A Top ‘Pick And Shovel’ Stock For Two 21st-Century Gold Rushes

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There's an old saying that the people who profited most from the California gold rush of the 1850s weren't the speculators, but those who sold picks and shovels.

Well, there's a modern-day gold rush underway -- the domestic energy boom you've probably heard about. This is where new drilling methods, like hydraulic fracturing, are uncovering huge, previously inaccessible oil and gas reserves trapped in shale and other hard rock formations.

Because of the success of such techniques, analysts are making bold predictions about domestic energy output. For instance, some say shale oil production could rise as much as 88% by 2020 to 16 million barrels per day. Of course, there are analysts who'd dispute this, but most agree the United States could soon become the world's number one energy producer.

But wait, it looks like there's a big construction boom going on, as well.

As you may have heard, housing starts rebounded nicely in July, climbing 15.7% to a seasonally adjusted 1.09 million units. The increase broke a two-month streak of declines, according to the Commerce Department.

During the past year alone, revenues rose 17% for the overall residential construction industry, according to North Carolina-based Sageworks, which provides financial analysis of individual companies and industries.

Sageworks says other construction-related areas have also seen business spike, like construction material wholesales, nonresidential building construction and architectural, engineering and related services. In these industries, growth rates ranged from 12% to 17% during the past year.

So with the energy boom marching along and construction rebounding strongly, it looks like there are a couple gold rush-type opportunities right now. And the nice thing is, investors can benefit from both with a single stock.

I see this company, United Rentals (NYSE: URI ) , as a potentially lucrative 'pick and shovel' supplier for these two 21st-century gold rushes because it doesn't drill for oil or put up office buildings. Rather, it has rapidly become the world's largest equipment rental operation, with 832 North American locations, more than 3,000 classes of rental equipment and sales of $5.2 billion.

At this point, United is mainly construction-focused, generating about 44% of revenue with general construction equipment like backhoes, excavators, forklifts and hand tools. Another 36% of sales are from aerial work platforms used in construction.

In April, however, the firm began setting itself up to profit nicely from the energy boom when it closed a buyout of National Pump for $780 million. National is one of North America's top commercial pump rental outfits with $211 million of annual revenue - nearly half of its revenue is derived from energy and petrochemical firms involved in oil and gas exploration and production.

Before the buyout, National Pump was rapidly expanding -- at a 50% rate for the prior three years. Adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) around the time of the deal was $103 million, which is good for an adjusted EBITDA margin of 49%.

United expects its new high-margin pump business to quickly boost earnings per share ( EPS ) and cash flow. Although it plans to double the business within five years, this could happen much faster considering how rapidly National Pump was growing when United acquired it.

Other key factors in United's favor: market share and heavy reliance on rentals.

United boosted its market share to 14% after acquiring its main rival, RCS Holdings, for $1.9 billion in 2012. Although 14% may not sound like a lot, it's enough for United to dominate the highly fragmented equipment rental industry.

Time is money, and in its present state, the firm can reliably provide large customers with equipment with little or no lag time. Unlike smaller rivals, United does not have to wait for a client to return its property before it can be rented out again. This should help United grab even more market share, considering construction companies now rent half of all the equipment they use.

United made a number of acquisitions recently, besides National Pump and RCS, which is stimulating exceptional growth. Since 2011, EPS nearly tripled to $4.01 from $1.38, and United's stock soared 300%.

However, I'd expect growth to moderate quite a bit now that United is atop the equipment rental industry and can focus on sustainable expansion. Consensus estimates call for EPS to climb 23% annually, reaching $11.29 in 2019 -- fast growth, to be sure, but not like the past few years.

Risks to Consider: Because of heavy spending on acquisitions, United posted three straight years of negative free cash flow from 2011 through 2013, when the deficit averaged $326 million a year. Chronically negative free cash flow can hinder future growth.

Action to Take --> Although shares of United Rental have run up massively, this 'pick and shovel' company still offers substantial profit potential and is set for positive and growing free cash flow. Based on projected EPS growth, the stock could rise more than 70% to about $200 from $117 currently during the next five years. With a price-to-earnings (P/E) ratio of 29, shares aren't as pricey as they look. With projected EPS of $8.32 for 2015, the forward P/E is only 14, making now an opportune time to buy.

P.S.-- United Rental is not the only way to invest in America's oil boom. StreetAuthority Resource Expert Dave Forest just returned from a trip to a region he's calling "the world's next $1 Trillion Boomtown ." This find is bigger than the Bakken and Eagle Ford Shale plays combined. You can still get in early. To learn more about our top three investment recommendations, click here .



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.

© Copyright 2001-2010 StreetAuthority, LLC. All Rights Reserved.


This article appears in: Investing , Investing Ideas , Stocks

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