Update - Overview of Investment in Argan Inc. (AGX)

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.