Rating Update: Stock Rating B-Positive (9/17/19)-McGrath RentCorp (MGRC).

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BUSINESS

McGrath RentCorp, a business to business rental company, rents and sells relocatable modular buildings, portable storage containers, electronic test equipment, and liquid and solid containment tanks and boxes in the United States and internationally. It operates through four segments: Mobile Modular, TRS-RenTelco, Adler Tanks, and Enviroplex. The Mobile Modular segment rents and sells modular buildings designed for use as classrooms, temporary offices adjacent to existing facilities, sales offices, construction field offices, restroom buildings, health care clinics, child care facilities, office spaces, and various other purposes; and portable storage containers.
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INVESTMENT RATING

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MGRC’s future returns on capital are forecasted to exceed the cost of capital. Accordingly, the company is expected to continue to be a Value Builder.

McGrath RentCorp has a current Value Trend Rating of B (Positive).
With this rating, PTR’s two proprietary measures of a stock’s current attractiveness are providing inconsistent signals. McGrath RentCorp has a neutral Appreciation Score of 47 but a very high Power Rating of 89, and the Positive Value Trend Rating results.

McGrath RentCorp’s stock is selling below targeted value. The current stock price of $68.31 compares to targeted value 12 months forward of $77.
This neutral appreciation potential results in an appreciation score of 47 (53% of the universe has greater appreciation potential.)
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McGrath RentCorp has a Power Rating of 89. (MGRC’s very high Power Rating indicates that it has a higher likelihood of achieving favorable investment performance over the near to intermediate term than all but 11% of companies in the universe.)
Factors contributing to this very high Power Rating include: recent price action has been favorable; the recent trend in MGRC’s earnings estimates has been favorable; and is currently in a modestly favorable positi.

INVESTMENT PROFILE

MGRC’s financial strength is high. Financial strength rating is 79.
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Relative to the S&P 500 Composite, McGrath RentCorp has neutral Growth/Value characteristics; its appeal is likely to be to investors neutral towards Income; the perception is that MGRC is normal risk. High earnings variability is a relative weakness for MGRC. MGRC’s valuation is moderate: moderate dividend yield, moderate P/E ratio, and moderate price/book ratio. MGRC has unusually low market capitalization.

CURRENT SIGNALS

McGrath RentCorp’s current operations are eroding. Return on equity is falling, reflecting: and falling tax keep rate.

McGrath RentCorp’s current technical position is very strong. The stock price is in a 10.7 month up move. The stock has appreciated 49.3% from its prior low. The stock price is above its 200 day moving average which is in an uptrend.

ALERTS

The stock is currently rated B.
McGrath RentCorp (NASDAQ: MGRC) stock closed at $0.00 on 9/17/19 after a major decline of -33.3%. However, this decline was accompanied by unusually low trading volume at 66% of normal. The stock has risen 4.6% during the last week and has been exceptionally strong relative to the market over the last nine months.

CASH FLOW

In 2018, McGrath RentCorp experienced a very significant reduction in cash of -$1.0 million (-40%). Sources of cash were much lower than uses. Cash generated from 2018 EBITDA totalled +$199.5 million. Non-operating uses consumed -$0.5 million (-0% of EBITDA). Cash taxes consumed -$13.3 million (-7% of EBITDA). Re-investment in the business amounted to -$137.5 million (-69% of EBITDA). On a net basis, debt investors removed -$17.1 million (-9% of EBITDA) while equity investors received -$32.1 million (-16% of EBITDA).
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McGrath RentCorp’s Non-operating Income, %EBITDA has exhibited little to no overall change over the period. This stability was accompanied by stability for the Mcgrath Rentcorp Peer Group as well. In most years, McGrath RentCorp was in the second quartile and top quartile. Currently, McGrath RentCorp is slightly below median at -0% of EBITDA (-$0.5 million).

McGrath RentCorp’s Cash Taxes, %EBITDA has experienced a small downtrend over the period. This downtrend was accompanied by an opposite trend for the Mcgrath Rentcorp Peer Group. In most years, McGrath RentCorp was in the top quartile. Currently, McGrath RentCorp is at median at -7% of EBITDA (-$13.3 million).

