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Balfour Beatty - Return to profit

Nicholas Hyett | 16 March 2017 | A A A
Balfour Beatty - Return to profit

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Balfour Beatty plc Ordinary 50p

Sell: 305.80 | Buy: 306.20 | Change -4.80 (-1.54%)
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Balfour reported an underlying operating profit of £67m in 2016, following two years of losses. Having reinstated the dividend at the half year, the board have set the final dividend at 1.8p per share.

The shares rose 1.4% following the announcement.

Our View

The return of both dividends and profits is an important milestone for Balfour Beatty. The group may still be struggling to scrape out a profit despite billions of sales, but it seems to be over the worst.

CEO Leo Quinn began his career at Balfour Beatty (BBY) and went on to restore De La Rue and Qinetiq to something approaching good health, before returning many years later to find his alma mater in dire need of the same treatment.

Essentially Mr Quinn diagnosed a business that sought to hide underlying difficulties by boosting revenue through M&A and accepted excessive risks by bidding for work at low margins. That left too many contracts that were destined to generate losses, plus a cost base full of duplications when acquired businesses had not been properly integrated.

Fortunately, the portfolio of infrastructure investments turned out to be worth far more than was expected a few years ago, providing support through difficult times. Balfour also managed to keep clients onside, and more importantly, their upfront payments on the balance sheet, for BBY uses the best part of a £1bn of client money to fund its operations.

The group has now reached the end of a painful two years weeding out those underperforming contracts and slashing costs to put the core construction business back on an even footing. The next step is to return margins to something resembling the industry norm by 2018, as it becomes more selective in the contracts it undertakes.

Market conditions seem to be swinging in Balfour's favour, as governments on both sides of the Atlantic loosen the austerity purse strings to spend on infrastructure. However, a serious economic downturn could yet put major infrastructure projects on the backburner.

Consensus has earnings recovering over the next few years. Even so, analysts are not expecting a return to historic profit levels anytime soon, and on that basis, dividends are likely to be relatively modest for the foreseeable. Investors need to be playing a long game here, with a close eye on the global macro situation, for if that turns hostile, Mr Quinn really will have his work cut out.

Full Year Results

Balfour Beatty's return to profitability came despite a 3% decline in revenues at constant currency, to £8.5bn, as the group focussed on reducing costs. The order book rose 4% at constant exchange rates (CER) to £12.7bn.

Construction - Despite returning to profitability in the second half, underlying operating profits remained negative for 2016 as a whole, at £23m (2015: £229m). Once again this was driven by a poor performance in the UK. The order book in the division grew 22% to £9.6bn with growth across all regions (UK up 11%, US up 10% and Far East up 14%).

Support Services - Operating profits increased 42% to £34m, despite a 12% fall in revenues, as margins improved from 1.9% in 2015 to 3.1%. The order book remained flat at £3.1bn.

Infrastructure Investments - The division reported operating profits of £89m (2015: £132m) as the mix of assets sold hit profits on disposal and previous sales reduced pre-disposal profits. The portfolio was valued at £1,220m (2015: £1,244m).

Balfour Beatty has exceeded targets in its initial 24 month self-help phase and is now focussed on returning margins to industry norms. The group believes increased infrastructure spending in the key UK and US markets provides a positive operating environment going forwards.

The group continues to hold cash on the balance sheet rising from £163m in 2015 to £173m at year end.

Unless otherwise stated, all estimated figures, including prospective dividend yields, are taken from a consensus of analyst forecasts compiled by Thomson Reuters. These estimates should not be taken as a reliable indicator of future performance.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.