Market Commentary - Housing, Infrastructure, Construction and Services 22nd February 2017
Serco’s progress in 2016 on its road to redemption is reported today. Barratt Developments has also reported its results for the half year to end December. The moves yesterday saw Mitie fall by around 2%, the largest faller and G4S and Galliford dip by 1%.
Serco’s progress in 2016 on its road to redemption is reported today. The habit of over delivering on promises made continues with revenue at just over £3bn and underlying trading profit at £82m; guidance for 2017 is unchanged at revenue of £3.1bn and trading profit between £65 and £70m. The good news is that the pipeline of work is steadily rising and was £8.4bn at the year-end, 30% higher than a year earlier and £0.4bn higher than at the beginning of December. The order intake including AWE was £3.2bn last year. So the scene is set for getting to the target of a £3bn annual revenue business with margins of 5-6% and annual revenue growth at a similar level. A year ago there seemed to be some concern about the availability of suitable work but that now seems to have reduced, though the composition of the pipeline is important regarding that quality and pace of growth. Net debt was up a tad at £109m, a £36m increase which is in line as the company works through legacy projects. More below
Barratt Developments has also reported its results for the half year to end December. They show revenue down 3% at £1.8bn and operating profit up by 7.4% at £324m, operating margin 17.8%. The revenue reduction reflects the timing of completions with some large projects in London due to be finished in the second half; forwards sales are at just over £3bn, 17% higher than last year. Completions in the period were down by 5.8% at 7,180 units. The company is keen to emphasise that it has record sales outside London and that it has mitigated some of the concern it had over sales rates in the area by bulk sales on its units. Arguably Barratt took advantage of conditions in the London market but got its timing just a little wrong; it has not hesitated to get out so clearly it does not see an improvement in the foreseeable future. The dividend at the half way stage is raised by 22% and is affordable with net cash at £197m. Other notable features include the land market remaining attractive but the company bought just 5,262 plots in the period, below its production run rate; it blames the post referendum hiatus for stalling on land buying. The clear message is unchanged, the market remains positive but there are enough reasons to remain cautious. We are getting the impression that instinctively management is expecting the market to slow down nationally and there is clear evidence that is the case in Central London but the shortage of stock coming to the market and government incentives are sustaining demand.
The moves yesterday saw Mitie fall by around 2%, the largest faller and G4S and Galliford dip by 1%. With the first two stocks the mood is probably a tad subdued as they have had strong recent runs and in the case of Mitie there may be some nervousness around what could be in the restructure costs. The release of the Annual Report with the data on leaving packages will not go down well; Chairman and CEO must be looking forward to getting the AGM out of the way! With Galliford the lack of any move does not surprise us given the sentiments in the market. In growth terms the plan is bold and it contains few risks in terms of the scope of the expansion. Outsiders will look and indicate that performance overall will depend on macro factors and the switch back to a dividend that is 2x covered, while prudent, may be seen as negative. By leaving a bit more cash in the business to grow it may be that the new dividend cover at 2x might be better than 1.6x if the money was not reinvested and returned. GFRD has more opportunities to grow than a large mainstream, pure play, housebuilder. Therein lies why it may see its price improve more rapidly than some peers from here as it gets nearer to 170p of EPS in 2017/18.
Capita’s share price performance picked up in the afternoon session and it rose 4% by the end of play, yesterday. Broker views that the need for change might not be that radical started to filter out. We are not in agreement with that opinion but accept that 600p is a distinct possibility even in the short term if the 2016 numbers are as clean as expected. The £90m write-off announced yesterday morning, including operating profit being £40m below previous expectation as future revenue increases were extracted from 2016. Maybe US investors see something we do not. What is clear is that there seems unlikely to be a “Corporate Crusher” or several of them that nearly done for Serco and could well spell the end for IRV.
We went along to the Galliford Try strategy event at which the relatively new CEO rolled out his plan for the future. It was a case of “If it ain’t broke, don’t fix it”. The plan is very much more of the same, as outlined by us yesterday. It more or less describes growing the private housebuilding operations by 66% in revenue terms at near current margins, doubling or more the size of the Partnerships business and getting the Construction operations to grow a bit in revenue terms but more importantly to get margins to at least industry average standards of 2%. There was little that was special about what the company had to say. It is well run from what we can see as outsiders. The strategy review does not seem to have been exhaustive but the data show that there is plenty of opportunity just doing what he knows best so why stray too far! The best opportunity seems to be in Partnership and Regeneration for both revenue and margin development. Our “later, in the bar” chat reaffirmed strongly the presentation content on this segment especially in terms of the availability of good work and the selectivity that the business can apply.
Serco has been a very interesting story for many years and remains so. The news this morning is really that the transformation is on track and the company tells us it is halfway through. What is clearer today and was present at the CMD in December is that there is much more clarity about what it does best and confidence it will succeed. The company is now out of the private sector BPO operations. The closing balance on the Onerous Contract provisions was £220m which compares with the £447m of two years ago; as stated half way through! Here are lot of moving parts that deserve greater attention but are too detailed for an MM Note. Having looked through swiftly there is nothing that appears out of line or as a surprise. The £9m boost to trading profit from currency and the uplift from the pension scheme surplus are small along side ending some of the unfortunate ventures of the previous top team, which include the £19m exceptional cost of closing the BPO operations. We are dashing to the 9am meeting now. There is nothing in the numbers that rings alarm bells and as previously stated the outlook in terms of order intake and pipeline gets better every time the company updates us. With EPS around 4.1p last year and 3.5p for this year the valuation in p/e terms is ahead of events but that has been the case for some time and the news today provides no reason for that to change. Confidence that EPS of 8-10p a share can be achieved in 2018, all being well in its markets, should not change.
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