The next phase was excerpted from this fund letter.
ICF Worldwide (NASDAQ:ICFI)
ICF Worldwide: Investing within the “-Ologists” for Authorities IT Modernization and Complicated Program Implementation
Thesis
Authorities advisory and repair supplier leveraged to secular development areas of the civilian price range, civilian price range much less cyclical than protection price range. Civilian company focus mixed with a long time of institutional data serves as a aggressive benefit relative to business consulting companies and protection centered authorities providers companies. Extremely seen and recurring income given long-term nature of presidency contracts and excessive win-rate on re-compete bids. M&A tailwind to natural development: portfolio of providers which might be properly fitted to complementary acquisitions, sturdy money stream to fund M&A. Improved mixture of sturdy, larger development segments mixed with stabilization of low development companies is under-appreciated by the market.
Firm Overview
ICF Worldwide, headquartered in Washington, DC, is a authorities consulting and providers agency centered totally on civilian businesses inside federal, state and native governments (75% of income). ICF was based in 1969 and initially offered front-end advisory providers to authorities businesses. Given the character of advisory work, these engagements tended to be lumpy and contract values have been a fraction of the worth of the implementation work that adopted. Across the flip of the century, the corporate realized that it may leverage this advisory experience into offering the back-end venture implementation work, which got here with bigger worth contracts and longer-term engagements. The corporate started constructing out its contract bidding and implementation providers groups at the moment and implementation work now includes most of its authorities associated income. For instance of the method stream, the unique ICF may be engaged by a authorities company to advise on find out how to modernize a know-how stack, which the company would then use as a blueprint for the implementation work. ICF can now present the upfront advisory work and capitalize on its area experience to win the back-end implementation providers. Whereas ICF has capabilities that span a whole bunch of various domains, examples of main authorities packages the place ICF has participated embody Power Star, Smokefree.gov and Head Begin.
ICF primarily focuses on civilian businesses, that are much less uncovered to price range cycles than protection businesses. Key areas of focus throughout the civilian businesses embody digital transformation/IT modernization, federal well being, catastrophe administration and local weather. All of those domains have secular development tailwinds and usually sturdy bipartisan assist (local weather being an exception), which gives publicity to larger development areas of the price range. Local weather insurance policies have extra threat round election cycles, nevertheless the lately enacted Infrastructure Funding and Jobs Act (IIJA) and within the Inflation Discount Act (IRA) present some insulation round this cycle over the following few years. Moreover, broader citizen consciousness and assist for optimistic local weather initiatives partially mitigates a few of the price range threat long run.
ICF competes with business consulting companies (Deloitte, Accenture, EY, and so forth) in addition to smaller segments of presidency consulting companies, that are virtually solely centered on the protection sector. ICF differentiates itself by way of its civilian company focus, material experience by way of its deep expertise pool and longstanding relationships with authorities businesses. As administration has commented, ICF turns into institutional reminiscence for these businesses given multi-decade engagements that always outlast most of the authorities staff in these departments. HHS is ICF’s largest shopper at 22% of income, nevertheless no single contract accounts for greater than 4% of income.
ICF gives a broad array of consulting providers in many various components of the federal government, which provides some complexity to the story given the broad price range publicity. The important thing thread weaving all of those areas collectively is personnel experience (the “-ologists”) with long-standing relationships in every of their respective authorities businesses. As one of many senior executives at ICF joked throughout their most up-to-date investor day, the corporate employs virtually each “-ologist” in existence. This speaks to the distinctive capabilities and expertise inside ICF and, when mixed with the tenure at ICF, serves as a transparent differentiator versus rivals. A abstract of the important thing areas of area experience inside ICF are outlined under.
Digital Transformation and IT Modernization Centered on Low Code/No Code growth and migration from on-prem to cloud. Contracts with virtually all civilian businesses (HHS, FDA, CDC, USDA, DOT, FDIC, SEC, FCC, NASA, and so forth) Whereas this enterprise was a small a part of ICF in 2019, new CEO John Wasson recognized this as a long-term, essential development space throughout the federal authorities. Nearly all of this enterprise has been constructed by way of a collection of acquisitions starting in early 2020. Given the outdated nature of presidency IT methods, this phase represents a multi-year alternative with development charges exceeding +10%. Word that governments have been slower to undertake the know-how upgrades seen within the personal sector, so it’s early innings of this improve cycle. Federal Well being Knowledge administration and evaluation, analysis, coaching, and well being communications packages. Over 2,000 well being professionals together with toxicologists, psychologists, microbiologists, epidemiologists. Levered to essential areas inside well being reminiscent of public well being and social providers, IT and scientific assist, well being care providers. Local weather, Atmosphere and Infrastructure This phase gives consulting providers associated to coverage and planning, threat assessments, allowing, monitoring, and so forth. Tailwind from Infrastructure Funding and Jobs Act over the following 5 years as funds start flowing in 2023. Inflation Discount Act gives further funding for local weather associated work. Catastrophe Administration 65% of this enterprise is expounded to state and native catastrophe restoration packages. ICF oversees disbursement of funds associated to those contracts. Present main packages embody Puerto Rico following Hurricane Irma and State of Texas following Hurricane Harvey. Potential for Hurricane Ian and Fiona associated work in 2023+. These revenues have some lumpiness across the preliminary occasion, however have a protracted tail of venture work (e.g. Puerto Rico work is predicted to final for one more 8 years). 35% of this enterprise is expounded to catastrophe mitigation efforts, that are seeing elevated consideration as governments look to enhance infrastructure resiliency forward of storm exercise.