McGrath RentCorp’s Business Re-investment, %EBITDA has enjoyed a volatile overall uptrend over the period. This improvement was accompanied by an opposite trend for the Mcgrath Rentcorp Peer Group. (Since 2016 Business Re-investment, %EBITDA has experienced a very sharp decline.) In most years, McGrath RentCorp was in the second quartile and third quartile. Currently, McGrath RentCorp is slightly above median at -69% of EBITDA (-$137.5 million).

McGrath RentCorp’s Debt Investors, %EBITDA has exhibited little to no overall change over the period. This stability was accompanied by an uptrend for the Mcgrath Rentcorp Peer Group. (Since 2016 Debt Investors, %EBITDA has experienced very sharp improvement.) In most years, McGrath RentCorp was in the third quartile and top quartile. Currently, McGrath RentCorp is substantially below median at -9% of EBITDA (-$17.1 million).

McGrath RentCorp’s Equity Investors, %EBITDA has experienced a downtrend over the period. This downtrend was accompanied by a similar trend for the Mcgrath Rentcorp Peer Group. In most years, McGrath RentCorp was in the second quartile and third quartile. Currently, McGrath RentCorp is slightly above median at -16% of EBITDA (-$32.1 million).

McGrath RentCorp’s Change in Cash, %EBITDA has exhibited little to no overall change over the period. This stability was accompanied by stability for the Mcgrath Rentcorp Peer Group as well. In most years, McGrath RentCorp was in the third quartile and second quartile. Currently, McGrath RentCorp is slightly above median at -0% of EBITDA (-$1.0 million).
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McGrath RentCorp’s Cash, %Revenue has exhibited little to no overall change over the period. This stability was accompanied by a downtrend for the Mcgrath Rentcorp Peer Group. In most years, McGrath RentCorp was in the lower quartile. Currently, McGrath RentCorp is lower quartile at +0%.

PROFITABILITY

McGrath RentCorp’s return on equity has improved significantly since 2009 even as it experienced a very sharp decline after the 2017 high.
This significant improvement was due to very small positive trend in pretax operating return and small positive trend in non-operating factors.
The productivity of McGrath RentCorp’s assets rose over the full period 2009-2019: asset turnover has exhibited a small overall uptrend.
Partially offsetting this trend, however, pretax margin has experienced a downtrend although it experienced a very sharp recovery after the 2016 low.
Non-operating factors (income taxes and financial leverage) had a minor positive influence on return on equity.
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McGrath RentCorp’s return on equity is at the upper quartile (14.7%) for the four quarters ended June, 2019.
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Operating performance (pretax return on assets) is upper quartile (9.0%) reflecting asset turnover that is at the upper quartile (0.41X) and pretax margin at the upper quartile (21.8%).
Tax “keep” rate (income tax management) is at the lower quartile (75.8%) resulting in after tax return on assets that is upper quartile.
Financial leverage (leverage) is lower quartile (2.16X).

GROWTH RATES

There are no significant differences between McGrath RentCorp’s longer term growth and growth in recent years.
McGrath RentCorp’s historical income statement growth has been in line with balance sheet growth. Revenue growth has paralleled asset growth; earnings growth has paralleled equity growth.

Annual revenue growth has been 6.4% per year.

Total asset growth has been 5.1% per year.

Annual E.P.S. growth has been 10.4% per year.

Equity growth has been 7.8% per year. (More recently it has been 13.6%.)

McGrath RentCorp’s consensus growth rate forecast (average of Wall Street analysts) is 15.0% — substantially above the average of the historical growth measures.
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Relative to the Mcgrath Rentcorp Peer Group, McGrath RentCorp’s historical growth measures are erratic. E.P.S. growth (10.4%) has been at median. Equity growth (7.8%) has been at median. Revenue growth (6.4%) has been slightly below median. Total asset growth (5.1%) has been below median.

