H2O Innovation is a Buy, according to Beacon Securities

Beacon Securities analyst Gabriel Leung continues to be tapped into H2O Innovation (H2O Innovation Stock Quote, Chart, News, Analysts, Financials TSXV:HEO), maintaining a “Buy” rating and $3.75/share target price for a projected return of 67 per cent in an update to clients on Wednesday.

Headquartered in Quebec City, H2O Innovation designs and provides integrated water treatment solutions based on membrane filtration technology. The company also operates, maintains, and repairs water and wastewater treatment systems, distribution equipment, and associated assets. H2O has three primary segments: Water Technologies and Services, Specialty Products, and Operation and Maintenance Services.

Leung’s latest analysis comes after H2O Innovation announced it had signed a letter of intent to acquire the business carried on by Leader Evaporator Co., which is based in Vermont.

“While not a material transaction relative to HEO’s current revenue run-rate, we do view it as a strategic one, which strengthens HEO’s maple industry leadership, while also increasing its production capacity (for Maple and other products) during a difficult hiring environment,” Leung said.

Though the company did not put an exact value on the transaction in its April 12 press release, it did state that bringing Leader on board brings about increased revenue expectations of between 60 and 70 per cent from its maple equipment products.

The release also indicated that the acquisition would be financed using the company’s available cash and/or existing credit facilities, and that the deal was expected to close on or before July 1.

For H2O, the deal improves its placement as a leading manufacturer of maple equipment and products in the United States, as Leader has been selling maple farming equipment and products for more than 130 years to maple syrup producers primarily in the United States.

From an asset perspective, the acquisition more than doubles its facility space by adding the 103,780 square foot facility in Swanton, Vt., to its 81,390-square foot operation in Ham-Nord, Que. The deal is also expected to double H2O’s distribution network, with Leader bringing in its network of approximately 53 new distributors to complement the 50 already in H2O’s network, while more than 50 employees will also come over from Leader.

“This transaction is a perfect fit for H2O Innovation’s maple business line as we already foresee multiple synergies. We envision partnering with Leader’s customers to continue building a business of significant value, one that honors the legacy of Leader, and thus, becoming one of the most important players in the maple industry,” said Frédéric Dugré, President and Chief Executive Officer of H2O Innovation in the company’s release. “The transaction will also contribute to solidifying customer retention and to creating additional recurring revenues.”

Leung estimated Leader’s revenue run rate to be $9 million with a takeout value of $4.5 million, which came from estimating H2O’s Maple revenue to account for seven to ten per cent of total revenue, paired with a takeout valuation of approximately 0.5x sales.

Leung’s annual financial projections are unchanged, as he continues to forecast the company reaching $166.9 million in revenue for 2022, implying a year-over-year increase of 15.7 per cent. Looking ahead to 2023, Leung forecasts a jump to $181.7 million in revenue, suggesting year-over-year growth of 25.9 per cent.

In terms of valuation, Leung projects the company’s EV/Net Revenue to improve from 1.6x in 2021 to a forecasted 1.4x in 2022, then dropping to a projected 1.3x in 2023.

Meanwhile, Leung forecasts the company’s adjusted EBITDA margin tightening from 10.3 per cent ($14.9 million) in 2021 to a projected 8.7 per cent ($14.6 million) in 2022 before bouncing back to a projected 10.4 per cent margin ($18.9 million) in 2023.

On a similar trajectory, Leung projects the company’s EV/adjusted EBITDA multiple to slightly rise from 15.9x in 2021 to a forecasted 16.2x in 2022, then dropping to a projected 12.5x in 2023.

Moving forward, Leung expects the next potential catalyst for the stock to be its third quarter results for the 2022 fiscal year, which are expected in mid-May for the period ending March 31. Presently, Leung projects total revenue of $43.9 million for the quarter, which would mark 4.4 per cent sequential growth and 12 per cent year-over-year growth, which he pairs with an adjusted EBITDA estimate of $3.7 million and an 8.4 per cent margin, down from the previous quarter marks of $3.8 million and a 9.2 per cent margin.

H2O Innovation’s stock price has leaked a bit of late, producing a 13.2 per cent loss since the start of 2022. H2O’s high point for 2022 was $2.77/share on January 7, and has experienced a slight rebound since dropping to $2.05/share on March 7, its low point for the start of the year.