Market Commentary - Housing, Infrastructure, Construction and Services 10th April 2017
Carillion has announced that it’s JV with, we believe, Aramark, has won one of the seven Hestia contracts to be awarded. Hestia is the MoD’s name for its softer services FM work (including managing retail units) that is currently being tendered. We are heading for a couple of “News-Lite” weeks over the Easter break. There was no trend to the moves on Friday last that we can see. Travis Perkins was the leader up 2.2% to 1538p on 922,116 shares traded. The main loser was Galliford Try, down 1.1% to 1467p as the shares adjust to the ending of Bovis discussions and going XD with the 32p interim payment on 23rd March.
Carillion has announced that it’s JV with, we believe, Aramark, has won one of the seven Hestia contracts to be awarded. Hestia is the MoD’s name for its softer services FM work (including managing retail units) that is currently being tendered. Our understanding is that two have been awarded so far with Sodexo having won the other. Carillion hinted that it had been successful in a number of contracts at its recent results and this £200m/five year project may have been among them. Flash to bang sometimes takes a while with public sector win announcements. The Carillion JV has won the South East/London area which covers 87 MoD sites. It is likely that the same partners have bid for other UK regions but the bidding timetable has different end points for each region, so we shall need to wait for the others.
This is a very important contract win for Carillion. In the statement the company highlights its work with the MoD on hard FM with its NGEC work, currently done in JV with Amey. The MoD has been suggesting for some time that it may shift towards combining hard and soft FM in the same contracts at the next big round. The Hestia contracts currently being let are therefore important for Carillion as it is in a much stronger position if it has both hard and soft FM capabilities to demonstrate to the MoD. Of course the next bidding round is some way off, given that the Hestia contracts are only being let now and the NGEC work started only two years ago. By getting ahead of its rivals with this win Carillion is not only strengthening its revenue and earnings it is also making a very important strategic step. It may seem that the company is setting down markers on a long term basis but in terms of the MoD that is a very good thing. Carillion has also won other with MoD recently including the Aspire work announced in November last year.
Being good at winning work in quite competitive conditions from the UK MoD does not make Carillion a buy at 219p, at which it closed on Friday. But it does tell us that there is substantial value in the business. We expect that the balance sheet issues will be resolved over the next 3-5 years, which is a long timescale but more contract wins and tight control of risk combined with good market condition may surprise some of the shorts.
We are heading for a couple of “News-Lite” weeks over the Easter break. Atkins is alone in having a scheduled statement this week. It is due to release its pre-close update on Wednesday 12th. Whether that will happen with the indicative offer from SNC-Lavalin in progress (it must put up or shut up by 1st May) it remains to be seen. Atkins has already covered some elements of the main issues affecting its price in recent weeks. Firstly, through conformation that the c £35m pa pension deficit recovery plan is to continue (statement made on 5th April). Secondly, Uwe Kreuger said at a recent City meeting that for the first time since he became CEO it was firing on all cylinders and, thirdly, the potential bid at 2080p (shares were 1981p on Friday at close). The pension deficit recovery plan makes a big hole in cash available for expansion or distribution to shareholders and means SNC-Lavalin’s proposed bid is at an historic 15.1x EBITDA. Whatever the outcome of the Canadian’s approach Atkins is clearly in good shape and that will get better in the current market climate due to management actions in recent years.
There was no trend to the moves on Friday last that we can see. Travis Perkins was the leader up 2.2% to 1538p on 922,116 shares traded. The general view should be that UK Merchants are a tad oversold if construction output reaches expected levels this year; the latest CPA forecast is for a 0.8% increase, driven by Infrastructure and housebuilding. A real kicker could come from RMI spending growth but it remains stubbornly sluggish. The structural issue for the Merchants of further disintermediation, as has happened in plumbing and heating, remains a problem. Other risers were Interserve up 2.1%, Homeserve up 1.6% and Berendsen up 1.5%; see what we mean, no real pattern.
The main loser was Galliford Try, down 1.1% to 1467p as the shares adjust to the ending of Bovis discussions and going XD with the 32p interim payment on 23rd March. It is trading on 8.6x next year’s earnings (June y/e) which is somewhat harsh. The risk to forecasts remains though as the private housing segment, which drives earnings, has its well-rehearsed “issues” at present. That has not stopped the sector or Galliford Try rising over 10% YTD. The Housing White Paper has so far been a Damp Squib, no fireworks yet and it has not really altered the scene for the housebuilders.
Moves last week
The sector moved in line with the market last week, both were up around 1%. The sector remains up around 7% with the housebuilders up around 12%, the services stocks up 7% and the contractors and materials stocks up 2%.
Atkins was the clear leader up 29% as the potential bid from SNC-Lavalin was revealed at 2080p a share. The closing price reflects some execution risk inherent in the fundraising and the due diligence/terms and conditions of any offer. One thing was also settled last week, the level of the pension deficit plan funding. On Wednesday it was announced that the terms of the current Atkins funding plan were broadly reconfirmed, after the latest triennial review. That means the company will pay £34.5m in 17/18 rising at 2.5% a year to 24/25, based on a deficit of £318m. There is an emerging suite of products that means that companies might not need to pay very large chunks of cash each year to fund a deficit that actuaries think may exist at some point well into the future. In the case of Atkins the sum is near 20% of 16/17 EBITDA. Any deal to buy Atkins will need thumbs up from the pension fund and the basic terms are set.
The other notable riser was Homeserve, up 14% after a positive trading update and closed at an all-time high of 643p. Our view on Homeserve has been consistent and some would say consistently wrong. We retain our view that the business model needs growth and when that stops the balances sheet will unwind. That was masked in the UK by the mis-selling issues and fines. In the USA the websites show a wide range of views about Homeserve’s performance; from the comments the wide gap seems to be due to the performance of the operative sent to do the job, usually a local tradesman, who are often of variable quality. Homeserve’s customer quality delivery depends on having a sufficient network of third party tradesmen to carry out tasks usually in emergency circumstances. Customer retention is 80% in the US and the UK. It is addressing the issue in the UK with the acquisition of Checkatrade and other technology work but it still needs fingers and thumbs to do the jobs provided by people, often one man outfits, with limited day-to-day input from Homeserve.
Kier was the largest loser last week, down 8% to 1347p. The stock went XD on the 22p interim payment on 30th March but that accounts for only a small part of the 112p decline. There was some broker comment last week pointing to 1600p target share price. Our sense is that the move last week was ebb and flow rather than serious concerns. The net debt at £179m at the half way stage is of some concern to investors who are not keen on housebuilders with net debt. In Kier’s case valuation is complicated by it having both operating and property earnings. The deal to allocate land into a JV with Cross Keys Homes makes good sense from what we can see; given the cash profile it accelerates returns for Kier.
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