Market Commentary - Housing, Infrastructure, Construction and Services 4th October 2016
Carillion’s announcement of the retention of its FM contract with Nationwide is the only formal sector news today. Monday 3 October was a good day for the sector, clearly boosted by Hammond’s support for housing and Infrastructure, Grayling’s support for HS2 and airport expansion and the dip in sterling that will be a net boost for UK materials stocks and international services companies. Capita was the only stock in our universe of 22 to decline yesterday, though a fall of just 0.4% to 667p is arguably only the ebb and flow of trade.
Carillion’s announcement of the retention of its FM contract with Nationwide is the only formal sector news today. The contract is for seven years plus a three year extension and is worth £350m. At the recent results meeting Nationwide, Centrica and Openreach were stated to be the three important imminent rebids. The first two have been won and the Centrica one has increased scope compared with its predecessor. The industry view is that the Carillion Telent JV may not re-win the contract on a national basis , first gained in 2009 but Carillion will get a very substantial amount of work from Openreach and at good rates, that were increased significantly last year. The loss of the Barts contract was a blow but we expect sufficient wins for the company to be able to at least meet current forecasts.
There has been limited new work in UK FM in recent years, hence the problems at some companies who are attempting to sustain a level of growth not justified by the level of new opportunities at present. The FM operators with international exposure, such as Serco and Carillion have superior growth prospects when compared with UK only peers. UK operators are also mindful of a number of smaller companies nibbling at their heels such as Servest Cordant, Norland and Integral as well as foreign owned entities such as Elior, Sodexo and Emcor. If investors want more on this aspect of the market please get in touch.
Finishing on Carillion the short positions are back at just over 20% according to data from Castellain as the number of positions that have been extended greater than those that have been closed. Our stance has been that Carillion is highly unlikely to topple over under the weight of its net debt and pension issues but both will take a long time to resolve. We believe that the disposal of a part or parts of the operations is unlikely but remains possible. Building up the PPP/PFI portfolio is a more likely route to generating a pot of cash that will add to operating cash to reduce debt; that will take a while but is in progress with ventures such as Royal Liverpool Hospital and large health sector projects in Canada and Oman. The shares closed at 251p last night; EPS of 36p are expected this year and the yield is 7.5%. We are not among those negative on the stock as we sense it can trade through its problems but there is no quick fix.
Monday 3rd October was a good day for the sector clearly boosted by Hammond’s support for housing and Infrastructure, Grayling’s support for HS2 and airport expansion and the dip in sterling that will be a net boost for UK materials stocks and international services companies. Clearly higher oil prices will not help but “stability” at plus/minus $50 a barrel is OK for the sector.
Homeserve was the best performer rising 4.9% to 604p as it enters its closed period and as it recovered from COO Johnathan Ford selling 60,000 shares at 570p last week, announced mid morning on Friday 30th September. He retained 170,963 shares but it’s not clear why he sold. Our concern about the long term growth prospects remain though it may be there is growth in the next 2/3 years. The UK experience indicates to us that the model is barely sustainable without growth. Aside from Homeserve the general pattern yesterday was a revival in construction related stocks as might be expected given the headlines with Polypipe, Travis Perkins and Kier all posting gains of over 3%. We suspect that the market may be a little more sober today as it becomes clearer that politicians big number for sending and Infrastructure do not always make it to the chequebook and the obstacles to execution are unchanged, indeed made worse by the potential reduction in the influx of skilled workers from Europe. That is not to say three stocks mentioned are now overvalued, quite the opposite in fact and all three might find buyers on any weakness today.
Capita was the only stock in our universe of 22 to decline yesterday, though a fall of just 0.4% to 667p is arguably only the ebb and flow of trade and are at the lowest level since June 2011. Credibility of the top team remains low and investors want answers to that before getting enthusiastic. The price is suggesting that there might be further bad news and/or an equity fund raise. The industry view is that there are other weak contracts which were not mentioned in the recent update. In any services operation there is always a portfolio of work comprising very different levels of margin and earnings. Management will have taken a view on recoverability and materiality. It may have considered a full kitchen sink approach and rejected it. Our sense is that Capita might have found a level for now at around the 666p mark and may climb to over 700p as support emerges. But there is still another big shake up to happen if it is to get back onto a sustainable track as the recent update suggested that it will return to a status quo and we believe there are some strategic questions that were not addressed last week.
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