MDU resources Knife River Corporation to drive the construction materials

Discount overview

In the year August 4, 2022 MDU Resources Group’s (NYSE: MDU, $30.82, market capitalization: $6.3 billion) announced that its board of directors has unanimously approved a plan to separate its wholly-owned building materials business, Blade River Corporation. Post spin-off, MDU Resources (Stub entity) will focus on regulated utilities, natural gas pipelines and related infrastructure services businesses. Knife River (N.Y.) operates as an independent, aggregate-based, vertically integrated construction materials and contracting supplier.

The scramble is expected to take place through the distribution of the Bila River stock to MDU Resources shareholders at a reasonable price. The transaction is expected to be tax-free to MDU Resources and its shareholders for US federal income tax purposes. The listing is expected to close in 2023, subject to customary conditions, including final approval by MDU Resources’ board of directors, receipt of a tax opinion and the effectiveness of a Form 10 registration statement with the US Securities and Exchange Commission.

MDU Resources is designed to develop robust capital allocation strategies for each business that align with each entity’s long-term goals. Post-separation, MDU Resources intends to maintain a dividend policy consistent with its historical practice. According to management, Knife River’s dividend policy will be determined in the future in line with established capital allocation strategies. Additional details related to the capital structure, governance and other elements of the transaction will be announced at a later date.

After the proposed separation, both MDU Resources and Knife River will continue to be headquartered in Bismarck, North Dakota, and MDU Resources will continue to operate as the parent entity for the other wholly-owned subsidiaries.

JP Morgan Securities LLC and PJT Partners are serving as financial advisors to the transaction. Wachtel, Lipton, Rosen & Katz is serving as legal counsel.

Investors responded positively to the news, with the stock gaining 6.3% on the day of the announcement. Subsequently, Corevex Management, a New York-based activist investor firm known for investing in utility companies, acquired a ~5.0% stake in MDU Resources. Citing the move as a positive step, he conveyed the plan to MDU management to discuss more strategic options to increase the revenue potential of the existing power business.

Discount factor

MDU Resources (parent) is an umbrella company with various wholly owned subsidiaries operating under it: Montana-Dakota, Cascade, Intermountain, WBE Energy, Centennial Capital and Knife River. All subsidiaries have intrinsic value in their businesses and have different strategic goals. The Board continuously evaluates its business operations and value creation opportunities. It previously sold Fidelity Exploration and Production Company in 2016 as part of its strategic review process to exit the oil and natural gas production market. Now, the board believes, Knife River (Newco) is poised to operate as an independent public company, bringing a number of mergers and acquisitions to shareholders that will create significant value.

In the year After purchasing an aggregate company in 1992, for a period of time, MDU Resources built Knife River as a leading aggregate-based building materials company. Since then, the Knife River has grown in organic and inorganic ways. Historically, the construction materials sector has always been volatile and sensitive to inflation and supply chain disruptions. Therefore, to de-risk its business model, Knife River is strategizing to expand its market presence in high-margin materials business such as rock, sand, gravel, asphalt oil, ready-mix concrete and related products. Currently, Knife River is present in the western, central and southern United States and plans to further expand its market footprint in the US. It also currently has more than 1.2 billion tons of aggregate inventory, 110 ready-mix plants, 50 asphalt plants and a combined 410,000 tons of liquid asphalt and cement inventory. However, the reserves are naturally depleted, so they are constantly looking for opportunities to replace them. In the last four years, they have acquired 12 companies and increased their revenue by 23%. As the business continues to raise capital and divest itself of accelerated growth, the management team seeks to establish strong and consistent capital allocation strategies to accelerate growth and increase stock values. Also, as an infrastructure organization, Knife River is expected to benefit from infrastructure development funding proposed at the federal and local levels under the Infrastructure Investment and Jobs Act (IIJA).

MDU Resources’ (a Stubb entity) existing regulated electric and natural gas utilities, natural pipelines and construction services are expected to contribute about 70% of pro forma EBITDA. By identifying risky assets, Squid Body focuses on low-risk and relatively stable businesses so that it can explore opportunities for business expansion. Also, with two new publicly listed companies, investors will be in a better position to value each business based on their operational and financial characteristics.

General results

2Q22 results

MDU reported revenue of $1.7 billion, up 20.9% YOY, up 22.9%. Segment-wise, construction services revenue was $685.4 million, up 30.4% YOY on the back of higher workloads, while natural gas distribution revenue was $210.6 million, reflecting 36.8% YOY growth, primarily supported by higher retail sales due to cooler weather. The Construction Materials and Contracting segment was up 12.3% YOY to $711.8 million driven by increased workload and higher average material costs. The pipeline and electrical segments reported revenue of $37.6 million and $85.3 million, respectively. Other income rose slightly to $4.4 million from $3.4 million reported a year ago.

Adjusted EBITDA decreased 8.8% YOY to $201.1 million (-9.6% vs. consensus), while margin decreased by 380 bps to 11.7%. Operating profit fell 12.4% to $120.6 million (-19.1% vs. consensus). Net income from continuing operations decreased 29.5% to $70.6 million (-33.0% vs. consensus), and comparable margin decreased 293 bps to 4.1%. Diluted EPS decreased 30.0% to $0.35 (-30.0% vs. consensus).

Outlook

For FY22E, management lowered its estimate by $0.25 to $1.75-$1.90 per share and guided for an EBITDA range of $875.0 million to $925.0 million, a $25.0 million decline due to a slower start to the year and inflation and supply chain challenges. it is. Segment-wise, building materials revenue guidance was unchanged, while the building services business increased revenue guidance by $200.0 million, slightly lower margin YoY, on expectations of a strong backlog for the rest of the year. Electricity and natural gas customer growth was unchanged from 1.0% to 2.0%. Capital expenditures for FY22E are revised to $747.0 million, supported by cash flow of $550 million to $600 million. Capital expenditures over the next five years are expected to be $3.1 billion.

Company description

MDU Resources Group, Inc. (parent)

In the year Incorporated in 1924, MDU Resources is a US-based diversified company with regulated utilities, power distribution and construction materials and services businesses. It operates primarily through five business segments: electricity, natural gas distribution, pipelines, construction materials and contracts, and construction services. The company’s business activities are wholly owned and controlled by MDU Energy Capital and Central subsidiaries. MDU Energy also controls natural gas and electric operations in Montana-Dakota, operating Cascade and Intermountain into natural gas. But Centennial has WBI Energy, which controls the pipeline business, Knife River is moving into construction materials and contracting, MDU Construction Services, which controls the construction services business, and Centennial Capital, which controls other businesses. The company has a footprint across the US and had 12,826 employees at the end of FY21.

Knife River Corporation (Spin-Off)

In the year Founded in 1917 in North Dakota, Knife River is primarily involved in the processing and sale of construction materials such as crushed stone, sand and gravel. Asphalt mix production and ready-mix concrete supply. It has a diverse client base including federal, state and municipal government agencies, commercial and residential developers and private parties. With ~$1.2 billion tons of cumulative reserves and over 6000 employees, Knife River ranks as the sixth largest accumulator in the US.