3 Stocks Growing Their Businesses for 2023 (Episode 48)

Absolutely. So the stock we're talking about right now is Chin Energy ticker Symbol lng, which stands for Liquified Natural Gas. So it's a perfect ticker symbol for these folks. They're the largest, yeah, liquified natural gas producer in the United States. And at urgent Mid-Cap fund we like to invest in good businesses with positive change and definitely what's going on at Chenier meets that positive change and good business dynamic in that Europe right now is in a desperate situation where Russia has cut off their natural gas supplies because of their support and our support for Ukraine and the war over there. And they need other sources of LNG and North America and the United States are a premier provider of that, one of the two primary sources where they'll get it from. So Chenier Energy is in a great spot and they're able, now they have the ability to increase their production of LFI Natural Gas by 33% over the next four years. So not only are they completely filled up right now in their current production, they're able to grow it at really as fast as they can over the next few years. And Europe is buying most of that from them and at premium prices right now.

Yeah, so what happened to them at that point in time was they got a couple of more of their production facilities came online and then the price of natural gas actually started to move higher around that time and it benefits them. They charge two fees really. They charge a fixed fee for liquefying the natural gas that comes in and then they get a percentage of the value of that natural gas. So as natural gas prices started to rise because supplies did get tighter and this country really due to the economy doing so well and production hadn't kept up with it for a while. So that is when they really started to see nice benefit at Chine. The combination of their facilities were came online and the price of natural gas started to move higher.

Oh, so there will definitely be ups and downs in the stock price, but the other big part of the positive change at Shiner is that for the last decade they've been investing in spending money very, very heavily to get their look Loco faction facilities up and running and online. And they've finally gotten to that point where they have 45 million tons per year of capacity to export gas, and that's providing them with enough cash flow now to reinvest in the business and grow, but still leave a lot of profit leftover in the terms of earnings per share and also just free cash flow that they can give back to shareholders, which is one of the other things that we look for at the urgent mid-cap strategy is free cash flow really to give it back to the shareholders. So that's the change that's happening there that really is now they are free cash flow positive even though they're investing 4 billion a year in growing and expanding their facilities, they still right now have about another four to 6 billion a year extra to return to shareholders mostly through buying back stock.

They still have about $4 billion of debt compared to their 42 billion market cap.

Pretty low. So it's pretty low. They've been a, actually a junk credit rating up until very recently. But now that they finally have their facilities online and their product is needed, they've actually been paying down debt rapidly. So they used to have more, you know, closer to $16 billion of debt. It's down to four and they're gonna pay that down even more this year, another $4 billion of that. And now they're one notch below investment grade and investment grade credit rating. So that will further lower their borrowing costs going forward and it gives them an edge on their competitors, most of whom are still in that build out stage of building out their liquid faction facilities. And they still have junk credit ratings and it's tough right now with interest rates going up so fast for their competitors to borrow money. And in fact, one of them had a $1 billion deal fall through last week, they couldn't get it done and that's gonna inhibit their ability to build out their facilities and it's less competition at the end of the day for 10 year.

Exactly. So the Chene doesn't produce any natural gas, they don't do any drilling. They actually have contracts with natural gas drillers to pipe the gas to their facilities down in Texas and Louisiana where they liquefy it. So I think of them more as a utility or a pipeline type of a company in that regard. And now that they've, their heavy, heavy investment years are done and they have the ability to produce that 45 million tons per year of lng, they're closer to utility where that their contracts to supply l and g last for 10 to 20 years. So they're very long term agreements and they know, and it's a take or pay contract where the person has to pay them for the l and g regardless of whether or not they take it from them. So say person signs a contract for 10 years in year nine, they're like, they say, Well we don't need your gas. They still have, or your lng, they still have to pay for it. So they have very, very predictable cash flows going forward or revenues going forward and that makes them closer to like a utility or a pipeline type of a company. Probably a pipeline is a better example. So that's really how I think of them.

No, we all want it.

Yeah, so for a company like Chin, they actually were started in the late nineties with the idea that we, at that time in this country, it's hard to remember, but we thought we were running out of natural gas in North America

Before fracking and then fracking really kicked in in a big way in 2005. And so they had to pivot, they had already spent billions of dollars to build import terminals to import liquified natural gas and then they had to pivot in 2005 and spend all that money all over again to build LNG export facilities. So they've spent 24 years really just building facilities with very little revenue coming in the door and now you're seeing this rapid explosion in earnings and cashflow because finally the facilities are completed and they're exporting at, you know, 95% of capacity right now. So the difference for them is while they're an old company, this explosive growth phase is just hitting them right now. So people didn't pay a whole lot of attention to the stock up until really last year was when it started to take off, when the cash flows really started to kick in.

