EV Charging And Energy Efficiency Trends Will Drive Long Term Upside Potential

Catalysts

About Orion Energy Systems

Orion Energy Systems delivers LED lighting, EV charging and related electrical infrastructure and maintenance solutions to large industrial, commercial and public sector customers across the United States.

What are the underlying business or industry changes driving this perspective?

• Expanding federal and state support for EV charging infrastructure, including the release of five billion dollars of funding, is enabling Orion to convert its established utility program and public sector relationships into higher margin EV projects, which may support sustained growth in segment revenue and gross profit.
• Rising construction and refurbishment activity across commercial, industrial and public sector facilities is driving demand for LED lighting and electrical upgrades, positioning Orion’s growing project pipeline to potentially lift top line growth while leveraging its fixed cost base to enhance earnings.
• Customer demand for integrated electrical infrastructure solutions that bundle LED lighting, EV charging and code compliance work is increasing Orion’s share of wallet with Fortune 100 and government clients, which may translate into larger average contract values and improved operating margins.
• Secular growth in energy efficiency and electrification requirements, combined with Orion’s value based Triton Pro fixtures and ongoing sourcing and reengineering efforts, may support higher gross margins in lighting that can contribute to stronger net margins as revenue scales.
• Long duration, recurring maintenance contracts with blue chip enterprises, exemplified by the three year renewal that is expected to deliver forty two million to forty five million dollars of revenue, are building a more predictable revenue base that may help stabilize cash flow and support gradual expansion in earnings.

Assumptions

How have these above catalysts been quantified?

• Analysts are assuming Orion Energy Systems's revenue will grow by 14.0% annually over the next 3 years.
• Analysts assume that profit margins will increase from -7.8% today to 1.5% in 3 years time.
• Analysts expect earnings to reach $1.8 million (and earnings per share of $0.43) by about December 2028, up from $-6.2 million today.
• In order for the above numbers to justify the price target of the analysts, the company would need to trade at a PE ratio of 58.5x on those 2028 earnings, up from -9.2x today. This future PE is greater than the current PE for the US Electrical industry at 30.9x.
• Analysts expect the number of shares outstanding to grow by 7.0% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 9.8%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• EV charging demand could remain volatile despite the five billion dollars of federal support. Project timing and utility program uncertainty have already caused a lost quarter of activity, which could cap long-term growth in EV revenue and limit diversification of the overall top line.
• LED lighting appears to be a mature market and Orion's lighting revenue already declined by two percent year over year in Q2. If secular demand for large retrofit projects plateaus or pricing pressure intensifies, the company may struggle to grow core lighting revenue fast enough to offset other segment fluctuations.
• The business model depends increasingly on large enterprise and public sector customers, including a three year contract expected to generate forty two million to forty five million dollars of recurring revenue. Any loss, downsizing or delayed renewal of key accounts could meaningfully reduce revenue and compress net margins.
• Recent margin gains are heavily driven by cost reductions and efficiency programs, and management does not expect gross margin to move materially above the high twenties to thirty percent range. If operating expenses need to rise again to fund sales expansion or new capabilities, earnings progress could stall or reverse.
• Even after four consecutive quarters of positive adjusted EBITDA, the company remains loss making on a GAAP basis and is targeting only at or near breakeven at eighty four million dollars of revenue. Any cyclical downturn in construction, delays in infrastructure projects or slower than expected uptake of bundled solutions could quickly push earnings and cash flow back into decline.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The analysts have a consensus price target of $18.0 for Orion Energy Systems based on their expectations of its future earnings growth, profit margins and other risk factors.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $20.0, and the most bearish reporting a price target of just $16.0.
  
• In order for you to agree with the analysts, you'd need to believe that by 2028, revenues will be $118.3 million, earnings will come to $1.8 million, and it would be trading on a PE ratio of 58.5x, assuming you use a discount rate of 9.8%.
  
• Given the current share price of $16.26, the analyst price target of $18.0 is 9.7% higher.
  
• 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.