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Why one of the best performing stocks may be running out of puff despite its profit surge

The share price of Monadelphous Group Limited (ASX: MND) jumped to a three-month high after the engineering group posted a big uplift in earnings that should mark the start of its earnings turnaround.

The stock surged 5.7% to $15.81 in after lunch trade, which makes it the second best performer on the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index after camping an auto retailer Super Retail Group Ltd (ASX: SUL).

But Monadelphous’ results weren’t all good news and I think there’s not much more upside to the stock from here for a few reasons.

Before I get into that, here are some highlights from the group’s full year results for the period ended June 30, 2018:

  • Total revenue jumped 41% to $1.8 billion as net profit increased 24% to $71.5 million.
  • This is the first full year profit growth from the company in at least three years with its engineering construction business driving the big uplift thanks to the Ichthys LNG project in Darwin.
  • Its maintenance division also recorded strong growth as resources companies ramp up production in the face of strong commodity prices.
  • Management lifted its final dividend by 2 cents to 32 cents a share. This takes its full year dividend to 62 cents, or 15% ahead of FY17.
  • The outlook for the group is bright with plenty of work in the sector from the infrastructure building boom and buoyant oil & gas and mining activity.

However, this year’s revenue and profit could come under pressure as management is expecting its engineering construction business to go backwards due to the completion of the Ichthys project and the timing of new project starts.

This division contributes a little over half of FY18’s revenue and management didn’t specify what the reduction will be.

The slowdown is expected by the market with consensus only tipping a slight tick-up in both top and bottom lines for FY19.

The other issue is the margin squeeze. Group earnings before interest, tax, depreciation and amortisation (EBITDA) margin was 6.7%, which is below the 7.1% that Macquarie Group Ltd (ASX: MQG) was expecting.

The squeeze is likely due to competition and the increase in infrastructure work, which carries a lower margin.

Given these issues, including a possible earnings holes in FY19 before an expected recovery in FY20, the stock doesn’t look good value to me as it sits on a FY19 consensus price-earnings multiple of a little over 20 times.

I think its peers like Worleyparsons Limited (ASX: WOR) and Downer EDI Limited (ASX: DOW) are better value given their more robust earnings growth profile and their valuation. Worleyparsons is on a FY19 P/E of around 23 times while Downer is at 15 times.

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Motley Fool contributor Brendon Lau owns shares of Macquarie Group Limited. The Motley Fool Australia owns shares of Super Retail Group Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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