Mining Services 101: The ASX Sector Hiding in Plain Sight

Mining services companies don’t own the mines, but they keep the entire mining industry running. They drill, haul, maintain, build, repair and support the operations that produce Australia’s most valuable commodities. And while most beginners overlook this part of the market, the sector has quietly outperformed the Small Ordinaries Index since 2021.

In this episode I speak with Issam Eid from RaaS Research Group. He has spent more than 30 years analysing Australian equities, including two decades specialising in small caps. His recent sector review found that 73% of mining services stocks have beaten the market over the past five years, a surprising result for a group often dismissed as “boring” or “old economy”.

Issam explains why these companies have done so well, the four simple factors that separate the winners from the laggards, and why clear earnings guidance and experienced management teams matter so much in this industry. We also explore the risks: low margins, contract blowouts, client solvency issues and even unexpected pitfalls like spreadsheet errors.

For beginners, this episode offers a clear, practical introduction to a sector that rarely gets attention but plays a crucial role in the Australian economy.

TRANSCRIPT FOLLOWS AFTER THIS BRIEF MESSAGE

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EPISODE TRANSCRIPT

Phil: G' day and welcome back to Shares for Beginners. I'm Phil Muscatello. Today we're diving into the mining services sector. These are the behind the scenes companies that don't own the mines, but do a lot of the heavy lifting. Drilling tunnels, hauling rock, maintaining equipment, processing the minerals and keeping the mines generally operating. Issam Eid is from RAS Research where he covers this sector amongst many others. Of course, he's here to explain in plain English why some mining services stocks have done so well, why a few have been left behind and which ones could possibly, maybe with things all going right, be the next good ones. Hello, esam.

Issam Eid: Good morning, Phil, how are you? Uh, thank you very much for having me on.

Phil: Yeah, thanks very much for coming on. So esam, um, tell us a little bit about yourself and the slippery slope that got you into the financial services sector, Phil.

Issam Eid: Thank you very much. Well, I'm really about to show my age here. So for me, my journey started back in, when I was in year 10 at high school, so back in as far back as 1987. And as you know, in 1987 there's one event which stands out in everyone's mind. It was called Black Monday. And I was still at, uh, high school obviously, and we just actually had gone to see Wall street for our, um, economics subject and I walked into that movie and by the time I walked out, decided, uh, you know what, that's exactly what I want to do for a living. So from that period on, back in 87, I basically aligned to make sure that everything went that way. I was heading that direction, so chose my subjects accordingly, chose my university and degree accordingly. I think I disappointed my parents when I came home and said, I want to do business, finance and economics. I think they expected me to do something like engineering, where I could actually make things that actually added value to the world. But nevertheless I, uh, persisted and that's the avenue I chose. And I was fortunate enough to be recruited by Macquarie bank straight out of university. I started in risk management, which wasn't exactly where I wanted to be, but it was actually a fascinating experience. The exposure we got to Macquarie bank back in 1993, you can imagine, I think it was only like three or four hundred employees at that point. Within the firm, risk management was actually got exposure to all parts of the business and so we got to know intimately every single aspect of Macquarie bank did other than corporate advisory because that wasn't risky from a market risk point of view. And then from there, once I did my two years there, I uh, transferred internally to funds management and I started pretty much everything within funds management. I was a dealer then also did um, a REITs, was an uh, assistant portfolio manager there and analyst. I did large caps and more importantly introduced me into small caps, which has been my I guess specialty for the last 20 or 30 odd years. And to be quite frank, it's the most exciting part of the market and most dynamic part of the market to be involved in. I mean large caps are great but they tend to be, you know, slow moving, not as dynamic and not as free with information as you find small caps management teams uh, are. So that was the journey and I've been doing small cap since 2002 and I have absolutely no regret about focusing on that part of the market. It's like I said, it's exciting, it's dynamic. There's always new businesses, new companies, there's always something happening.

Phil: Before we started recording we were having a little casual chat and it's interesting that you bring up risk management because we were talking about everyone has losses in the market. Just tell me a little bit about your thoughts there and about how you've got to be actually prepared that you know what 40, 50% of your picks are going to go wrong.

