Catching the coming infrastructure spending wave

04-19-2022
Catching the coming infrastructure spending wave

Sectors and companies most likely to benefit

Infrastructure is one of the most neglected areas of the modern economy in most developed economies. In North America, many of the original transformational infrastructure projects such as highway systems, power transmission grids, airports, and marine container ports were built more than 50 years ago and in many cases are now visibly crumbling before our eyes.

The U.S. government last November allocated $500 billion (figures in U.S. dollars) for infrastructure with the passage of the Infrastructure Investment and Jobs Act. It provides $55 billion for clean drinking water to those who lack access and $65 billion for high speed internet to underserved areas. Another $110 billion will be spent on upgrading highways and bridges that are in poor condition.

The largest-ever investment in public transit will see $39 billion spent on repairing and replacing aging buses, rail cars, stations, and thousands of miles of track, signals, and power systems. A total of $89 billion will be spent over the next five years in guaranteed funding for public transit.

Airports will receive a $25 billion injection for repair and maintenance, while $17 billion will be spent on port infrastructure and waterways. Some $66 billion will be spent on railroads to eliminate maintenance backlogs, modernize the Northeast rail corridor, and bring world-class rail service to areas outside the Northeast and mid-Atlantic. Finally, $7.5 billion will be spent on establishing a network of electric vehicle (EV) charging points.

The infrastructure bill finishes up by assigning $65 billion for investment in clean energy transmission and power grids, $50 billion to make the networks more weather resilient to the impacts of climate change and cyber attacks, and $21 billion to help clean up Superfund and brownfield sites, including reclaiming abandoned mines and capping oil and gas wells.

Who benefits?

This enormous laundry list will obviously take time to be implemented. And with the increasing price of raw materials and labour, the “bang for the buck” envisaged by the bill’s sponsors may turn out to be less than anticipated. Nevertheless, the bill does represent the largest and most serious attempt to address a number of long-standing deficiencies in U.S. infrastructure seen in some years. And it will prove to be an excellent opportunity for those companies that are capable of taking advantage of its provisions.

Railroads, construction equipment, providers of raw and processed materials, electric equipment providers, utilities, and battery makers should all share in the largesse.

One of my favourites is timber products maker Stella Jones (TSX: SJ), a supplier of utility poles and railroad ties as well as residential lumber. Stella Jones recorded record revenues and earnings before interest, tax, depreciation & amortization (EBITDA) for the 12 months to Dec. 31. Sales increased 8%, to $2.75 billion, and EBITDA reached $400 million, for a margin of 14.5%. Net income rose 8%, to $227 million (up 11.8% to $3.49 per share on the repurchase of 2.7 million shares).

The company forecast mid-single digit increases in revenues for the next three years from 2019 pre-Covid levels, with utility poles leading the way, propelled by capital expenditure of $90-$100 million, while railway ties would contribute low single-digit growth. The company also forecasts that the price of residential lumber will normalize through 2022-24, resulting in lower revenues in 2022 than last year but still 30%-35% over the pre-Covid period.

Another company that stands to benefit from the infrastructure wave is Watts Water Technologies (NYSE: WTS), a provider of water systems and specialist products that conserve and safeguard the flow of fluid and energy. Its divisions provide the highest level of performance in the safeguarding of water systems, driven by code and certification, address energy efficiency needs by offering the most efficient conversion of energy sources into heat and hot water, and deliver drainage and pre-treatment systems that help with water conservation projects.

Watts reported record fourth-quarter and full-year results as of Dec. 31, with revenue up 20%, to $1.81 billion, for the year, and net income up 45%, to $165.7 million (adjusted earnings per share up 42%, to $5.52). The company has forecast 3%-8% organic revenue growth for 2022, with operating margins of 14.3%-14.7% and free cash flow equivalent to 90% of net income.

As always, consult with your financial advisor before investing to ensure these stocks fit with your investment objectives and risk-tolerance level.

Gavin Graham is Chief Strategy Officer of Calgary-based SmartBe Investments. He is a veteran financial analyst, money manager, and a specialist in international investing, with over 35 years’ experience in global investment management.

Notes and Disclaimer

Content © 2022 by Gavin Graham. This article is an edited version of a longer article originally published in the March 31 issue of The Income Investor newsletter. Used with permission.

The commentaries contained herein are provided as a general source of information, and should not be considered as investment advice or an offer or solicitations to buy and/or sell securities. Every effort has been made to ensure accuracy in these commentaries at the time of publication, however, accuracy cannot be guaranteed. Investors are expected to obtain professional investment advice.

The views expressed in this post are those of the author. Equity investments are subject to risk, including risk of loss. No guarantee of performance is made or implied. The foregoing is for general information purposes only. This information is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting or tax advice.