Market Commentary - Housing, Infrastructure, Construction and Services
Rentokil’s strategic JV with Haniel and Loxam’s further increased offer for Lavendon at 250p a share grab the headlines this morning overshadowing Bilby’s poor half year numbers, Costain’s 50/50 JV with CH2M being re-awarded the maintenance contract from Highways England Area 14 and Balfour Beatty selling parts of its interests in five street lighting projects for £33m cash to Equitex. The moves yesterday were very interesting for investors. SIG sparked into life and was the best performer on the day, up 2.9% to 98.8p, its best level since 10 November when the proverbial hit the air conditioner.
Rentokil’s strategic JV with Haniel and Loxam’s further increased offer for Lavendon at 250p a share grab the headlines this morning overshadowing Bilby’s poor half year numbers, Costain’s 50/50 JV with CH2M being re-awarded the maintenance contract from Highways England Area 14 and Balfour Beatty selling parts of its interests in five street lighting projects for £33m cash to Equitex. More below
The moves yesterday were very interesting for investors. SIG sparked into life and was the best performer on the day, up 2.9% to 98.8p, its best level since 10th November when the proverbial hit the air conditioner. There are few sector stocks that could near double in a reasonable timescale from here and SIG is the main candidate. Its EV to sales remains near half the level of rivals and it has some growth projects in modular housing and air handling that are not present with other merchants. OK it made mess of the commissioning of new modular capacity in the UK but that will not hold it back for ever. Demand in Modular is rising rapidly and while the idea that from a standing start in 2013 the company could get £150m revenue in Modular (Insulshell, Roofspace) at 10%+ margins sounds a stretch from what we are seeing in that market it is not. And in the day job SIG just seemed to get the basics not quite right with suppliers and customers too often; fixing that will take time but given its network is achievable with the right leadership.
Please note also that Speedy finished up on the day, 2.9% higher at 53.5p, despite going XD by 0.33p. No doubt events at Lavendon are spicing up interest in the hirers in general. At Speedy the reduced level of debt, improved margins and strong customer base suggests that a target of 70p+, based on EV/EBITDA of 6x or more is reasonable. The current bids for Lavendon indicate an historic EV/EBITDA of just over 6x so no wonder TVH has come back with a higher bid at 230p and Loxam has announced today that it has offered 250p. 5-6x EV/EBITDA is the norm, long term value in day-to-day for UK hirers so the current bids for Lavendon , in the opinion of some observers, may still be shy of a control premium. On that basis Speedy is quite cheap at 52p. And having recommended an offer at 220p days ago Lavendon and its advisers should be a little embarrassed to now be getting one 14% higher. And it may not end there.
Loxam’s recommended 250p a share offer for Lavendon may still not be the end of the game. The next stage depends on the bidders ability to fund the deal, we suspect, rather than an assessment of the value of Lavendon. It is not difficult to construct the case for 250p a share being too low. The near 80% premium to the undisturbed price on 21 November reflects a weak valuation by the market at that point in time rather than a full value assessment of lavendon, we believe.
Other risers yesterday included US$ proxies, Rentokil up 2.6% and Compass up 2.3% which benefitted from US$ strength, Capita which is getting better support, up 2.2% to 488p and Travis Perkins which rose 2.3% on no new news.
Carillion was the largest loser, down 1.4% to 234p as yet another big broker took a swing at the stock. We have been supportive for some time and disappointed to see the shares face constant pressure. The operational strengths are overshadowed by the weakening balance sheet. The outgoing FD was perhaps overly candid in his appraisal of the likely net debt and pension deficit positions, in the update conference call, which are the main drags on the share price. Zafar Khan takes over as FD on 1st January 2017 and has yet to show fully his take on Carillion’s B/S issues. There is no silver bullet but we suspect the thoughts that net debt will fall, expressed in the update and that views on the pension deficit might change, expressed in the conference call, will be actioned relatively swiftly in the next phase of Carillion’s development. How that might happen is not yet clear but the start, we suspect will be a commitment to cease the five year trend in rising average net debt.
Rentokil’s move to sell into a new JV with Haniel its Workwear and Hygiene operations in 20 countries is ingenious. RTO will receive €520m, 18% of the JV and a dividend of €19m for each of the next five years. The businesses that will move into the JV from Rentokil had revenue of €328m in the 12 months to June 2016 (at 2015 FX rates) and adjusted operating profit of €53m. Rentokil has calculated the multiple on the “sale” at 15.2x operating profit; the methodology for that will be fully revealed in the 9.15 conference call no doubt. The JV will have pro forma combined revenues of €1.1bn and operating profit of €130m based on 12 months data to end June 2016.
The net net positive impacts for Rentokil are that it will have firepower to expand its pest control and other operations in Hygiene more rapidly, especially in emerging countries, reduced overheads of c £5m a year by the end of 2017, a £7m reduction in annual interest costs and retains some upside from its stake in the JV. The negative impacts are mainly financial and short term comprising a 0.4p reduction in adjusted EPS in the first year, all other things being equal.
The Rentokil/Haniel JV is an innovative approach to creating a more substantial workwear operation in Europe and freeing Rentokil to focus on its key strengths. We had expected that the conversation on a workwear combination in Europe would be with Berendsen rather than Haniel. Berendsen is now faced with a stronger competitor which will take a few days to evaluate fully but is no doubt one of the consequences of this development. While EPS may be lower on a pro forma basis at Rentokil we expect this deal will be positive for the share price as it offers the opportunity for faster growth in the core operations and greater focus on pest control, an activity which attracts higher ratings than workwear and hygiene. We also expect that RTO has in mind a few acquisitions in the core operations which will emerge in the coming months and that as a consequence EPS will not in fact fall and may increase.
Bilby’s numbers are poor and the board changes in which the FD steps down and the founders son becomes COO are indicative of a business that has substantial growth pains. However, the intention is clearly to continue with the buy and build strategy despite the turmoil. Revenue in the six months to end September rose by a factor of 2.6x to £30m, due mainly to acquisitions but operating profit was up just 38% to £1.2m. The new level of operating margin at 4% is more typical of what we can expect in the future rather than the 15% the company targeted when it first came to the market. The company operates in plumbing, electrical and general building services for some Registered Providers in the South East and as a tier two supplier for larger companies. The company pints to delays on projects that held back underlying performance in the recent period and new contract wins that will improve future performance. Net debt at the period end of £7m is just over 2x expected EBITDA so any further acquisitions are likely to be equity funded in the foreseeable future.
Our sense is that Bilby is probably a good company and mainly providing building services to housing associations on London and the South East can be a good business. Our concern is that sustainable margins are at best 6% in that area and that expanding through acquiring small, often family owned, enterprises is a high risk game. The company has cleaned up its accounts which stretched accounting rules substantially in 15/16 and the numbers are restated. With 2.7p of EPS at the halfway stage and no more than 6p for the full year and with all other factors taken into account the price at 40p looks cheap but so far the company has not helped itself reputationally. The changes today may work but are possibly just as likely to fail, risk/reward is not helpful to the share price. Buy and Build in this space is littered with casualties and that does not help Bilby’s case. One to avoid.
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