Issam Eid: Yes, professionally, if we achieve a strike, what we call a strike rate of 60% of our investments going up, that's considered a win or exceeding the benchmark, that's considered a very good outcome which on the converse we look at the other way. It still says, well 40% of your stock picks go the other way. And that is the reality of the space we're in. It is quite, can be quite risky because there's less information, the market isn't as liquid. So when the market moves, if there's some bad news, then you could see stocks drop 30, 40% in a day. And at the moment even large caps aren't immune to that from that as we've seen with the case of cochlear that fell 40% in one day. So we're starting to see a lot more, I guess, volatility in the markets progress their way up into large capsules. And maybe that's a function of what we're seeing in the structural changes in the global economy. With AI, with technology advancing so quickly and disrupting large companies, that could be a factor into why we're seeing that sort of volatility creep into the large cap space. But

00:05:00

Issam Eid: within small caps, that's just another day at the office, a 40% move in a stock. So you got to be prepared for that. And as I said, I mean like, uh, we were discussing earlier that these businesses are dynamic, the environment's dynamic, things change, things don't stay constant. And small businesses tend to be affected more so either because they've got client concentration or they're exposed to a particular dynamic or thematic and that changes. And so therefore the stocks can actually change in terms of pricing very, very quickly. But the key thing that I always say is that anyone can make money in the market. The question is how much risk you take to do it. Like, you know, I've seen over experience with other managers watching, you know, one year they'll be up 70% and you go, wow, how they manage to do that? The question is what sort of risk did they take? Were they concentrating their portfolio? Were they going to riskier, uh, companies? And then the next year you might see that they actually underperform significantly as, you know, things change in those companies or the liquidity runs dry and therefore there's nothing to keep on lifting the share price of those individual companies.

Phil: Your bio also mentions a couple of financial services businesses that you were involved in in the startup phase. What were they and what were you doing and what did you learn?

Issam Eid: Well, this goes back to the gfc. So uh, at the time we were at Credit Suisse, we had a team equity team there. And then Credit Suisse sold the actual asset management business to, oh, let me think it was a uk, uh, firm. I just can't remember the top of my head. But anyway, they sold the business and therefore we decided not to move over. We decided to go out on our own and set up our own um, boutique at the time called Sigma Funds Management. And we were sort of a value style fund manager doing both large caps and small caps and also had an integrated product that brought the best ideas about the large cap team and the small cap team. And look, at the end of the day, the real lesson out of that is distribution is important and having the right distribution people or distribution team and support is important. And that's why you look at things like uh, uh, Pinnacle, it's a listed entity which invests in boutiques and provides services. They've built a very successful model being able to commercialize a lot of these startup businesses through their distribution and network into both institutions and retail. And that to me was One less. I said, well, you can be a great fund manager. You can pick the best stocks and have a great performance. Unless you're, you know, your performance is so far, uh, uh, off the planet, off the charts and you're a star stock picker that everyone knows. Then distribution is important from a business point of view to ensure that you get the clients on board.

Phil: Just to explain for listeners, when you're talking about distribution like these are companies that are, you're talking about companies like Pinnacle who are, you know, have got a lot of funds within them and they've got managers managing the funds. Distribution is basically getting the message out to uh, either retail investors or funds, financial advisors as well. That's how that works, correct? Yeah, it's good to have a look. Yeah, it's good to have a look into how the system actually operates from within.

Issam Eid: Yeah. So Pinnacle has both wholesale and retail distribution. So that, I guess BDMs, if that's what you call them, uh, marketing people who focus on two key parts of the market, wholesale, which is your professional investors, like your super funds, your sovereign wealth funds, your international insurance funds, et cetera. And then you've got the retail side which is focusing on financial planners, uh, the retail network, even direct to retail, marketing Director, retail. So they had that expertise and they have the resources to be able to get your product out there. And the second uh, finance institution I, uh, was involved with as a startup was a firm called Crescent Wealth. And what's different about that firm is that it was Australia's first Sharia compliant superannuation fund. So it was basically what we saw as an opportunity. Like I'm um, a Muslim, so therefore when I was looking at my super, I said well there's no real, what we call Shari compliant investments on offer at the time. And so uh, therefore we decided to build it from scratch. So we went through, and with uh, two other co founders, we actually applied to APRA, got our superannuation license, applied to ASIC, got our AFSL, and we got up and running in 2011. By the time we got everything on board from a licensing point of view, we were able to launch Australia's first Sharia compliance grannuation fund, which is still running to this date and has about 4 or 500 million under management. I think they've changed their name now to Salam. But that was exciting, like building something from scratch that was new, that hadn't been done before. That was a real uh, buzz trip from um, a gentleman rust point of view.

Phil: Okay, Sam, well, let's get back to mining services companies. What do they actually do?

Issam Eid: Good question.

