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Balfour Beatty - dividend rises as margins improve

George Salmon | 13 March 2019 | A A A
Balfour Beatty - dividend rises as margins improve

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Balfour Beatty plc Ordinary 50p

Sell: 254.60 | Buy: 255.20 | Change -0.20 (-0.08%)
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Despite a 5.2% fall in revenue, to £7.8bn, Balfour Beatty's underlying operating profit rose 4.6% to £205m as margins in all three divisions increased. Second half margins were at or beyond industry norms.

The shares rose 1.8% on the news.

The final dividend is 3.2p per share. That takes the full year payment to 4.8p, up 33% on 2017.

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Our view

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

He diagnosed a business that sought to hide underlying difficulties 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, where acquired businesses had not been properly integrated.

The group's investment portfolio, which is made up mostly of completed public-private projects, was Balfour's saving grace - keeping the group's head above water. In the meantime Quinn got to work on the root causes.

His 'Build to Last' program has taken a 'sales are vanity, profit is sanity' approach. A more selective approach to bidding has dragged the top line down, but Balfour's work is now higher margin. With the cost base also having undergone some significant surgery, underlying profits are rising.

The next stage is building a premium into margins - the work on that starts now.

There's reason to be optimistic. The order book is swelling and the new, disciplined approach should mean there's greater value in that pipeline. But convincing customers to pay a premium at all in an industry that's notoriously competitive on price will be a significant challenge.

At least market conditions seem to be swinging in Balfour's favour. Governments on both sides of the Atlantic are loosening the austerity purse strings to spend on infrastructure.

There's still some way left to go before profits return to historic levels though - and that's assuming the economy behaves itself. Construction spending is cyclical, and Balfour is very exposed to slowdowns or changes in government policy - although with debt wiped from the balance sheet, the group is looking far more resilient now than in the past.

While some reasonable progress has laid the foundations, we think Balfour remains a work in progress. The dividend has risen, but with the prospective yield at 2.3% this year, investors are banking on further increases.

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Full year results

Within Construction, UK underlying profits rose from £16m to £28m, as margins rose from 0.8% to 1.5% despite a 4.9% dip in revenue and extra losses from the Aberdeen Western Peripheral Route (AWPR) contract. New contract wins included £425m with Highways England and smart motorway contracts on the M4.

Margin increases also offset revenue declines in the US and Hong Kong Gammon joint venture. US underlying operating profits rose 7.3% to £44m, with Gammon profits up from £15m to £23m.

Extra utilities business, partly as a result of the extreme cold weather in early 2018, saw Support Services revenue rise 4% to £1.1bn. Profits rose 12% to £46m.

Earnings in the Infrastructure portfolio dipped 16% to £97m. That follows £187m of disposals, including interests in the M25 operator Connect Plus and Fife Hospital - only partially offset by the inclusion of new healthcare and housing projects in the US. As a result, the portfolio fell in value by £93m to £1.2bn.

The group continues to operate with a net cash position on the balance sheet, which averaged £194m over the year. Year-end net cash was broadly unchanged at £337m, as higher profitability was offset by extra outflows from AWPR.

The group's order book rose £1.2bn to £12.6bn. Balfour says projects including airport expansion in Hong Kong and Heathrow, the ongoing impact of the $305bn US FAST transport improvement initiative and stable trends in power transmission and distribution mean the outlook in many of its markets is favourable.

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

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