Consensus growth forecast (15.0%) is upper quartile.
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PRICE HISTORY

Over the full time period, McGrath RentCorp’s stock price performance has been variable and good. Between November, 2008 and September, 2019, McGrath RentCorp’s stock price rose +280%; relative to the market, this was a +13% gain. Significant price move during the period: 1) April, 2016 – May, 2018: +167%.
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TOTAL INVESTMENT RETURNS

Current annual total return performance of 17.6% is above median relative to the S&P 500 Composite.
In addition to being above median relative to S&P 500 Composite, current annual total return performance through July, 2019 of 17.6% is substantially above median relative to McGrath RentCorp Peer Group.

Current 5-year total return performance of 17.9% is substantially above median relative to the S&P 500 Composite.
Through July, 2019, with substantially above median current 5-year total return of 17.9% relative to S&P 500 Composite, McGrath RentCorp’s total return performance is above median relative to McGrath RentCorp Peer Group.
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VALUATION BENCHMARKS

Relative to S&P 500 Composite, MGRC’s overall valuation is normal. The highest factor, the ratio of enterprise value/revenue, is slightly above median. Ratio of enterprise value/assets is at median. Ratio of enterprise value/earnings before interest and taxes is below median. Price/earnings ratio is slightly below median. The lowest factor, the price/equity ratio, is below median.

Relative to McGrath RentCorp Peer Group, MGRC’s overall valuation is normal. The highest factor, the ratio of enterprise value/assets, is at the upper quartile. Price/equity ratio is above median. Ratio of enterprise value/earnings before interest and taxes is at median. Ratio of enterprise value/revenue is slightly below median. The lowest factor, the price/earnings ratio, is slightly below median.
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McGrath RentCorp has a minor value gap compared to the median valuation. For MGRC to rise to median valuation, its current ratio of enterprise value/revenue would have to rise from the current level of 3.74X to 3.89X. If MGRC’s ratio of enterprise value/revenue were to rise to 3.89X, its stock price would be lower by $3 to $72.
For MGRC to hit lower quartile valuation relative to the McGrath RentCorp Peer Group, its current ratio of enterprise value/revenue would have to fall from the current level of 3.74X to 2.99X. If MGRC’s ratio of enterprise value/revenue were to fall to 2.99X, its stock price would decline by $-16 from the current level of $68.

VALUE TARGETS

MGRC’s future returns on capital are forecasted to exceed the cost of capital. Accordingly, the company is expected to continue to be a Value Builder.
McGrath RentCorp’s current Price Target of $78 represents a +15% change from the current price of $68.31.
This neutral appreciation potential results in an appreciation score of 47 (53% of the universe has greater appreciation potential.)
With this neutral Appreciation Score of 47, the high Power Rating of 89 results in an Value Trend Rating of B.
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McGrath RentCorp’s current Price Target is $78 (+23% from the 2018 Target of $64 and +15% from the 09/17/19 price of $68.31). This rise in the Target is the result of a +21% increase in the equity base and a +1% increase in the price/equity multiple. The forecasted increase in growth has a large positive impact on the price/equity multiple and the forecasted increase in return on equity has a slight positive impact as well. Partially offsetting these Drivers, the forecasted increase in cost of equity has a large negative impact.
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PTR’s return on equity forecast is 13.2% — in line with our recent forecasts. Forecasted return on equity exhibited a modest, erratic decline between 2010 and 2018. The current forecast is above the 2017 low of 9%.

PTR’s growth forecast is 11.0% — slightly above our recent forecasts. Forecasted growth suffered a dramatic, erratic decline between 2010 and 2018. The current forecast is well above the 2015 low of 4%.

PTR’s cost of equity forecast is 8.4% — in line with recent levels. Forecasted cost of equity exhibited a slight, erratic decline between 2010 and 2018. The current forecast is steady at the 2010 low of 7.1%.
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At McGrath RentCorp’s current price of $68.31, investors are placing a positive value of $25 on its future investments. This view is consistent with the company’s most recent performance that reflected a growth rate of 7.0% per year, and a return on equity of 12.7% versus a cost of equity of 7.4%.
PTR’s 2020 Price Target of $78 is based on these forecasts and reflects an estimated value of existing assets of $48 and a value of future investments of $31.

About John Lafferty 80532 Articles
During his career, John has developed valuation and stock rating methodologies, managed institutional portfolios and mutual funds, and provided equity research to institutional investors on thousands of companies. He has been Director of Research at PTR since its inception in 2004.

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