00:10:00

Issam Eid: Well the question is what don't they do on a mining site? And I'll actually refer to an image and we'll give you actually a pretty good description of what can't. What is done, what is done on the mining side by mining services. So as you can see from that image, it shows you uh, actual functioning mine and you can see the mill, you can see trucks obviously going up and down the mine, delivering ore to the mill. Basically mining service providers can do all of that work or they can do specific pieces of that work. So sometimes companies actually outsource the whole operation including managing the mill and the processing of the ore, transport of the ore, the mining, actual mining where you dig out the actual ore body, delivering it to the pad, drilling and blasting. The. The other things that involve there is also supplying product into the mine site, accommodation and also maintenance and repairs and also rental like rental of the trucks, the truck fleet and the diggers. Like uh, there's a company called Emico which does that actually specialize in rental of the actual mining fleet. So it's can be quite encompassing in terms of what is done on site and also can be very, very specific. For example, there's a company called Maida which provides a lot of the labor into mining services. Rather than actually doing the actual services, they provide the labor hire and they provide people to do the maintenance work, et cetera. So it can be very specific to the site or it can be all encompassing. And some of the bigger mining services companies like THES, NRW and also McMahon can do the whole lot in one

Phil: hit Ditch the spreadsheets. Sharesite is Investopedia's top tracker for DIY investors. Invest smarter, not harder. Grab four months free on an annual premium plan at sharesite.com sharesforbeginners it's interesting because Mineral Resources is one of the best known companies in this sector providing services well known for many reasons. And I remember during the lithium boom m or one of the lithium booms that they were seen to be a proxy for the lithium price. So the dynamics can be a little bit different, can't they between an actual mining company and an actual mining services company. Can you talk a bit about that?

Issam Eid: Yes. I mean in the short term obviously mining companies are affected by what happens with commodity prices. So as commodity prices go up and down, you can see share prices can track the performance of that commodity. Mining services tend to be more stable because they're production based and so they're on site working, they usually have a contract three to five years and those continuously work day in, day out to ensure that the mine's producing enough ore and actual end product to uh, be able to deliver to end markets. So they tend to be more insulated in the short term from commodity price movements. But over the long, medium to long term, if for example iron ore price was to collapse to $40 a tonne, ultimately that would be impacted because mining companies would then review their cost base and usually they go back to the contractor and say, hey, we're not making money, you're making money. You'll give something up if you want this contract or bring in another provider. So uh, that sort of leads into. I guess the second question you sort of had was why aren't mining companies doing the work themselves? Back in the 80s and 90s a lot of the mining companies actually did do the work themselves. Internal workforces, some of the larger players still do that on certain sites, but contractors have come more prevalent because from a mining company's point of view, you don't have to deal with the labor issues. It's easier to sack a uh, contract miner than it is to sack a workforce with all the political and termination payments that come with that. And you can always retender a contract if you feel that the contract is making too much money or you're under pressure and you put the contract out to tender. And then what we've seen in the past is that when there are always some contractors are willing to undercut and do it for cheaper. And that allows that flexibility for um, the mining companies themselves to be able to flex and make it their cost base a lot more variable by using contractors as opposed to doing the work themselves. And the argument is the contractors be more efficient because they're profit focused and they'll ensure that their workforce will do the work for the least possible cost.

Phil: Look, I'll just point out here as well is that SM has been referring to an image here which you're not going to be able to see in the audio podcast version, but it'll be available in the YouTube version and in the blog post because it's a great explainer about how this sector operates. So Isam, um, your sector report shows that 73% of mining services stocks have beaten the small ordinaries index since May 2021,

00:15:00

Phil: which is significantly higher than the 60:40 ratio we've been talking about. Why has this old economy sector done so well while everyone's been chasing those sexy tech stocks?

Issam Eid: Yes, thank you for that question. It actually surprised me when I went back and looked at the data myself. It was actually surprised me that the percentage actually have outperformed uh, since 2021. So I remember pre2021 a lot of these companies were actually struggling in terms of their share prices. The cycle was, you know you tend that they tend to follow the commodity cycle. So the commodity cycle had sort of, you know we were sort of just recovering out of the whole China expansion and boom and people were concerned about what was happening with iron ore prices where the world global economy was going to. We had Covid and so it was a real, you know, is the end of the world and therefore everything is irrelevant and a lot of prices got smashed. But looking Post Covid from 2021 onwards, these companies as a whole especially I'm looking at the smaller companies, I'm looking at the large, larger end of the market like immun Resources I haven't looked at, I've really looked at the small end of the market because that's our expertise and smalls and micros. And when I went through that universe of stocks that we look at, yeah it was surprising that almost 80% of the stocks outperformed the small ordinaries index. And I think at the end of the day what we've seen is these businesses have evolved and they've become more efficient, more focused. Obviously downturn does that to you. It makes you refocus on your business and rehome. And also they've made some moves and go through into those what are uh, anecdotes and factors that I've identified as being drivers of that share price performance. But it's been a pleasant surprise. But I think at the end of the day people see them as a relatively safer uh, investment in the sense that it can't be disrupted as easily by technology or AI as we're seeing now, everyone's concerned about the impact of AI these companies, people need to perform, actually do the work. And so at the moment, unless robots and everything becomes automated, which potentially could be an issue in a decade's time, or however quickly they can bring robots and automation to mining or um, even any other bait services provided, whether it's plumbing or you know, carpentry, if they can automate any of that sort of work, then obviously there will be an impact in terms of these workforces. But you would argue they would potentially be a beneficiary because the most expensive part of a mining service company is the labor. And if you can put machines into work There then for these companies actually make it more efficient and therefore more profitable. I'm sure they'd have to share some of that profitability with the mining companies they service, but nevertheless leads to more efficiency. So at the moment the way the market views these companies is that they're less prone to disruption from AI and technology and therefore their earnings are more secure going forward.

