Investment Thesis
DXP Enterprises, Inc. (NASDAQ:DXPE) is a maintenance and repair products and services provider headquartered in Houston, Texas. In this thesis, I will analyze its third quarter results and future growth prospects. I will also be analyzing its valuation at current price levels and its upside potential. I believe DXPE is on a significant growth track and is expanding its operations through acquisitions. Considering the sustained revenue and profit growth, I assign a buy recommendation for DXPE.
Company Overview
DXPE specializes in providing a comprehensive suite of products and services to support the maintenance, repair, and operations (MRO)) needs of its customers. Its business can be segregated into three segments: Service Centers, Innovative Pumping Solutions, and Supply Chain Services. Its service center business contributes maximum revenue at 70% of the total revenue, followed by Supply Chain Services at 15.7% and Innovative Pumping Solutions at 14.3%. It offers a wide range of industrial products, including bearings, power transmission, pumps, fluid power, safety products, and other MRO supplies.
Q3 FY23 Results
DXPE posted strong third quarter results with gross and net profit margin expansion. The revenues and EPS were largely in line with the market expectations. The service center business proved to be the outperformer for the company in the third quarter, experiencing a 13% y-o-y revenue growth. The strong demand from the US market resulted in this increase. Its clients from the energy sector boosted the revenues, and I believe this growth will be sustained throughout FY24, given the pace the global economy is gaining. With interest rate stabilization and no signs of further interest hikes, the spending on the operational front across industries is expected to pick up pace.
DXPE reported total revenue of $419.2 million, up 8.3% compared to $387.3 million in the same quarter last year. As per my analysis, the demand for MRO services and products from the North Central and Texas Gulf Coast regions was the primary revenue driver. The services center business outperformed with $294.5 million in sales, up a significant 13% compared to $260 million in the corresponding quarter last year. The Innovative Pumping Solutions segment revenues remained flat at $59 million y-o-y, and the Supply Chain Servies segment witnessed a 3.5% decline in revenues at $65.8 million, compared to $68.2 million. I believe the primary reason behind this decline is the company’s shifting focus toward chemical industry clients, which it believes will grow significantly in FY24. Therefore, I think this decline in the supply chain services segment is temporary in nature and could prove to be a revenue booster in FY24. Its gross and operating margins for Q3 stood at 30% and 8.6%, respectively, compared to 28.5% and 6.8% in the same quarter last year. The company managed to keep its administrative expenses in control while the revenues experienced exponential growth, which resulted in improved margins. DXPE reported diluted EPS of $0.93, compared to $0.71, reflecting a solid growth in profitability.
Overall, it reported a strong third quarter result with improvement on multiple parameters. The management has not provided any guidance for Q4 FY23, but the market expects the company to end FY23 with revenue in the range of $1.60-$1.75 billion and EPS around $3.32. To put this in perspective, it reported FY22 revenue of $1.48 billion and EPS of $2.47, reflecting growth of 18% and 34% increase in revenues and EPS, respectively. DXPE is not only focusing on growth but also improving its profitability, which is one of the main factors why I believe the company is on the right growth track. The company recently announced the acquisition of Alliance Pump & Mechanical Service, Inc., which is a municipal and industrial pump sales, service, and repair company. It had Sales and adjusted EBITDA of $2 million and $230 thousand at the time of purchase. This acquisition is part of the company’s strategy to focus on growth and expand in new verticals. The management is keen on continuing this acquisition strategy in FY23 as well as FY24, which makes me confident in the company’s growth in the long term.
Key Risk Factor
High Debt Obligation: As of September 30, 2023, it had cash and cash equivalent of $27 million against long-term debt of $408 million. DXPE is a growth company, consistently expanding its operations and acquiring new businesses that require significant funds. This long-term debt reflects this growth strategy of the company; however, such high debt obligation is putting stress on its balance sheet, which will negatively affect its future fund raising for further growth. High debt is also resulting in increased interest expenses which are denting its profits. To put this in perspective, the interest expenses in Q3 FY23 stood at $12.6 million, up a massive 85% compared to $6.8 million in the same quarter last year. I believe this is a big challenge for management, and it should be addressed. The company is growing its revenues and profits consistently, which makes this debt manageable, but investors should consider this risk before investing in the company.
Valuation
DXPE is trading at a share price of $32.97, a YTD increase of 21.5%. It has a market cap of $538.5 million. It is trading at a forward non-GAAP P/E multiple of 10x, considering FY23 EPS of $3.32. I think the company is trading at a discount compared to the sector median P/E of 18.1x. Also, when we compare it to its peer ALTG, which is trading at P/E multiples of 47x, we realize that DXPE is undervalued and there is a lot of room for stock price growth from current price level. It has been experiencing solid EPS growth over the past couple of years and is expected to perform even better in the coming years. I think investors can invest in the company at this price point with a long-term view of 3-5 years, and the stock could provide significant returns.
Conclusion
DXPE is on a solid growth track with improving profit margins and strong revenue growth. New acquisitions are expected to boost revenues in the coming years. The outperformance of the service center business is a big positive for the company. It faces the risk of high debt obligation and interest expenses, but the growth prospects of the company provide a favorable risk-reward opportunity. The company is trading at a cheap valuation and is a great investment opportunity for investors looking for a growth company at a discount. Taking into consideration all these factors, I assign a Buy rating for DXPE.
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