Aecom Technology Corp. Is Bargain Priced

| About: AECOM Technology (ACM)

The fall in major indices from recent highs, coinciding with some companies failing to meet their quarterly earnings expectations has provided some attractive opportunities for the patient investor. Aecom Technology Corporation (NYSE:ACM) is one such opportunity. The company is a leading global provider of professional technical and management support services for commercial and government clients around the world.

Aecom Technology Corporation has grown through organic growth and strategic mergers and acquisitions from approximately $387 million in revenue in fiscal 1991, to approximately $8.0 billion in revenue for fiscal 2011. The company completed its IPO in May 2007; its shares are traded on the NYSE under the symbol ACM. The company offers its services through two business segments: Professional Technical Services (PTS) and Management Support Services (MSS).

The PTS segment delivers planning, consulting, architectural and engineering design, and program and construction management services to commercial and government clients worldwide. It serves end markets such as transportation, facilities, environmental and energy. This segment contributed approximately 86%, of the company's fiscal 2011 revenue. The remainder of the revenue came from the MSS segment. It provides program and facilities management and maintenance, training, logistics, consulting, technical assistance and systems integration services, primarily for U.S. government agencies.

Other than the U.S. federal government, no single client accounted for more than 10% of the company's revenue in any of the past five fiscal years. For FY 2011 22% of the company's revenue came from the U.S. Federal Government, 18% from U.S. State and Local Governments, 24% from Non-U.S. governments and the rest from private entities worldwide. Almost 60% of the company's FY 2011 revenue came from the U.S. The price provisions of contracts that the company undertakes can be grouped into two broad categories - cost-reimbursable and fixed-price. The majority of the company's contracts are cost-reimbursable (54% in FY 2011). The company believes that these types of contracts are less subject to loss.

The company's annual revenues increased from $6.5b for FY ending September 30, 2010 to $8.0b for FY ending September 30, 2011. The company's contracted backlog (in terms of gross revenue) has increased from $6.8b to $8.9b and total backlog (which includes work that has been awarded, without any contractual agreement) has increased from $14.7b to $15.6b during the same time period. Following missed revenue and EPS estimates for the 2nd quarter ended March 31, the stock price fell from ~$22.5 to ~$19.5. The company attributes this setback primarily to the MSS segment. However all three metrics that the company considers critical indicators of underlying business health, (business won in the quarter, backlog strength and book-to-burn ratio) improved in the quarter. For the six months ended March 31, 2012 revenues increased to $4b from $3.8b over the corresponding period last year.

The company's free cash flow has been negative for the last couple of years. One of the company's long term goals is to reduce days sales outstanding. Meeting this objective should have a positive impact on this metric. The company has however maintained a return on invested capital of more than 20% over the last four years. Assume the company generates a return of ~ 14% over its cost on invested capital (~$1.3b) for FY2012. In order to justify its current share price, of ~ $18, the company will have to grow its net operating profit after taxes at a rate of 1% from a base value of ~ $190m (beyond FY 2012). It will also have to maintain a spread of ~ 8% between its return on invested capital and WACC. If the company can surpass these targets, as it has done in the past, the stock is currently under priced.

Disclosure: I am long ACM. Short puts on ACM