Phil: I think it's a surprise for many beginners that because they think about the big mining companies. But then when you start looking into the ASX, uh, 200 and the rest of the ASX as a whole, you do suddenly realise that there is this sector that does exist. And I had a question here about why do everyday investors overlook this sector? It's just because people don't know about it, do they?

Issam Eid: It can be easy to overlook. And the other thing is, as you said, the mining companies, large mining companies, bhp, Rio Fortescue, they're all in the large, they're well known around in terms of the market. When you start going to small caps and market caps, these companies tend to be less well known. Unless you're in the industry then obviously you know what they do. But they don't have the same obviously exposure as the large cap mining names and therefore they tend to be overlooked uh, by the market. And that tends to be one. And the other thing is they are a boring business. There's nothing exciting about it like, oh, this is new technology or this is, you know, a new software release, it's going to take over from Microsoft, et cetera.

Phil: Another chips, another chip story. This is a chip that does this kind of processing for AI.

Issam Eid: Uh, yeah, they're not sexy, exciting businesses. They're guys in high vis working on trucks, ah, you know, shoveling dirt. So no one gets excited by that sort of image. Whereas, you know, you show, you know, whether it's a new social media platform or crypto, which no one really understands, but looking might look very sexy because it's always moving, prices are moving everywhere and volatility. But this is a pretty boring type of business like tradies, right? When people look at it go, how boring is that? Being a plumber or electrician. But these businesses tend, uh, can be quite big.

Phil: Have you ever had to, have you had to hire one recently?

Issam Eid: Oh yeah, look, they're hard to get a hold of. That's the problem. Like trying to find a, find someone to come out and do a small repair. At the moment it's very, very difficult. They're just too busy on construction work. So uh, good Luck.

Phil: Yeah, that boring sector. So this sector, I mean every sector is going to have risks. What are the particular

00:20:00

Phil: risks that apply in the mining services sector?

Issam Eid: They may be boring businesses and may not be sexy, but the other issue with them is they tend to be lower margin businesses. So for example software companies tend to have uh, profit margins of 20 to 25%. In mining services and contracting work that can be as low as 3 to 5%. So it's not much margin for error. And um, we've seen this historically with a lot of listed companies and unlisted companies. If a contract goes bad, whether you've mispriced the contract, you've had commodity prices change or what we're seeing at the moment, like with the increase in petrol prices, there's a lot of, if you have underestimated that fuel cost for example, then you may have to bear that cost which will eat into your profit margin margin. So that, that's a major risk. The other risk you have is with mining contracting a lot of the miners tend to be second tier or third tier miners as opposed to your BHPs and RIOs. There are contracts with BHP Rio and Fortescue, but they tend to be uh, specific works, whether it's civil work or you know, drill and blast or where sometimes large guys tend to use their own workforce as well. So if you're dealing with second tier and third tier miners you always have the risk that they may go under. And we've seen that happen with a number of contract miners where their clients have gone under and then you know, they have to wear that contract. Like for example NRW had, was it One Steel, One Steel, Wyalla Works over in South Australia, which had to be bailed out by the government, that contract went bad on them. So when that, when that business went under that cost $132 million last year in terms of profit they had to take. So that's always a major factor. Uh, the margins are low. So therefore there's little margin for error. And one anecdote that stands out in my mind, I remember McMahon's back in the uh, 2014, 15 had mispriced a contract because one of their employees had hard coded a cell in the spreadsheet and that's. No one picked up on it. And therefore when they actually were on site working, they were getting the wrong numbers coming through their forecasts. And once I realized the error, it actually became a loss making contract for them and this was a big contract itself. So it's error, as simple as that. Can Cause the business to have a contract go from profit making in their, in their eyes to actually being loss making. So there's always those risks within mining services and contracting as generally as a whole, and I'm not talking specifically about mining services, other contractors have had like as you know, like major commercial works or even infrastructure works. You've had disputes between builders and government and you know, construction companies and REITs, REIT companies, when they're building new commercial buildings they go, oh look, there's a cost blowout. Who wears the cost of that? Is it borne by the developer, is it worn by the builder? So you always have that risk inherent in that the contracting works. Most people want fixed price contracts and that's what causes the problems. Someone's got to bear the risk and who bears that risk at the end is the real issue. And it comes down sometimes it may not be what's who's legally right as opposed to who's commercially bigger. Uh, because I've seen a lot of big companies, even though legally the contract is in favor of the contract, they'll go, well I'm not going to go and fight BHP or Rio for example because it means I won't get any future business from them. So I'll just have to wear it. Even though uh, legally the contract says I have a right to claim that from that company.