And that's the positive change that we were looking for at, we're looking for a good business. So that's one with high return on assets. They've got a management team that's a good steward of capital, so they'll reinvest in those high return on asset projects and then they're producing extra cash flow and they give the extra cashflow back to the shareholders on top of that. So you get the growth kicker with Janeer energy and you get money coming back. Mainly they're buying back, you know, 4 billion of stock. So 10% of the stock every year, which just gives you, as a shareholder a bigger ownership stake in that good business. That's the kind of thing we're looking for all the time.

So the good case on Fair Isaac or fico. So think of it as you, sometimes you don't like FCO scores but now you will like it when you start making money off of it. So that's the whole idea behind the stock and I love a situation like that. So, and their ticker symbol is fico, it's easy to remember. So half of their revenue at FICO comes from the FCO score where they sell that to the credit, the credit bureaus, TransUnion, experie, Experian, et cetera for a fee in order to, so people can rate your credit, your ability to repay that and that's half of their revenue. The other half is from software that they sell to companies, banks, credit card companies, auto lenders, mortgage companies to rate your ability to repay those loans. I'm sorry, that's software is more holistic than that where that half the revenue from software is basically where companies can manage their entire relationship with people.

So they can do the credit decision using a F I O score, they can actually market other products to you based on how strong your credit is and your ability to repay and what you might be interested in. And they can also manage overall the, you know, collecting that over time and managing the collections of your payments. So that software business for them is now a new rapid grower. In the past that software was, they would install it on company's servers within the building of that company and charge them a licensing fee. What they do now is it's cloud-based software and people just pay a subscription fee for it and they have what's called a land and expand strategy for their software where they land it, they get you to sign up for their cloud-based software and maybe you only wanna be able to look up consumers FICO scores.

But then you see, hey, I'm actually able to manage this relationship with the person and manage the marketing mailings to them, target those mailings to certain people and then manage that relationship and find new lending products that that person may need and be interested in. So you expand your subscriptions to the various parts of that software that Fair Isaac sells you. And that's actually growing. They call that annualized recurring revenue, which is just a Wall Street word for subscription revenue is going 40% a year. Wall Street likes to come up with those new terms instead of just calling it a subscription. So that part's growing rapidly but then the f I O score, there was also positive change in the pricing there. So for about 25 years prior to 2018, they weren't able to raise prices on those FICO scores. They would renegotiate on a regular basis with the credit bureaus and they couldn't get the credit bureaus to pay them or even though there was tremendous value in those scores because a score costs them pennies is usually the credit bureau will pay or whoever the lender is will pay just a few cents for a person's FICO score.

But when you think about it, if they, if a person can't repay that loan, you could potentially lose thousands of dollars. So there was tremendously more value than that pennies that FICO was getting and they actually, they got a new CEO took over and he sat down with the customers and said, hey, this just isn't fair. We wanna collect more value for the value we're actually giving you. And once they've put it that way, the CEOs at the credit bureaus and other places realized actually you're right. So they've been able to raise prices five to 7% a year and they do it intelligently based on their analysis of where the most value is. So they won't get pushback from raising those prices. So what had been a very slow growth business at FICO and bear with me, this is a long explanation. They were growing their revenues five, 6% a year for a long period of time, which is nice consistent growth. But more recently it's been you know, nine to 12% typically based on a combination of raising prices on FICO scores and the software strategy is starting to pay off for them as well.

Yeah, so there's a, a couple of things baked into that slower earnings growth estimate for 2023. Number one would be the higher interest rates slowing down lending, especially mortgages. So people when they think of the FICO score often just think of, well it's fair Isaac companies tied to the mortgage industry but that's less than 10% of sales at peak it was about 9% of sales and that's already fallen off a cliff. So they were still able in this most recently reported quarter to grow earnings, 32% even in the face of that. So that's part of the reason people are concerned lending will really, really slow down. And then the other thing is there's a potential ruling coming out from the FA later on this year being that right now FICO has a monopoly and that Fannie Mae and Freddie Mac can only buy loans that were issued using a FCO score or mortgages that were issued using a FCO score.

