Contrarian and value investors are circling SNC-Lavalin Group Inc., wondering if its 20% share plunge on February 28th presents an opportunity to load up. At first glance, we might hazard a guess that it does, although it might require waiting out further price declines.
The bombshell was a delay in fourth-quarter earnings and unexpected downward revision in earnings. The main culprit was losses on Libyan projects and inappropriate documenting of $35-million in payments. An internal probe is underway and investors seem to fear the findings might confirm the worst about the company’s projects there and close ties to the son of former dictator Moammar Gadhafi.
The ethical angle deserves attention. In 2010, leading corporate responsibility magazine Corporate Knights ranked SNC-Lavalin seventh in the Top 50 socially-responsible businesses in Canada—a distinction that seems to be growing more dubious as dealings with a despotic regime come to light. SNC-Lavalin must now represent a huge disappointment for ethical investors.
Indeed, many of the socially-responsible investment funds quite possibly dumped SNC Lavalin yesterday as a precaution that it no longer fits with their mandates. And no doubt, other institutional investors don’t want their next quarterly statements to show that they hold shares in a company that may be embroiled in a scandal involving foreign dictators and “inappropriately documented” payments.
As such, this kind of selling may reflect not so much a sudden deterioration in the fundamentals of the company as a falling out with the preferences of a certain class of investors. It could to present a buying opportunity to investors who don’t view investing as an arena for giving expression to their scruples.
Over the past decade, company earnings have risen steadily, and the dividend, now yielding 2.2%, has been raised 10 consecutive times. Return on equity is well over 20%. Before yesterday’s plunge, SNC-Lavalin was trading at a 25% discount to its U.S. peers even though it was growing faster, noted Baskin Financial portfolio manager Barry Schwartz. That discount just got a lot bigger.
The company continues to bid on a record number of engineering and construction contracts. Libyan projects make up about 10% to 15% of earnings but the company is widely diversified around the globe and has opportunities in other places to seize, especially with the ongoing help of the Export Development Agency.
A caveat is the extent to which the SNC-Lavalin model is based on “inappropriately documented payments.” There have been questions raised in the past. For example, last September, the RCMP executed a search warrant on a Toronto office of SNC Lavalin, following a complaint from the corruption unit of the World Bank.
If the Libyan scandal widens, there could be more downward revisions in earnings, sales and backlogs. As well, there could be a possible impairment of the growth trajectory. On the other hand, as one analyst said, expectations are now substantially scaled down, which makes it easier to beat consensus estimates in quarters ahead—similar to what happened at Aecom Technology Corp. and Bird Construction Inc.