Phil: Wow. And then you mentioned spreadsheet risk. That's a new one, isn't it? I've never heard of that.

Issam Eid: Yeah, that was that one. Like I said, in this, in this game you learn something new every day and you can't be shocked about what comes at you. And that one stood out in my mind as well. Wow. It's the first time I've heard that one.

Phil: So in your report you identify four simple things that separate the big winners from the laggards. Can you explain those for, for us please?

Issam Eid: The research is more based on my experience and anecdotes that I've picked up over time as opposed to any sort of quantitative research of trying to find the correlation or work out what mathematical um, relationship between these factors are.

Phil: Uh, this is your touchy feely approach to these, is it?

Issam Eid: Yeah, exactly. These are things that you pick up through experience over time. Go, you know what, why are these companies up? Why have some of these comes out before more than the others? And that's what I was really trying to filter with the report is why have some of these mining service companies done really, really well and others have lagged behind? And there was really four Things that I looked at that stood out to me that were the key drivers. The first one was providing profit guidance. It's as simple as saying, okay, for next financial year, we expect our profit to be such and such, for example, 100 million. That factor, uh, I, uh, think is one of the key drivers because the market as a whole, like everyone on the investing side, the one thing that we have that the company doesn't have, we call information asymmetry.

00:25:00

Issam Eid: We don't know what's going on inside a company. We don't know what their challenges are. We don't know what's going well, what's going bad. We don't know which contracts are good, which ones are bad. And so, uh, we're taking an educated guess about what we forecast the earnings to be. Whereas management should, should have a better handle on what those earnings should look like. I mean, there are obviously things that do change, but they do, of course, they have the internal. They know what the contracts are, they know the volumes, et cetera. They know their run rate from month to month. They should be in a much better position to be able to understand what their profit forecast will look like. And so when that company provides you profit guidance, it actually increases the confidence of the market and the ability to actually value that company going forward. And so they tend to trade at higher multiples because the market is more confident about what their profit outlook looks like. So in that particular situation, anyone who provided quantitative guidance, actual numbers versus what we call qualitative, just descriptive guidance, tend to do better than the ones who provided descriptive guidance.

Phil: Can we just dig into that for a moment? What's the difference? What's it look like? I mean, surely I would have thought a profit guidance would be serious numbers, but what. There are some. Some management will just give a bit of a vibe about what the future is bringing rather than saying, these are the clear numbers that we've identified.

Issam Eid: Yes, correct. They may say things as simple as, we expect our earnings to be higher next year, which, okay, that's definitely a

Phil: red signal then, isn't it?

Issam Eid: It's not a red signal. Like, it's better than saying we expect our earnings to be lower. So you're telling the market things are going to be better, but the ones that consistently put out a numerical number tend to be some of the better performers in that group of companies that we looked at. So it's not a question of whether it's a good or bad. I mean, even the ones that provided bad guidance but was numerical, there was one company that stands out, and that was Austin Engineering. They still outperformed the index. So what we took from that was as long as you provide numbers that the market could, uh, be able to use to value the company, even though, uh, there may have been downgrades or negative growth, it gave the market confidence to be able to value that company more than simply saying, oh, we expect our earnings to be higher next year. So that was one factor. The second factor we found that was impacted was the experience of the management team. And that's pretty, I guess it's self evident to a degree. The more, the longer that the management team's been there, the more experience they have with the company. It gives people more confidence that they know how to react and how to position the company when things change, as they inevitably do. So it gives the company more, gives the market more confidence that the management team is capable and willing to adapt the business and take advantage of all the opportunities they have in front of them. So we found that the tenure of the management team also led to positive performance. And that's also a confidence thing. The more the market sees of the management team, the more confident they become with that management team and more comfortable and are prepared to give them a premium for that. The third factor we identified was what we call value accretive acquisition. So whether it just, you know, the business acquired another business within the same, you know, get a competitor for, I guess, put in simple terms, it just provided more scale to that business that the bigger they got, the more efficient they could be, the more they could leverage their Fisk fixed cost base at HUD office with a, uh, larger revenue subset. Or they made acquisitions which helped them diversify into other sectors, away from mining services, for example, into electrical work. Or, you know, in terms of east coast, we've seen massive investment as we try to move away from fossil fuels into more renewable energy. That uh, requires a lot of work to be done from an electrical point of view in terms of our, uh, transmission lines, substations, as well as what we're seeing at the moment, massive investment in data centers to help be able to, you know, allow AI to progressively take over the world. So those companies that diversified away from mining services into whether it was asset maintenance or electrical contracting, or diversified into commercial or into infrastructure works. Those companies that made those acquisitions successful, they did, they tended to outperform. And then the last factor, which is the one you sort of, I guess more of a medium term impact, is the impact of commodity prices. So those mining service companies that are exposed to Commodities that are favorable at the moment. For example, over the last two years, gold has been one of the best performing commodities. Those companies associated with, whether it's the mining companies

