming about US shares
⏸️ How to Invest

How to buy US shares from Australia right now

If you have been wondering how to buy US shares from Australia to gain exposure from the highly topical market,…

Read more »

⏸️ Investing

Why Fox (NASDAQ:FOX) might hurt News Corp (ASX:NWS) shareholders

News Corporation (ASX: NWS) might be facing some existential threats from its American cousins over the riots on 6 January

Read more »