H2O Innovation Ord Shs V.HEO

Full piece from Banque Nationale

[Nadia6519]

H2O Innovation Inc. A Beat Across the Board HEO (TSX) STOCK RATING TARGET EST. TOTAL RETURN C$2.72 Outperform (Unchanged) C$3.25 (Was C$3.00) 19.5% Q2/f2023 Review

Strong Q2/f2023 ahead of NBF and consensus

HEO reported strong Q2/f23 results with revs +10% / +14% vs. NBF / consensus and adj. EBITDA +22% / +27%. Investments and efficiencies in sales, alongside pricing, contributed to the revs beat and the +52% (38% est.) y/y growth both organically (+27% y/y vs. 20% est.) and acquisitions (+20% vs. 18% est.); FX was +5% y/y. Adj. EBITDA margin was ~+105 bps (to 10.2% vs. NBF / cons. at 9.2% / 8.9%) and largely driven by growth in the higher-margin SP segment.
Overall, revs/Adj. EBITDA/Adj. EPS were $63.9 mln/$6.5 mln/$0.03 vs. our $57.9 mln/ $5.3 mln/$0.02 & cons. $56 mln/$5.0 mln/$0.01.

Organic growth impressive for all segments O&M segment grew revs +47% y/y (+14% organic, 24% acquisition, +8.5% FX) to $28.9M (vs. our $28.6 mln) on new wins, renewals and scope expansions. EBAC was $3.1 mln (~+20 bps y/y to 10.7% margin) vs. our $3.2M (11.3% margin) estimate; we continue to look for margin improvements as contracts reprice (typically CPI) on renewal.

WTS segment grew +29% y/y (+21% organic, +8% FX) to $11.0 mln vs. our $10.2 mln estimate on higher sales of water treatment projects/services. EBAC was $1.0 mln (~+370 bps y/y to 9.5% margin) vs. our $0.6 mln (6% margin) estimate. We expect margin to improve not only as HEO realizes price increases but also as it pursues higher-margin industrial contracts.

SP segment grew 73% y/y (48% organic, 26% acquisition, -1% FX) to $23.9 mln (vs. our $19.1 mln, +20% organic) on desal-related sales to the Middle East and synergies between business lines. EBAC was $5.8 mln (vs. $5.2 mln est.) with a margin of 24.3% that was ~-440 bps y/y due to, primarily, product mix (maple is lower margin) as well as higher raw material costs. While the latter should stabilize over time and HEO sees increases in water reuse products (particularly in the Middle East), the lower maple margin (especially following the acquisition of Leader Evaporator) could introduce some fluctuations given its seasonal nature (fQ3 typically stronger).

Maintain Outperform; target to $3.25 (was $3.00) Following fQ2 results, our f2023 / f2024 revs / EBITDA / EPS forecasts increase by 3%-5% (Fig. 2). Our DCF / relative peer derived target increases to $3.25 (was $3.00) and implies ~13.5x FY+1 EV/EBITDA (Fig. 3). Maintain Outperform