Cardno: the anatomy of a turnaround
Waking up to see one of your companies in the headlines: you know the news will either be good, or very, very bad.
Last Friday, it was the former for our clients.
The headlines revealed that Cardno received a takeover bid valuing the company at between $1.60 and $1.80 per share (more on this later).
This price represents a 17% premium over its previously traded price and caps off a 61% return for the financial year to date after a highly successful FY-21 (+310%!).
The announcement rounds out a sometimes turbulent but ultimately very rewarding period of ownership.
Admittedly, Cardno’s share price has not moved in a diagonal line.
We established a position in the company after it experienced its share of slings and arrows.
Famed investor Peter Lynch would describe the investment as a ‘turnaround’.
What is a turnaround?
The despondency bred by poor performance, disappointments and operational challenges can often result in steep discounts. Investors can lose confidence in a company and it often ‘falls off the radar’.
This makes for an attractive entry point into companies that have dormant potential but need to roll up their sleeves to realise it.
Clients have benefited from a number of turnarounds over the years, including Boral, Emeco and now Cardno - with a sprinkling of these companies providing a potent source of returns for portfolios.
We take a look at clients' position in Cardno, the takeover and the anatomy of a turnaround.
Coming full circle
Cardno was founded in 1945 by two Australian engineers in Brisbane.
The company was instrumental in Queensland’s development during the post-war boom, and during this time it established its first offshore office in Papua New Guinea.
The company grew ambitiously over subsequent decades, generating $150m in operating profit at its peak in 2014.
However, like many companies tied to the resources boom, it was a case of growth at the worst possible time. A drop off in activity left the company with falling profits coupled with high levels of debt and a number of loosely integrated businesses.
The following years saw the subsequent unwind of a number of these acquisitions, and a much simpler company.
It is at this point, during its ‘turnaround’, that the majority of our clients became shareholders.
In subsequent years, the company has worked hard to untangle years of acquisitive growth and restore the profitability it had enjoyed in its heyday .
This has seen Cardno make slow, but very deliberate steps to restore its profitability in the US, and later profitability of its Asia Pacific businesses.
A turnaround in segment performance…
Source: First Samuel, Cardno
However, its share price lagged this progress - most recently we saw shares in the company trading as low as $0.22 per share (prices we were happy to take advantage of).
…a slower (but sharper) turnaround in price
Source: First Samuel, IRESS
After many years, the offer this week unlocked the value we saw in Cardno.
As part of the transaction, Cardno looks to return to a small company again, retaining its International Development business, which traces its roots to its first international office in Papua New Guinea.
The transaction that will help realise this value takes some explaining (bear with us).
As clients are aware from our CIO video in September, Cardno operates three segments: Asia Pacific, Americas and International Development.
The proposal from Stantec Inc, a consulting services company based in Alberta, is to acquire Cardno’s Asia Pacific and Americas consulting divisions for approximately $1.71 per share.
We suspect the International Development business has been retained as it holds a number of key Australian government contracts that could be jeopardised by foreign ownership
From the proceeds, Cardno expects to distribute $1.40-$1.49 per share of cash to shareholders and retain the remaining amount ($0.22-$0.31 per share) to fund further expansion of its International Development business.
In our view, the remaining business is worth at least $0.10 per share and is attractive in its own right, underpinned by stable contracts and strong underlying margins.
All in all, the transaction should net $1.60-1.80 per share for clients – a tidy sum.
Turnarounds: Sometimes magic, sometimes masochism
Turnarounds are not without their challenges.
They often are more difficult and take longer than first anticipated, with some failing outright.
Share price performance can be turbulent along the way – and requires a strong stomach.
However, as clients’ investment in Cardno demonstrates, when they are well executed, turnarounds can be incredibly rewarding for investors – particularly those who take advantage of share price weakness.
We see that the strong potential for returns warrants holding a small number of ‘turnaround’ stories in client portfolios.
Clients continue to hold positions like these, including Paragon Care and MMA Offshore.
While the share prices of these companies are turbulent at times, we see they will ultimately prove their value – on market, or like in Cardno’s case, through a takeover.