Although the global economic recovery remains on a sound footing at present, there is a clear divergence between the winners and losers, which is most noticeable when comparing the US and the UK. The UK economy – although it has remained resilient – is still struggling under the weight of Brexit uncertainty, whilst the US continues to motor on. Indeed, projected 2018 GDP growth in the US currently stands at 2.8%, compared to just 1.4% in the UK. Furthermore, other US economic indicators remain very healthy, with purchasing managers’ indices firmly in expansionary territory. Given this backdrop, when we are analysing UK companies we would look favourably on those with a significant proportion of US-derived revenues, particularly those in industries underpinned by structural growth themes.
The (new) industrial revolution
An often overlooked shift in the US since the global financial crisis has been in the construction equipment space. Previously, companies simply purchased their own equipment, but as capital expenditure budgets began to tighten during the downturn, a shift began towards a rental model. This trend has continued ever since, as it allows a greater flexibility, improves returns on invested capital and enables companies to manage their assets much more effectively. For example, data from the Federal Reserve Bank of Chicago shows that the percentage of sales of construction machinery to rental companies has risen from 35% at the beginning of the decade to over 55% today. This is driven by the increased demand rental companies are witnessing, with US revenues expected to grow at an average annual rate of 4.6% out to 2020.
Expected growth in US industrial equipment rental revenue
Source: American Rental Association, ARA Market Monitor, February 2018.
This is an attractive backdrop for investors, but there are a significant number of players in what is a very fragmented market. For example, United Rentals, the largest player in the US rental space, has a total market share of just 12%. Surprisingly however, its largest competitor is actually a British business – Ashtead Group – that operates in the US as SunBelt Rentals. Ashtead have been one of the UK stockmarket’s major success stories over the last decade, growing their US market share to 8% largely through organic growth, as well as some small bolt-on acquisitions.
For example, SunBelt have achieved a cumulative annual growth rate in revenue of 19% since 2010, compared to a rate of just 10% from the other top 10 major players and 6% from the wider market. In our view, it is therefore a matter of when – not if – the business will become the largest participant in the construction equipment market. As Ashtead themselves have said, the big are getting bigger and will continue to be able to leverage scale.
Outperforming the competition
Given that 80% of Ashtead’s revenues come from the US, it has understandably focused its efforts here instead of the UK. However, the reason it has been so successful has been its strong management team and focus on maintaining its industry-leading margins. The only competitor that comes anywhere close to matching its profit margins is United Rentals.
EBIT margin (av. 2015-2017)
Source: KPMG, Equipment Rental Industry Update, Q1 2018.
LF Canlife UK Equity Income Fund
Ashtead has been a long-term holding for the LF Canlife UK Equity Income Fund and has contributed significantly to our total return. We first purchased a stake in June 2015 at £11 per share and it is now trading at more than £23 (as at 20/06/18). As shareholders, we have further benefited from a number of buybacks, whilst dividends have also grown at an average annual rate of 35% over the last five years and we expect this income stream to continue to grow going forward. We believe this highlights the importance of identifying businesses based on their exposure to strong structural growth themes, as well those capable of delivering strong and sustained dividend growth over the long-term. Importantly the valuation also remains undemanding, at just 14x forward earnings, giving us confidence that potential further upside remains.
Past performance is not a guide to future performance. The value of investments may fall as well as rise and investors may not get back the amount invested. Income from investments may fluctuate. Currency fluctuations can also affect performance.
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