Quick Take: ABM Industries (ABM)

Author’s note: this is the first in a series of what will be more informal, open-ended, and inconclusive looks at single stocks. The format (subject to change) is (1) Why did this company come up now? (2) if certain questions can be answered or variables determined, is it interesting and what could it be worth? And (3) what would make this a buy, sell, or warrant more diligence?

ABM Industries (ABM): provides janitorial, maintenance, landscaping, etc. services for a variety of commercial properties (offices, factories, airports, schools).

Why Now?

• On June 6^th, ABM unceremoniously fired its CFO of five years and replaced him with an insider. Without knowing specifics, one explanation could be the bungled enterprise resource planning (ERP) system implementation and associated invoicing issues leading to poor cash collection. Why a CFO would be responsible for a largely technological problem is unclear.

• An interesting aside: ABM has an unusually generous severance and change in control (CiC) policy. If there is a CiC (i.e., a sale of the company) AND the executives are terminated within a specific period (“double trigger”), the CEO receives 3x his base + cash bonus and the CFO 2.5x (equity awards fully vest for both). For context, anecdotally, most CEOs have 2x CiC severance with other executive officers receiving 1.5x and below.

A Quick Look at the Quarter and Why Could This Be Interesting?

On June 6^th, ABM reported FY Q2 revenue & earnings that were in line with estimates while also holding its FY (ending 10/31) guide flat.

Despite this uneventful print, the stock fell 9% on the day- presumably on management continuing to defer to the second half of the year (H2) for cash collection & stronger growth in select segments (much as they did in Q1).

However, the quarter appeared quite good:

• Buildings & Industry (B&I, mainly class A* office properties) returned to low single-digit (LSD) organic growth for the first time since Q4 ’23, ahead of management’s “H2” soft guide from the Q1 call. ABM expects to sustain this growth through the remainder of the FY.

• Record backlog (+40% QoQ, ~+20% YoY) in the company’s fast growing (+20% YoY) Technical Solutions (ATS, largely electrical contract work).

• Company-wide organic growth saw a sequential & YoY acceleration to 3.8%- the highest since Q1 '24.

• Management held their “normalized” FCF range at $250M to $290M while reiterating that ERP-related delayed cash collections will still arrive in H2. This claim has a bit more credibility now than it did in Q1 as ABM posted positive $15M of FCF in Q2 (from negative $123M in Q1)- suggesting the cashflow inflection has at least begun.

• Even with $30M to $40M of internal restructuring costs ("ELEVATE" multi-year strategic plan) and a $30M RavenVolt earn-out, ABM could still do well north of $200M of FCF in FY ’25 (~14x multiple).

*This we-can’t-say-the-client-but-you-all-know-who-we’re-talking-about refers to JPM’s new 270 Park HQ.

One conceivable version of ABM over the next few years

• Maintains LSD organic topline growth from a combination of modest office recovery (ABM cited JLL that U.S. office leasing showed health +15% YoY growth, but sqft is only 89% of pre-COVID), onshoring of manufacturing, data center builds, aviation keeping pace with middle single-digit (MSD) global passenger volume growth, and a deceleration in ATS as the segment matures.

• Minimal EBITDA margin expansion to the mid-6% range as restructuring expenses wane, the new ERP finally provides efficiencies and cost savings. This would be well below the company’s (since postponed, if not entirely rescinded) aspirational 7% EBITDA margin target from its December 2021 investor day.

• FCF conversion improves to 50%+ as ELEVATE internal investments & other “one time” expenses (e.g., earn-outs) taper off, with paydown (and likely lower rates) reducing interest expense.

• On this unassuming algorithm, coupled with repurchasing a LSD to MSD % of shares annually, in FY ’27 ABM could do $5 of FCF per share with net leverage edging towards 2x.

• A 9x multiple (half turn upward rerate & closer to where the stock’s traded pre-COVID) on nearly $600M in FY ’27 EBITDA nets a $68 stock for a 20% IRR with a 2% dividend yield.

That sounds good- why not buy now?

• ABM is a low growth, levered small cap- irrespective of the underlying rationale, this is not a well-loved segment of the market. Until ABM can demonstrate real cash generation (by moving past the ERP/collection struggles and endless restructuring expense “one offs”) and perhaps even help force its own value by returning that cash to shareholders (i.e., material buybacks), it is unlikely to receive the benefit of the doubt.

  Come FY Q3 earnings, if the company has meaningful positive cashflow and is executing on their H2-weighted guide, and the stock rises 10% in turn, an investor who buys after the pop could still realize a mid to high teens multi-year return- without risking a poorly received print (repeat of Q1) and immediate high single-digit (HSD) drawdown.

• The since-departed CFO strongly signaled there would be some sort of M&A in the near future. What the new CFO and incumbent CEO want and plan to do (tuck in M&A? Transformational M&A? None?) is unknown. It seems is difficult to justify anything other than small bolt-on deals seeing as ABM has enough organic opportunities as well as internal challenges that need to be addressed prior to larger strategic acquisitions.

Cliffs: Boring, stable (outside of the COVID period), LSD grower, with the potential to drive mid-teens+ EPS & FCF per share growth over the next few years. However, it remains a show-me-story until management can (1) make good on their H2-weighted guide (showing sustained growth and cash collection) and (2) end their long-running internal efficiency plan (stemming the cash drain).