On the business aspect of the enterprise (25% of revs), ICF gives comparable advisory and consulting providers to utility prospects (70% of economic income). Given the regulated nature of this trade and the long-term nature of those contracts, I view this as an extension of their authorities apply. Consulting work right here primarily pertains to power effectivity initiatives and grid modernization, each of which have sustainable development alternatives. Administration believes that is one other excessive development phase, possible rising at the very least excessive single digit for a few years.
The opposite 30% of this phase is a hodge podge of different business advertising providers and loyalty packages for quite a lot of industries, however primarily hospitality and journey (they bizarrely run the loyalty program for Skittles). This a part of the enterprise is left over from the acquisition of Olson business advertising in 2014. ICF acquired this enterprise at a time when authorities spending was depressed, which offered diversification of revs into the sooner rising business sector. Strategically, it allowed ICF to bolster its advertising experience, which was more and more valued in contract bids as the federal government sought to enhance citizen engagement by way of advertising outreach. The remaining business advertising providers are worthwhile, however don’t have a strategic goal within the enterprise, which may symbolize a chance for portfolio rationalization sooner or later (be aware they offered a small enterprise from this phase in Q3, so I imagine this could possibly be a close to time period alternative).
Acquisitions
ICF is a enterprise that lends itself properly to acquisitions on condition that acquired firms can present complementary area experience and/or present deeper penetration into sure authorities businesses. The results of this constant M&A program is that ICF steadily builds a extra complete portfolio of consulting experience and step by step expands into extra businesses. The community results that include broader area experience and elevated authorities attain assist each broader contract scope and growing win charges on bids.
ICF has accomplished 22 acquisitions since 2002 demonstrating a capability to efficiently execute each programmatic M&A in addition to bigger, extra transformational kind offers. Over the past 3 years, ICF has centered its M&A actions on constructing a number one IT modernization apply as administration recognized this as a long-term excessive development space for the federal government. The IT modernization focus started with the acquisition of ITG in January 2020 and was adopted by 2 further acquisitions, Artistic Techniques (2022) and Semantic Bits (2022), to construct out its experience and scale within the IT area.
Administration
CEO John Wasson began his profession at ICF 35 years in the past and was promoted to CEO in October 2019. Mr. Wasson has overseen the portfolio repositioning, particularly the push into IT modernization starting with the acquisition of ITG in 2020. His expertise with the corporate provides me confidence that he’ll proceed to function the enterprise in a lot the identical means it has been run for the final 20 years.
Monetary Mannequin
ICF’s presentation of its financials doesn’t do buyers any favors. Whereas they discuss their 5 key development areas by vertical (IT modernization, well being, and so forth), they disclose monetary info on the authorities company stage. The best means to have a look at ICF is by segmenting their excessive development companies and their low development companies, which we are able to again into utilizing administration feedback and investor displays.
ICF’s excessive development companies now account for ~85% of income and collectively are anticipated to develop at the very least 10%. The low development companies are more likely to develop low single digit at finest as worldwide revenues stabilize following the roll-off of a big contract and the business companies tread water following the latest portfolio rationalization. At a consolidated stage, ICF ought to have the ability to maintain excessive single digit natural income development on account of the portfolio repositioning into larger development areas of the price range.
As described above, this income development will probably be supplemented with complementary M&A, bringing whole income development into the low double digit vary. Administration has focused 10-20bps of annual margin enchancment from effectivity beneficial properties and scale, which helps ~10-15% EBITDA development.
From a steadiness sheet perspective, ICF has acceptable monetary leverage for the constant nature of its enterprise. The corporate ought to finish the 12 months at 2.5x of leverage and can de-lever by ~0.5x yearly by way of free money stream and EBITDA development.
Abstract Thesis
ICF possible seems like a sleepy and complex enterprise, so why is the inventory positioned properly to outperform the market? The market has but to understand the portfolio transformation that ICF has undergone below the brand new CEO. ICF now has 5 distinct areas of area experience which might be leveraged to larger development areas of the federal price range, areas which have broad bipartisan assist and years of funding alternative. Many years of presidency consulting expertise and deep institutional data inside many of those businesses place the corporate properly to capitalize on these development alternatives. These 5 development domains have further near-term tailwinds from the lately handed IIJA and IRA, which ought to materialize in 2023 as allotted funds start to stream. Moreover, the low development a part of ICF’s portfolio just isn’t solely a smaller piece of ICF’s enterprise getting into 2023, but additionally on the cusp of reaching income stabilization after years of income declines.
The web result’s that ICF now seems like an organization that may steadily develop income within the excessive single digit vary, which will probably be supplemented with M&A to carry whole income development above 10%. Slight margin growth helps EBITDA development of 10-15% relying on the tempo of M&A. Whereas the ~15% earnings development is enticing by itself, there may be further upside from a number of growth because the market comes to understand the upper development profile of the present ICF enterprise together with the sturdiness of this development.
Vital Disclosure
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Editor’s Word: The abstract bullets for this text have been chosen by In search of Alpha editors.