00:30:00

Issam Eid: or those service providers have tended to do perform better as well. So that's been, I guess that had less of an influence, but it was one of the key factors because generally speaking, I think if you go back in time, what we had was initially the resource super cycle back in before the gfc and then we saw all the mining service companies, all commodity prices were going up. Then we had the GFC and obviously commodity prices collapsed and the share prices of contractors followed that as well as mining companies. And then what we're seeing at the moment as we're seeing increased demand, whether it's gold, silver, uh, copper, because of the electrification of the world, has moved away from fossil fuels. And now more recently, obviously oil prices have shot through the roof. So uh, energy security is now important. And so we're seeing increased investment back into fossil fuels alongside renewable energy to ensure that energy is available for the foreseeable future. So those companies are exposed to that pickup in oil prices will actually do reasonably well because there'd be more work obviously going around.

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Issam Eid: Yes.

Phil: Sam, let's get down to brass tacks and talk about some real companies. You flag MLG AUS and Mitchell Services as two laggards that are ready to re rate what's changed for them.

Issam Eid: Okay, well um, we've had a bit of a split there. So one's if you look at the chart between those two companies, Mutual Services done very, very well. Fortunately more GIS hasn't done as well though it's of course of operational issues. I think one factor that stand we'll start with Mitchell's because that's obviously been a winner. No, everyone starts on the winner. That's done really well because last year was a very disruptive year for them. They had one of their major clients in the coal space had to reduce the amount of work they were doing. So that was disruptive and uh, impacted the business. And then the other thing that sort of worked in their favor is their exposure to gold miners because they do drilling. Mitchell Services does drilling work. So they do underground drilling. So they're always drilling ahead of um, the seams. So then therefore when the mining machines come through afterwards, they can um, break down and take the ore up. What they try to identify is where the seam's going and then that way they know where to mine. So Mitchell's is an uh, underground mining drilling company and they also provide surface drilling for metallurgical coal. And what's worked for them is they've had no disruptions this year. So they've won some contracts which they came with last year, which they have been, they've mobilized to at the end of last year so there'd be no impact from those sort of variable costs. They've had no disruption from the business from weather and, or clients closing or reducing amount of work. And they've picked up more work on the gold mining side which is more profitable for them. So they've seen their earnings actually I guess normalize back to where a normal state would be. So they basically doubled their earnings over the last two years in this financial year versus last year. So that's worked well for them. And also what's starting to come back for them is the coal price. So coal prices were depressed through uh, last year. The bounce back this year, both thermal coal and also metallurgical coal. So that is potentially that could provide more upside as the coal miners increase their volumes again MLG Oz this is a business I thought the market would really take a liking to. They service the goldfields in wa so if you look at where the gold fields are located in wa, they have infrastructure everywhere around it and they specialize in haulage to and from the mills as well to the port. They also do uh, bits and pieces around the mine sites and any expansion of the gold mining industry in that specific geographic region plays into their favor. They're the dominant player. They've got scale and they've got everything in place. So I uh, still believe that company is well positioned to benefit as gold production expands in Western Australia, especially as new mines open up, all mines are expanded. So even though the share price is I think tracked back a little bit, I think it's down 17% from when we initiated on it. But fundamentally the operations are going very, very well. And they had the inaugural dividend announced at the half year results. Uh, everything's tracking as it should be operationally and I think the market will rewrite that. I think maybe obviously the gold price has come off from its highs from 5,500 down to sub 5,000. Maybe that's been taking some of the gloss off it. But operationally the business is going very well and is well positioned to pick up more Work. And they're also winning work in iron ore, which is also. It's only 5%

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Issam Eid: of their business, but it's something they're expanding into.

Phil: Okay, so Mastermind's another company that's been mentioned as well. Why is this company beginning to look undervalued? You sound excited. You're ready to jump out of the gates on this one.