And in March there was supposed to be a ruling where the FHFA might allow competition in into those scores from a vantage score and another potential competitor to fico, but they pushed off that decision indefinitely. So we don't know when that's going to happen. So there's that fear that if they allow competition into the mortgage scores, that that will slow revenue growth and slow earnings growth at Fair Isaac. And that is a potential risk. But you can look at a couple of different things in 2008 after the great financial crisis, which was caused by really a lot of people issuing mortgages that could not be repaid and other types, but these mortgage products were given very high like AAA ratings from the rating agencies like Moodys and s and P. So what the government did was said, hey, we need to open this up to more competition than just Moodys and s and p and then maybe we'll get more accurate credit ratings on these mortgage products.

But what happened is people actually like and trust Moodys and s and p and they have the infrastructure to really analyze all these credits. So the competition while they tried to break in has not taken any market share for Moody's and s and p. So there's the potential here that people are still familiar with the FICO score they trusted it does do a very good job measuring if people can repay their mortgages that it won't have a a huge impact on Fair Isaac. And that's our thought process on it. So we don't see as big a risk that there'll take an earnings hit from that ruling. And also mortgages I mentioned earlier are only 9% of Fair Isaac's revenue. So it wouldn't be more than you know, a portion of that 9% that went away.

All right, so this is a very good example of a mid-cap stock where it's a pretty large company, it's a 2 billion market cap roughly right now. So it's pretty large and very stable. It's spend in business for 30 years and there are government contractor that focuses on four key areas, all of which are growing very, very fast in the government budgets right now. And that's healthcare spending IT modernization within various government agencies because they're, IT systems are incredibly old disaster recovery of those systems. So if there's power outages, do they get hacked? They can recover and get back going again.

Exactly. Hitting Florida. So, and then the other one is energy efficiency. You're mainly green energy type of products.

Also big. And those four areas, energy efficiency, green disaster recovery, IT modernization and health are 60% of ICF eyes revenues. So, and they're all expected to grow at 10% or more per year for the next several years. So it's giving them a nice boost in future earnings growth going forward. And for example, the inflation reduction act that was just recently passed has 370 billion of climate spending in it and ICF I is exposed to that because they help manage those projects for green energy. So installing solar panels at the large scale level and also wind farms as well. So they manage the permitting processes of that satisfying that the carbon emissions are low, where they're supposed to be and the carbon emissions of you know, all the way down the food chain of manufacturing those things. So they're right there ready for what's important right now in terms of government spending.

So in that case we try within the mid-cap space, you know we're, we invest at the midcap strategy, we try to invest with companies from, typically when we buy the stock it's about a 1.5 billion all the way up to 20 billion. So it's a big range. We try to balance the portfolio really, you know, keep the market cap of the portfolio around the 7 billion mark. So a little bit towards the low end, but it's more stable where you diversify with some of the larger, more stable companies like generic energy and some of the smaller ones like ICF International, which is actually very stable, it's just smaller. They have no net debt and they're very cash flow positive and have been run by the same management team now for you know, 25 plus years. So they're very stable and they're also large enough that they're an active acquirer.

So they've bought seven other primarily government contracting companies in the past five years to build out different parts of their product portfolio and build out more services that they can provide to primarily the federal government, which is 48% of revenues. But then state and local governments are 15% are so of revenues. So they're still actually large enough that they're buying up their smaller competitors and that government contracting space is actually full of tens of thousands of different companies. So at the 2 billion level, ICF is large enough that there's a huge number of them to buy and really roll up that industry.

Yeah, absolutely. And there is a big barrier entry, like you mentioned. It's not only the paperwork but it's also when you're talking with the contacts at whatever government agency you're talking to, they have to actually believe that you're gonna be able to execute the project before they're gonna let you in on any serious bidding. So it is a pretty high barrier to entry like you and I I don't think would stand too much of a chance.

We definitely see that continuing. And part of the reason for that is they've had this nice earnings growth without the real spending kicker that they're about to get like from the re inflation reduction act alone should increase their revenue growth rate by two to 3% a year, which should translate into about double that in earnings growth, additional earnings growth for these guys. So they happen to be in the sweet spot really for the priorities for government spending at the moment.

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You're welcome and thank you Kate for having me on. I appreciate it.