In its Q1 2019 Investor Letter (track down here), Artko Capital shared its analysis of several companies in its portfolio. Among those discussed long positions was Ecology & Environment, Inc. (NASDAQ:EEI), for which the fund thinks it will eventually be sold, but maintains confident about it margin of safety.
Ecology & Environment(EEI) – Our 10% Core Portfolio investment in Ecology & Environment stayed flat last quarter. The investment in the environmental consulting company continues to be one of our highest conviction portfolio holdings despite the company not having filed current financials in almost a year. As of the last official report, almost a year ago, the $45mm market cap company had $17mm in cash and was generating a run rate of $5mm to $6mm in Free Cash Flow per year. Since then the filings have been delayed due to a minor,but frustratingly slow to resolve,accounting issue having to do with the consolidation accounting of its tiny Latin American subsidiary. While disappointed we do not consider this to be a major detractor from our overall thesis of this company’s eventual sale to a strategic competitor or, given its strong cash flow profile, to a private equity investor.
While there have not been major financial reporting updates, other than approximate Net Income,there have been a number of strategic updates that have strengthened our thesis. In late 2018 the company announced a large staff reduction program which would cost approximately $1mm but would result in $5mm to $6.5mm in EBIT contribution run rate starting in 2019. Given a typical EBIT and Free Cash Flow run rate of $5mm this would seemingly improve the cash flow generation of the company to over $10mm a year, though given the government shut down and uncertainty associated with Latin American and US energy infrastructure near term growth,we temper our expectations closer to$8mm per year. While it is hard to gauge the more recent performance given the limited information flow,we do expect the company to report close to $20mm in cash on the balance sheet by May 2019, implying its current Enterprise Value to be$25mm and a Price to Free Cash Flow multiple of only 3 times. At the same time,the company also laid off its CEO and is currently led by its investment banker Chairman of The Board and a temporary executive committee with no announced plans to look for a new chief executive.
While its not easy to read the tea leaves of these moves we believe that the aforementioned actions and an incentivized board consisting of octogenarian founders looking to monetize their investment, two representatives of a private equity firm that has -in the past –offered to buy the company at a 30% premium to current share price, and a chairman that has a consistent history of selling companies, are all signs pointing to an eventual sale of the firm. We feel comfortable with the margin of safety given the current valuation, cash balance, and strong dividend yield, though are mindful of the headwinds associated with the company’s end markets and the length of time it has taken to put out current financials. Our price target remains above $20.00 per share with not an insignificant probability of a $30.00 plus per share potential and we continue to be patient with this investment.
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Ecology and Environment, Inc. is a $46.8 million market cap company that offers professional environmental consulting services. It was incorporated back in 1970. Over the past six months, the company’s stock lost 15.83%, and on April 26th it had a closing price of $10.85. It is currently trading at a price-to-earnings ratio of 22.01.
At the end of the last quarter of 2018, among hedge funds followed by Insider Monkey Mill Road Capital Management held the largest stake in Ecology and Environment (EEI), which counted 463,072 shares, with a value of $5.25 million. This was followed by Harbert Management’s stake in the company that was worth $3.25 million, on the account of 286,600 shares outstanding.
Disclosure: None.
This article was originally published at Insider Monkey.
