Elite Client Idea #56

Torpol S.A. ‘Torpol’ (WSE Ticker: TOR; Price: zł 16.86/share)

Torpol is a leading contractor for construction of railway infrastructure in Poland (contributing 84% of FY22 revenues). It’s also engaged in constructing crude oil treatment facilities, power and telecom line installations, road construction, etc. (16% of revenues).

In April 2023, controlling ownership (38% stake) of Torpol was acquired by an entity controlled by the state treasury, which is responsible for building a new Warsaw airport with 10 railway corridors. The previous owner was also controlled by the government (minister of state assets), which is currently in discussions to buy Torpol’s oil-and-gas subsidiary.

The key factor is government expenditures on railway projects, which is tendered by Poland’s railway infrastructure manager (accounting for 77% of Torpol’s FY22 revenues).

Railway expenditures are bolstered by EU funds, which is currently on hold due to political differences. This resulted in declines in FY23 tenders. (Torpol currently has zł 1.6bn of orders in hand.)

Contracts are on a fixed-price basis – therefore, Torpol is exposed to increases in material, labour, and fuel costs though there are discussions for cost indexation. Fierce competition and increasing bargaining power of subcontractors adds pressure to margins.

Revenue is recognized using contract accounting, which is subject to estimates of costs to complete projects.

Torpol reported TTM revenues of zł 1.1bn (FY21: zł 1.1bn), ebit of zł 211mn (FY21: zł 104mn), and net profits of zł 178mn (FY21: zł 77mn).

Profitability in any period is dependent on Torpol’s contract portfolio, which included high margin projects completed in FY22.

Free cash flows over the cycle (including unflattering figures in FY16) averaged ~zł 60mn, which corresponds to average earnings for the period.

The standout feature on the balance sheet (as at March 31st 2023) is the net cash of zł 244mn (net of working capital requirements, borrowings, and leases) - providing ballast in this unfavorable environment.

Tangible equity stood at ~ zł 410mn. Returns on invested capital are healthy at ~15%.

The stock trades for ~zł 390mn, which is ~2x ebit (net of cash), ~6.5x earnings, and backed by tangible equity. There are series ‘A’ and ‘B’ shares arising out of Torpol’s IPO but they have the same rights.

Comparisons with other Polish construction companies confirms significant undervaluation on an earnings basis despite better profitability.

Management returned zł 69mn in FY22, which yielded ~18% at market - demonstrating good shareholder orientation.

Long-term prospects are favorable with record-breaking investments planned in railway infrastructure.

Overall, this stock appears attractively priced considering its quantitative and qualitative features.