Just over a year ago, I wrote (here) about my investment in Argan. At the time AGX was my largest position and my expectation for the stock in the coming (12) months was that it would move up in lockstep with expected, improved earnings results. My expectation was also that it could further benefit in multiple expansion from a sustained backlog that was regularly converted to active projects. Because the price was underpinned by a large cash holding and the prospect of consistent business performance, I had good confidence that the stock would not lose money and would potentially gain 30-80% over a two-year period from my average cost of approximately $35. These were (and remain) the key drivers for my investment.
What has happened in the past year is that AGX’s price rose
to a high of 54 in April of ’21 only to recently fall back into the low 40’s to
high 30’s. Much of this rise and fall has followed the sentiment in the market
of value stocks which surged and have more recently pulled back in the wake of
continued, renewed pandemic-related concerns.
As the overall gain in AGX has been modest, other, better
performers have now replaced AGX as my top holding. Some of these companies now have better, more
visible prospects. That said, I’m continuing to hold AGX despite
considerable headwinds facing the construction of new natural gas power
plants. Those concerns have continued to
be discussed in the company’s 10Q and 10K’s.
Argan has continued to highlight these headwinds and add to the
narrative in the Market Outlook section of their filings.
The most recent (Oct ’21) 10Q repeats and expands upon an earlier discussion regarding the circumstances and consequences of the current national
and world views related to power generation and its impact on climate change as
it is balanced with the growing demand for electricity.
In October ’21, Argan’s Atlantic Projects Company’s (APC)
subsidiary announced that they had won an engineering and construction project
for a 660MW natural gas power project in Northern Ireland. This is welcome news against the backdrop of
uncertainly in of US projects. The
project has already started, however,
APC’s performance on their last major project continues to subdue any excitement
that might be generated by such an announcement. At the same time, AGX remains positive
about the prospects for continued business at APC as supported by policy
decisions in Ireland.
In May ‘21, AGX announced the win (by GPS) of a 100MW renewable
power plant EPC project. Gemma received an immediate notice to proceed with the project scheduled for completion in the
second half of 2022. This signals that
the leaders at AGX are deeply concerned about the prospects for their core,
natural gas-fired EPC business as they continue to convey in their 10Q/K’s. The fact that AGX has provided incentives to
the management of Gemma to pursue contracts for renewable projects in wind and
solar is further evidence that AGX is not standing still while external factors
threaten their business development prospects.
There can be little doubt that some of the current backlog is
at serious risk for further delay or cancellation. However, the continued need for natural gas
plants and the prospect for using hydrogen as a long-term source of utility-scale power production should underpin AGX’s business model. It is unlikely, however, that multiple
expansion beyond today’s 15x TTM exists in the near future of AGX. That leaves only actual EPS performance as a
driver for upward appreciation of the stock price. Unfortunately, in the wake of the most recent
earnings announcement, the analysts that follow AGX have reduced their 2022 revenue
and EPS projects and related price targets for AGX.
So, what is a value investor to do given the formidable
headwinds now facing AGX? Should the investment be held waiting for the
eventual disposition of some of the backlog projects? Alternately, should the position be cut or
eliminated entirely in the face of policy and public opinion that seems to give
ever-smaller chances to convert the backlog to sustained earnings and continued
growth for AGX? With the lagging price
performance of the stock, it’s clear that the marginal investors in AGX have
decided that waiting is not the best use of capital.
Evaluating AGX’s actual performance over the 14 month period
since my previous write-up reveals a return of approximately 7% in total price appreciation
and 10% in dividends including 2 special $1 dividends paid in FY21. While this (approximately)
15% annual return lags the market during this period by nearly all benchmarks,
it did provide a reasonable return at a very good level of safety, albeit at
the lowest end of my target. Since this is generally in line with my
expectations for the company, I will continue to hold AGX at the current level
and re-evaluate as new information about future performance can be assessed.
Generally, that assessment will be aimed at the prospects of
converting the backlog and progress on mitigating the impacts of sentient
toward natural gas-fired plants. Another
key will be the use of cash for special dividends or buy-backs and any other
factors impacting Argan’s expected future returns.
