16 March 2017 · 2 min read

Market Commentary - Housing, Infrastructure, Construction and Services 16th March 2017

Balfour Beatty has announced its results for 2016 and Serco has bagged one of its “Elephant” contracts, becoming the preferred bidder on the 20 year/£1.6bn contract for the new Grafton correctional centre in NSW Australia.  Babcock was the best gainer yesterday rising 2.3% to 914p as investors were reassured by the presentation on the new reporting structure.Serco’s news is very positive and adds to its reputation for winning big projects under the new team

Balfour Beatty has announced its results for 2016 and Serco has bagged one of its “Elephant” contracts, becoming the preferred bidder on the 20 year/£1.6bn contract for the new Grafton correctional centre in NSW Australia. The performance in 2016 at BBY was not quite as positive as expected in earning terms (revenue was up 3.6% at £8.5bn at AER and PBT was £60m versus a loss of £123m last year) but the performance on cash and the resolution of the issues in UK Construction will bolster the share price performance. Getting back on track fully was always more likely to happen in 2018 and the news today suggests that has not altered. Net cash in the mainstream business was £173m at the year end and average net debt was £46m in the year; good trading and working capital management was balanced by investments in the PFI portfolio and operations. The company claims it exceeded its Phase One targets for Build to Last of £200m cash (it reached £439m) and £100m of reduced cost (it achieved £123m); we shall hear more alter this morning about how it will sustain progress to reach Phase Two of industry standard margins in Construction and Support Services by 2018 (Phase Three is about hitting above industry margins but a lot may change between now and 2021!) . The company states that its markets remain positive More below

Babcock was the best gainer yesterday rising 2.3% to 914p as investors were reassured by the presentation on the new reporting structure. We are generally sceptical about “moving the deckchairs” though clearly the allocation of trading units in the divisions had some anomalies and the new structure allows a broader geographic brief. There often always problems and crossovers which product/market sector/geography structures so usually it’s the least worst option that prevails in order to get the best possible use of group-wide know-how and technology. The rise in the last two days is though more likely to be based on the reassuring trading situation at the back end of last year and positive statements about future growth, along with the weak performance recently driving down the valuation to a cheap level.

SIG was the worst performer, down 4.1% to 110.3p as it gave up some of the post results/post new CEO gain. The decline, while large, was just trading ebb and flowing our view. The opportunity to improve margins remains very clear and achievable and involves no new risks or unusual approaches that threaten the market structure.

The news today from Balfour Beatty is all about it progress really, rather than expecting it to have reached a destination in its UK operations. And it seems to be well on track. Some may have been seeking a faster turnaround but in large scale construction project resolution can be a glacial process, even with some global warming! Of the 89 large troublesome projects in te UK 90% have now reached practical completion and over 70% financial completion; but it will take into 2018 to get to 100%. WE shall comment on country and segment performance after the meeting but there seems to be little of note in the statement that might alter views. The order book at £12.7bn at AER is ahead of the £11.0bn level at the end of 2015, though boosted a little by FX. The dividend was confirmed at 2.7p for the full year versus 7.0p of EPS, which will be welcomed and reflects the improved balance sheet. The PPP/PFI investment portfolio was valued at £1.2bn at the year end, roughly the same as at end 2015. The tone of the messages and the comments on trading and the restructure and upgrading of the business are very positive suggesting that the company could have perhaps come in with higher figures but wants to hold back until the picture is a bit more clear. It says as much in a comment about profit declaration on UK projects in construction. At 283p at close last night we remain positive and look to 30p of EPS in 2019 as the man prize and the basis to think of in terms of valuation. But it may that value is achieved through some corporate restructure before Phase Three is reached.

Serco’s news is very positive and adds to its reputation for winning big projects under the new team, following the Barts hospital win late last year. As with Balfour the goal is to create a solid business for the mid and long term not maximise short term earnings. So this win provides a good long term earnings stream and enhances Serco’s position in Australia which is no bad thing given its position on other important projects. The shares closed last night at 115.6p and seemed to have settled in a 110-120p range after the results, which brought a small dose of reality to the price. Contract wins are important milestones and gaining PB status Grafton is another one that has been passed.

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