In Brazil, Automation And Tight Financing Will Erode Rental Margins

Key Takeaways

• Adoption of automation and sector commoditization are putting downward pressure on equipment utilization, pricing power, and long-term earnings growth prospects.
  
• Regulatory pressure and rising capital costs are eroding margins, while tighter financing and heightened competition further threaten revenue stability and profitability.
  
• Diversified growth strategies, recurring revenue focus, and operational efficiency initiatives are driving stable expansion, improved margins, and financial resilience despite challenging conditions.

Catalysts

Operates as a machinery and equipment rental company in Brazil.

• Adoption of advanced automation and robotics in the construction sector is expected to reduce demand for traditional manual rental equipment and services, directly weighing on Mills Locação's equipment utilization rates and causing future revenue growth to decelerate beyond current market expectations.
  
• Tighter global financing conditions and elevated interest rates in Brazil may persist, which will likely stunt new construction project launches and increase customer default risk, leading to a rising provision for doubtful accounts and ultimately, lower revenue and weaker net income over the next several years.
  
• Pressure to accelerate fleet modernization in order to comply with evolving environmental regulations and customer preference for sustainable, green equipment will drive up capital expenditure, eroding free cash flow and squeezing net margins, especially as Mills is forced to write off or discount older assets.
  
• Ongoing commoditization in the equipment rental sector as larger competitors consolidate and tech-enabled entrants facilitate more efficient matchmaking and utilization will undermine Mills' pricing power, causing downward pressure on rental rates and reducing EBITDA margins.
  
• Intensifying competition from both entrenched local players and international tech-based disruptors may lead to increased customer churn and greater price sensitivity, limiting Mills' ability to grow its market share and resulting in lower long-term earnings growth than the market is currently discounting.

Mills Locação Serviços e Logística Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Mills Locação Serviços e Logística compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Mills Locação Serviços e Logística's revenue will grow by 10.3% annually over the next 3 years.
• The bearish analysts assume that profit margins will shrink from 17.6% today to 17.2% in 3 years time.
• The bearish analysts expect earnings to reach R$395.7 million (and earnings per share of R$1.88) by about August 2028, up from R$301.4 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 9.9x on those 2028 earnings, up from 9.2x today. This future PE is greater than the current PE for the BR Trade Distributors industry at 9.2x.
• Analysts expect the number of shares outstanding to decline by 3.12% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 21.57%, as per the Simply Wall St company report.

Mills Locação Serviços e Logística Future Earnings Per Share Growth

Risks

• Mills Locação is demonstrating consistent revenue and margin growth driven by sustainable growth strategies, disciplined capital allocation, and expansion into multiproduct offerings, which supports the potential for continued long-term increases in both revenue and net margins.
  
• The company is actively expanding its presence through strategic acquisitions, such as the NEXT Rentals asset purchase, strengthening its regional reach, diversifying into new segments like mining, forestry, and elevating its share of long-term contracts-actions that could result in higher earnings and more resilient cash flow.
  
• Mills is focused on increasing the share of recurring revenues by prioritizing long-term contracts, which enhances revenue predictability and operational stability, diminishing the impact of market volatility on its financial performance.
  
• Fleet modernization, operational efficiency initiatives, and adoption of technology such as remote-controlled equipment and IoT-driven monitoring are improving the company's productivity and cost structure, which can support expansion of operating margins and net income over time.
  
• Robust capital structure with low leverage, strong cash generation, and effective access to competitive funding positions the company to capitalize on infrastructure and construction demand trends in Brazil, further enabling revenue and profit growth even in challenging macroeconomic environments.

Valuation

• The assumed bearish price target for Mills Locação Serviços e Logística is R$10.6, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Mills Locação Serviços e Logística's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of R$19.0, and the most bearish reporting a price target of just R$10.6.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be R$2.3 billion, earnings will come to R$395.7 million, and it would be trading on a PE ratio of 9.9x, assuming you use a discount rate of 21.6%.
• Given the current share price of R$12.25, the bearish analyst price target of R$10.6 is 15.6% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.