Issam Eid: Well, it has been undervalued for a long time. Little. There's been a number of factors, as I sort of mentioned earlier, with regards to Mitchell's. The coal prices. They're exposed 100% to the coal industry. So both thermal and metallurgical coal across New South Wales and Queensland. And so obviously pricing has been depressed through the most part of, uh, calendar, uh, year 25. And, uh, what we're seeing now is a slow recovery. We're seeing a recovery in coal prices, obviously with the oil price shock. We're seeing people demand more thermal coal for energy security. We've seen metallurgical coal also pick up as we've seen increased demand out of India. So that's all seen a pickup in the. In the commodity price. But also they went through a bit of a rough patch as well. They had. They were impacted by similar mine disruptions with Anglo. They had some fires at their operating mines at two sites. And that was a core part of their business. And so that they. Last year there was a. Had less work they were doing, as I obviously tried to contain the fire and the damage and rehabilitate the mine before restarting through this year. So that's been a factor. Uh, and also they had a few. A, uh, bit of a hiccup. And they acquired another mining service company to try and, uh, diversify away into more metals, away from coal. And that didn't go too well for them. They sold out that business, which allowed them. They sold at a loss, but allowed them to put cash on the balance sheet and actually ensure that the balance sheet is well insulated. So the net cash on the balance sheet. So it's a pretty strong balance sheet. And the other thing that sort of hangs over that stock is the subject of some litigation at the moment because they had two fatalities back in the early 20s. Two mines are, um, operating at. And so that was overhanging the stock. And they've had one resolved where unfortunately they found guilty of industrial manslaughter, which is obviously a negative. But the maximum penalty there is more than well covered by. With cash on the balance sheet. And you also have insurance that will mitigate that to a degree, but operationally the business is actually doing pretty well this year. So uh, we've seen a recovery in their earnings and their margins as they've uh, brought on new mine M sites and they're also subject to any pickup in the Anglo mines once they come back on stream. So that should further expand their revenues and earnings and also any pickup in coal that we might see from the higher commodity prices. So new coal mines coming on board. The other thing they have that's going for one of their major shareholders is a gentleman buyer. It's called M Resources, which is Matt Lattimore's business and he is in the business in the coal. He's a significant player in the coal industry and also backs um, coal acquisition. So they're looking at acquire. He's in partnership with Stanmore to acquire potentially the Anglo mines which is where Mastermind operates. And they could be a beneficiary because they picked up some work through him in a mine down in Illawarra, so through a JV he has there. So that could be a benefit to them as well. So that there's some like. From what the way we view it is the coal industry is pretty much at bottom. It's starting to see price recovery. Any recovery in activity should be beneficial for these companies. So it's a bit of a counter cyclical play where gold's been high and therefore those companies have been benefiting from the higher gold price, whereas coal prices have been depressed. But we're um, starting to see some um, recovery in those markets and we think the market isn't valuing any of that upside at all in the current share prices for Mastermind in particular.

Phil: So if someone's never looked at the mining services sector before, what are the first two or three numbers that you would suggest that beginners should look at when they start to look at valuing a company in the mining services sector

Issam Eid: in terms of valuation? Obviously the multiple it's trading on should be the first point of reference to see whether it's expensive or not.

Phil: Historically the PE ratio, is that what you're specifically PE ratio.

Issam Eid: Good starting point, I think, you know, if you want to get really technical, we have something called Enterprise Value to Ebitda that's also used. But PE is a good startup.

Phil: That number has come up so many times on the podcast, but it's definitely, it's a much truer picture you're going to get rather than just a simple pe, isn't it?

Issam Eid: Oh look, they're both points in time and Then like they measured like pe. Obviously if you have a asset heavy intensive business EV to EBITDA may be more representative of the cash flows of that business because you have significant amount of depreciation. So yeah that can be more useful from that point of view. But they're both well known, well used variables. But I would start there and then just look because generally this sector trades at a discount to the market. So if the market for example is trading at 18

00:40:00

Issam Eid: times you want to buy these stocks, uh, a significant discount to that. So generally speaking somewhere between 10 to 12 times PE range is usually a good spot to start as a reference point. If it's any lesser than that, it's even more reason to have a look at the company and see what if there's anything under the hood that needs to be worried about. The second factor I also look at is NTA net tangible assets. So if the company's trading less than its assets are uh, worth then it gives you more comfort as in terms of you know, if this company is, has to be broken up and sold, you get, you get your money back more than your money back in that situation. And that was a situation for a lot of these companies going back four or five years without trading significant discounts to what the net tangible assets were worth. And if you know anything about mining equipment, the one thing that hasn't happened to mining equipment is the price of mining equipment has not gone down in the last five years, it's actually gone up. So the value of those assets they have is quite significant. And so a lot of these companies were trading at discounts to that which gave you an element of comfort, a safety buffer so to speak so that you're buying them at a discount and you could possibly wait for the earnings to recover because you know if you had to go buy that same equipment today you'd be paying 30, 40% more. So that's another variable we look at most M of the sectors re rated and therefore it's not trading at significant discount. I think Mastermind and MLG OZ are the two that are still trading at a discount to net tangible assets. The rest of the sector is pretty much trading at premiums now to that. But they're the two key financial variables I look at. The other thing to look at from just to understand the business is also look at their safety record. Most uh, mining service companies would now put out uh, using part of their presentation pack, put out a chart showing how their long term injury frequency rates have declined chart showing that or how that Looks and you want one that's obviously declining or stable rather than rising. You don't want to see that because you know, if there's more workers being injured, there's more risk of then you know, as we saw with mastermind of them being held to account and legal action follows. So they're the sort of three variables, if I had only three to pick that I'd look at.

