Argan Inc.

Moat: 2/5

Understandability: 2/5

Balance Sheet Health: 5/5

Argan, Inc. provides engineering, procurement, and construction (EPC) services to the power generation and renewable energy industries, with a focus on turnkey project solutions.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview and Financials

Argan Inc. (AGX) is a holding company that primarily operates through its wholly-owned subsidiary, Gemma Power, LLC. The company specializes in providing engineering, procurement, and construction (EPC) services to the power generation and renewable energy industries. The company takes on complex turnkey projects and focuses on providing solutions to its customers. The company’s success is closely tied to the power industry’s investment cycle and infrastructure needs, which are inherently long-term.

Revenue Distribution

Based on the provided information, mainly derived from the K-9 Report, the primary source of Argan’s revenue is its EPC contracts within the power industry. Specifically, the company focuses on gas-fired power plants and renewable energy projects, such as solar energy facilities. A 10Q report from Oct. 31, 2024. shows similar trend in revenues: it is earned though Power and Telecommunication contracts.

  • Shift to Renewable Energy: The power industry is undergoing a significant transition toward renewable energy sources due to environmental concerns and regulatory mandates. This trend is creating opportunities for companies like Argan that have expertise in constructing renewable energy facilities.
  • Increased Investment in Power Infrastructure: Aging power infrastructure in the United States requires substantial investment to improve reliability and efficiency. Companies that provide EPC services for infrastructure upgrades are well-positioned to benefit from this trend.
  • Government Regulations and Incentives: Government policies and incentives, such as tax credits and renewable energy standards, play a significant role in driving investment decisions within the power industry. Changes in these policies can have both positive and negative effects on companies like Argan.
  • Cyclicality: The industry is highly cyclical because it depends largely on power infrastructure projects, which depends on many factors, including economic conditions, government, regulation incentives and energy demands.
  • Supply Chain Issues: Global supply chain disruptions can impact the cost and availability of key components and materials used in power plant construction. Managing these supply chain challenges effectively is crucial for companies like Argan.
  • Labor costs & expertise: The business needs people with high expertise making it harder for the company to compete.
  • Competition is high: the company competes with other companies on the level of service provided.

Margins

  • From a recent 10Q report filing, the company notes a decline in gross profit margins.

For the three and nine months ended October 31, 2022, we reported gross profit as a percentage of revenues of 13.5% and 15.3%, respectively. This compares to the 9.7% and 14.3% figures for the equivalent periods this year

  • The company notes in their report that some of the decrease was a deliberate strategy to win contracts

Specifically, due to market dynamics, our new project pursuits are increasingly based on the lowest price, technically qualified bid that meets the customers’ needs

Competitive Landscape

  • Argan faces intense competition from other EPC contractors within the power industry. Major competitors include larger, more diversified companies with greater financial resources and broader service offerings
  • From the earnings call the company has been emphasizing that they want to get more international contracts and it is a large opportunity for the company that it hopes to capitalise on
  • While Argan focuses on power plant construction, other firms might offer EPC services across multiple infrastructure segments, increasing competition.

What Makes Argan Different

  • Specialized Expertise: Argan has a long history in the industry and has a skilled workforce, allowing it to bid on complex projects.
  • Turnkey Solutions: By offering solutions to their customers, the company has some differentiation in the market compared to the lowest quality, cheapest projects. However, there is competition on this side of EPC projects too

Financials

  • Revenue: The Company’s revenue has been subject to dramatic fluctuations in previous few years and the net earnings have been decreasing over time.
  • Backlog: Monitoring the backlog of contracted projects is essential to understanding future revenue visibility. A strong backlog provides greater financial stability as it shows projects to get their revenue from for coming years
  • Capital Allocation: It is important to monitor the capital allocation decisions for the company and see if the debt has been handled efficiently and if new acquisitions are creating shareholder value
  • From latest earnings calls, there is talk of securing more international contracts.

Moat Assessment: 2 / 5

The company can be described as having a narrow moat based on the company’s specialized expertise and project management capabilities. This is justified below.

  • Switching Costs: It is unlikely and has been a rare occurrence that the customer will switch vendors mid-project.
  • Intangible Assets: The company can build long lasting and strong relationships with power plant customers.
  • Size Advantage: The company is tiny with just approximately $500 million in market cap and approximately 245 workers.
  • Cost Advantages: The company doesn’t have any significant cost advantages.

Understandability: 2 / 5

The company has an understandability rating of 2 given these points:

  • Power and energy sectors can be complicated, especially with government regulation changes and prices.
  • To completely understand the business, a deep understanding of the EPC sector is required.
  • There’s a reliance on relatively few high-value projects.

Balance Sheet Health: 5 / 5

The company has very healthy balance sheet and is fairly conservative.

  • The company has enough current assets to cover current liabilities and long-term debt with cash.
  • Positive and consistent free cash flow.
  • Strong record of profitability.

Legitimate Risks

  • Project Delays and Cost Overruns: EPC projects are complicated and are prone to delays and cost overruns, which can adversely affect the company’s profits.
  • Reliance on Few High-Value Projects: Because of the high value of projects the company deals with, the cancellation or delay of a single project can majorly affect revenue and profitability.
  • Fluctuations in the Power Industry: The power industry is heavily impacted by shifts in technology, laws, and economic conditions. These changes can render existing projects redundant, or the competitive landscape can change too.
  • Over Reliance on Contracts: Over dependence on contracts with few suppliers can lead to supply change problems.
  • Expert Labour: Lack of access to expertise and highly skilled labor may be detrimental to operations and expansion, specially in new regions.
  • Over Dependence on Contracts: The company depends greatly on contracts, mainly with the US goverment. If certain contracts are stopped, it would affect the bottom line greatly.
  • High Competition: With high competition that exists, this company must strive to compete on prices.
  • Reliance on Small Number of People: The business relies on its experienced work force. High attrition or turnover for workers could negatively affect the business bottom line and their expertise in the market

Business Resilience

Argan’s specialized expertise provides some resilience but the project-based nature of its business and reliance on a few large projects creates volatility. Adaptability to the rapidly changing power industry is crucial for long-term resilience.