Meeting our Saudi mega-stocks: Pipe dreams come true
Burton Flynn and Ivan Nechunaev
May 2024
A trip to the mega-land
Saudi Arabia has a huge pipeline of megaprojects designed to help diversify its economy away from oil. Its flagship trillion-dollar megaproject – Neom – is a gigantic multi-purpose development which will include a floating industrial complex, a ski resort, luxury beach hotels, and the world’s most unique smart city – “The Line”, a single 170 kilometer-long and 500 meter-tall building cutting from the Red Sea into the Arabian desert which aims to house 9 million people once (if) completed.
While Neom understandably gets most of the media attention, there are multiple other megaprojects under execution in Saudi Arabia: new economic cities, upscale tourism zones, exciting sports and entertainment centers, vast urban districts, long metro lines, and huge green parks. After years in isolation, Saudi Arabia is also becoming very open to the outside world: it is set to welcome millions of visitors to the 2030 Expo world fair, the 2034 FIFA Football World Cup, and the 2029 Asian Winter Games. All these massive developments create hundreds of thousands of jobs and generate multi-billion-dollar volumes of new business for local companies, from construction firms and cement producers to telecom service providers and engineering contractors.
Modernizing its economy and energy offering, Saudi Arabia also keeps improving its sustainable energy capabilities – aiming to gradually replace oil with gas, solar and wind energy. Following in the footsteps of its tiny but mighty neighbor Qatar (the world's liquefied natural gas hegemon currently expanding LNG production by 85%), Saudi Arabia is ambitiously working on boosting its gas production capacity by 50% by 2030, a move that implies billions of dollars of investments into gas pipeline infrastructure.
We recently made a trip to Saudi Arabia and met with two of our fund’s holdings: an $800m manufacturer and supplier of power and telecom products and solutions, and a $500m steel pipe maker. Given that both companies are top-10 weights in our portfolio and both benefit from the unprecedented mega-agenda unfolding in the country, at first we thought it to be a good idea to call these heavyweights of our fund the “mega-weights”. But given that both of them also had their stock price more than double since we first invested less than 12 months ago, we think it only gives them justice if we call them the “mega-stocks”. These mega-stocks have helped contribute to our fund's current #1 rank for both 5 and 10 years out of all 1,500 EM funds listed on Bloomberg.
We went to Saudi Arabia to feel the vibe on the ground and meet with the CEOs of our mega-stocks
Meeting a Guinness World Record holder
We met with the CEO, COO and CFO of an $800m manufacturer and supplier of power and telecom products and solutions. This company was founded nearly 70 years ago and today is the leading Saudi provider of goods and services in the fields of outdoor lighting, telecommunications, power transmission, and renewable energy. The business is greatly benefiting from all the mega-mega happening in Saudi Arabia now: just imagine how much lighting is needed for all the new planned city parks or the new stadiums to be built for the 2034 FIFA Football World Cup! The company's earnings growth has already started accelerating on the back of megaproject-supported backlog expansion, with its 2023 earnings having increased in triple digits. We have long followed this firm’s management team known for their reputation as hard-working, humble operators focused on delivering great value to their shareholders rather than indulging in excessive investor relations or public communications at the expense of profit-making like many other, more polished managers do.
As we were enjoying our beloved Arabic coffee infused with cardamom while discussing the company’s history and strategy in its modest headquarters in Riyadh, we noticed a curious certificate on the wall: a Guinness World Record diploma! As a matter of (fun) fact, this company made its way into the Guinness book of records a decade ago when it assembled and installed the world’s tallest flagpole in Jeddah measuring 171 meters in height. We would not be surprised if the company sets some other world record in the next few years when executing world-record megaprojects on its home turf in Saudi Arabia.
Meeting with the CEO, COO and CFO of an $800m Saudi Arabian manufacturer and supplier of power and telecom products and solutions (LTM P/E at the time of investment in July 2023: 12x; 2023 earnings growth: +169%; stock return since investment: +135%)
Piping-hot pipeline of pipes
We then met with the CEO and toured a very busy factory of a $500m steel pipe manufacturer that mainly serves gas pipeline projects in Saudi Arabia. We originally found this company at a time when it had just started recovering from a very challenging Covid period which almost drove the business into bankruptcy as its pipeline (pun intended) of new orders went dry. The company’s comeback, however, has been truly astonishing after its big clients finally woke up from long Covid and it started bagging large steel pipe orders one after another – jamming its new contract disclosure feed on Saudi stock exchange’s website and quickly amassing a record-high backlog which will produce record-high earnings in the next two years.
We believe the level of misunderstanding by the market of this hidden gem is quite high. For example, a few weeks ago the news came out that Saudi Aramco (the world’s largest oil company) will stop its big oil output capacity expansion project. The same day, the shares of our company – which has the word “Pipes” in its name – lost 10%. To us, this was a clear example of how our company with no analyst coverage at the time and with no active investor relations presence is misunderstood by the market: the vast majority of its backlog and production is in pipes for gas projects and has nothing to do with oil exploration and drilling. Gas-related projects are a major focus of Saudi Arabia as it aims to produce more sustainable energy going forward, and there seems to be no stopping those projects in the years to come – we only hear of a yet-another gas production or pipeline expansion project on a monthly basis. As such, the news didn't affect the company’s fundamentals in any way, but due to a very limited understanding of the company the market reacted illogically.
One day of erroneous market perception would never define our long-term investment outlook. In fact, we actually quite like such misunderstood cases: it takes time for the market to “get” them, but when it finally does recognize the value, the returns can be outsized. The stock has more than doubled since our investment in 2023, and we estimate it has potential to double further in the next 12 months, making investors’ (steel) pipe dreams come true.
Meeting with the CEO of a $500m Saudi Arabian steel pipe manufacturer (LTM P/E at the time of investment in September 2023: 8x; 2023 EBITDA growth: +772%; stock return since investment: +125%)
Portfolio companies making it into INSEAD case studies
On this trip, we were unfortunately not able to meet with the CEO of our other recent doubler from Saudi Arabia – a $1b telecom company – who was traveling (we will catch him next time). We invested in this company at a valuation of 8x LTM P/E in November 2023 when after a dozen turbulent years it started generating earnings for the first time ever thanks to a complex restructuring led by the new CEO with a lot of experience in telecom industry turnarounds. Since our investment, this company’s stock price went up +131%, its 9M2023 EBITDA growth registered +263%, and an INSEAD business school professor even published a case study about its phenomenal turnaround.
Thanks Saudi!
We have been coming to Saudi Arabia for a decade, and even lived in the country with our families for an entire month in 2020, just before the pandemic. With every new trip, we have been observing more openness and further liberalization and modernization of the Saudi society and economy. Our portfolio companies are surely at the forefront of the ongoing economic diversification, but the 100%+ increases in prices of their mega-stocks since our initial investment – while the local index only returned between 0-10% in the same time frame – are not merely a reflection of the favorable megaproject operating environment in the country, but chiefly a testament to our companies’ CEOs’ ability to grow their businesses and generate significant value for their shareholders. We are glad we were able to identify these cheap fast-growing businesses early on for the benefit of our investors.
Late at night on the busy streets of Riyadh on our way to the airport
Read about our other recent stock-picking trips in the Middle East region:
Riding helicopters in Qatar: Tailwinds are huge
A cement company in Saudi Arabia: Monetizing a billion-dollar land
Riding Rolls-Royce in Kuwait: The 2008 financial crisis is finally over