Phil: So what do you think is the most common mistake beginners make when they look at stocks in this sector?

Issam Eid: Common mistakes. And again it's the nature of the business as opposed to a fault of the investor is that you need to understand that this is a low margin industry and therefore factors can that impact the business can have significant impacts on profitability. So a loss making contract or a uh, client going under can have significant issues for a business in terms of profitability and cash flow. Because if you're still owed 120 million by a mining company that's gone under, that's cash you're not going to get back or take you quite a while to claw back. So that could put your business at risk. So that is the thing to realize is that the margins are low and therefore there's less buffer if things go wrong. And not all of the mining service companies are the same. They all have little idiosyncrasies as we saw. I think 80% of them had outperformed, 20% hadn't outperformed by number and therefore why hadn't they outperformed? And when you delved into it you could see there were incidents like where there were mining issues with the clients in terms of fires at mine sites, whether it was, you know, they'd lost some contracts. So you need to actually dig in a little bit deeper to make sure you understand that what's driving the share price and why hasn't this performed as well as the others? And the only other thing to sort of guess keep in mind is what's happening in the overall commodity cycle that these companies are exposed to. So you got to keep an eye on that as well. As we saw like gold was at the beginning of the year was the place to be and gold prices were shooting up and gold miners were following and gold contractors were following. Then we've had a reversal of that very quickly in the last two months and the share prices have followed.

Phil: And uh, I think it's really worthwhile pointing out that it's not easy investing. And if someone says oh this company, you know, helps gold miners, you should buy it. It's a good business. It's actually worthwhile actually going into an annual report, finding out what they do, what they're most exposed to and then just taking that next step and saying okay, well there's this one's exposed to this particular commodity. Is it a, um, you know, we at the top of the cycle, the beginning of the cycle or whatever.

Issam Eid: That's right. You gotta keep that in mind. And look, and markets are dynamic. There's always something happening like who foresaw Iran war happening on the 28th of Febr at the end of February. So that was something that was completely out of the left field. And it's obviously shaken up commodity prices. So we've seen gold come down, oil go up and that obviously has consequences in the short to medium term for companies as well. Because I mean like now who wears for example in terms of fuel, who wears the diesel price risk, is it borne by the contractor or is it born by the company? I think you'll

00:45:00

Issam Eid: find in most of the mining services the fuel risk lies with mining company as opposed to the mining contractor. But you want to be make sure that that's the case. So you don't want your contractor to be carrying that risk at the moment.

Phil: So how can listeners and viewers find out more about RAs and your work with them? And I'll just point out RAS actually stands for research as a service. That's right, isn't it?

Issam Eid: Yes.

Phil: Just to give it the full title.

Issam Eid: Yeah, that's it. Thanks. Yeah, that's correct Phil, that's correct. Obviously we have a website, it's rasgroup.com you can find um, a lot of our, the company sponsored research is free, so everyone's got access to that. So uh, where companies have engaged us to actually do research on their behalf and provide uh, a coverage then you'll find that that research is available. We also have a subscription services service as well where we actually cover companies which are not obviously publicly available to everyone. But you know, I think it's $120 a month and we cover over 50 or 60 companies a year. So that can give you especially at the smaller in the market, that's where we tend to specialize small and um, my caps there's less research available anyway so you get at least it gives you some information and also some insights into those companies to be able to make an ah, informed decision. And we also have a presence on LinkedIn and that's what gives you updates on what research is coming out. But we try to give weekly updates in terms of our, uh, subscription model. So every week there's an update for companies we cover or new companies we think are good ideas at the moment.

Phil: And X as well. Don't forget X, of course.

Issam Eid: Can you forget X?

Phil: Okay, well, that's a great lesson in don't chase the sexy, newest, shiniest companies. Sometimes the boring businesses are worth having a look into. Isamid thank you very much for joining me today.

Issam Eid: Phil, thank you for your time.

Chloe: Uh, thanks for listening to Shares for Beginners. You can find more@sharesforbeginners.com if you enjoy listening, please take a moment to rate or review in your podcast player or tell a friend who might want to learn more about investing for their future.

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