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Balfour Beatty - steady but not soaring

Nicholas Hyett, Equity Analyst | 18 August 2021 | A A A
Balfour Beatty - steady but not soaring

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Balfour Beatty plc Ordinary 50p

Sell: 235.40 | Buy: 235.80 | Change -7.20 (-2.97%)
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Balfour Beatty reported first half underlying revenue of £4.1bn, broadly flat year-on-year.

However, operating profits came in at £60m, up from a £14m loss in 2020. That reflects good cost control, gains on disposals of investments and improved results in the group's joint venture partners.

The board declared an interim dividend of 3.0p, up 43% on its pre-pandemic level. The group has also completed £100m of its planned £150m share buyback programme.

Balfour Beatty shares fell 3.5% in early trading.

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Our view

Balfour has taken the pandemic more or less in its stride. Many of Balfour's sites remained open during the disruption, and profits are on track to return to 2019 levels this year. Management are now in a position to look at expansion rather than just preservation.

The background is supportive. We're seeing governments gearing up to spend big on infrastructure as the recovery gets underway. That should provide support for large construction groups, although it's yet to hit order books.

However, even in the good times margins in the construction sector are pitifully thin. An operating profit margin of 3% is pretty impressive in the UK, while in the US as low as 2% is good going. Such low margins leave little room for error and unfortunately Balfour, like the wider construction business, is accident prone.

London residential property contracts are an excellent example this year. When Balfour agrees to a fixed fee contract it takes on all the risks of a cost overrun. The pandemic delayed progress on some of those contracts - pushing out production scheduled and wiping out all profit, not only that project but across the whole UK construction business. Such is the risk of very low margins.

In future the group will avoid fixed-price residential property contracts in central London altogether. That may avoid repeats of past blunders, but it continues a trend of Balfour restricting where it operates. So long as there's enough work to do in its remaining markets that's no bad thing, but construction is a notoriously fickle business and work quickly dries up when the economy takes a turn for the worse.

Still, we've been impressed by Balfour's ability to win, and keep hold of, business contracts during the disruption. A growing order book is not something all construction companies can boast. Quinn's more disciplined approach to managing the business also means the balance sheet is in reasonably good shape.

Which brings us to the dividend.

Having trimmed the pay-out during the pandemic the group has now delivered a significant hike. The very strong balance sheet will have played a part in that, as has forecasts for margin growth in support services and good demand for the group's infrastructure investments.

However, investors should remember Balfour Beatty's fortunes will wax and wane with the wider economy. The group has only committed to paying out 40% of underlying profit after tax, and if a government led infrastructure boom will help fails to make it through to the bottom line then the dividend will be on the chopping block.

Balfour Beatty key facts

  • Price/Earnings ratio: 13.3
  • 10 year average Price/Earnings ratio: 13.2
  • Prospective dividend yield (next 12 months): 2.7%

All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.

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Half Year Results

Across its Construction Services businesses Balfour Beatty reported an underlying operating profit of £6m. That's up on the £11m loss reported in 2020, but was held back by a £23m loss in the UK business which partially offset profits in the US and Gammon of £20m and £9m respectively. UK losses reflect problems at central London residential property projects - where COVID has led to a rise in costs. The divisional order book fell from £13.7bn a year ago to £13.5bn at the end of the half.

Support Services reported a 16.6% increase in revenues, reaching £555m, with operating profit rising from £10m a year ago to £54m. Management put the better results down to the refocussing of the business on power, road and rail maintenance. Volumes in those businesses rose year-on-year, while the exit from the gas and water sector put an end to losses in those divisions. The divisional order book fell from £3.0bn at the half year stage in 2020 to £2.6bn.

Balfour's Infrastructure Investments business reported a pre-disposal profit of £8m - broadly in line with pre-pandemic levels. The group also reported a £7m profit on disposal of its stake in the BH Children's and Women's hospitals in Vancouver. The group completed further sales after the period end and reported strong demand for infrastructure assets in the secondary market. Total operating profits came in at £15m. The director's valuation of the portfolio now stands at £1.08bn.

Over the course of the year the half the group reported average net cash on hand of £611m, up from £527m a year ago. After £97m of share buybacks and net cash from infrastructure sales of £12m, the group saw a net cash inflow of £44m.

Management expect full year earnings to be in line with what was achieved in 2019. Support service margins are now expected to rise from 3-5% to 6-8% in 2022.

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This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. 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.

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.