Carillion facing headwinds

A trading update this month from Carillion revealed that the company has continued to trim its operating base in the UK to reflect the shrinking market, but that it's also winning more work in the Middle East. Much of this, though, will only bring in revenue in the second half – so first-half revenue is now expected to be down on last year.

However, Carillion's large size and broad range of services will ensure that new business keeps coming in. In fact, the current order book and probable orders remains strong at £18bn, and there's another pipeline of contract opportunities that's worth £35bn. Carillion's various Middle East construction contracts will also generate revenue in the second half and, while this business isn't expected to grow sufficiently to offset lower operating margins in the current year, the longer-term growth outlook here remains positive. Management plans to double Middle East revenue to £1bn by 2015.

On the support services side, the integration of Carillion Energy Services is largely complete, and Carillion remains on target to deliver annual cost savings of £25m by end-2013. New business wins include a £700m, 10-year contract to provide property and facilities management services for Oxfordshire County Council and the group is currently at the preferred bidder stage on several support service contracts.

Investec Securities says...

Buy. Markets may be discounting too much risk in Carillion's business, but there is a significant sentiment headwind. And while progress may be slow in the near-term, we retain our positive stance. Operating margins overall are expected to move ahead and the £18bn order book provides strong earnings visibility. However, the UK construction business will remain subdued until new government initiatives start to kick in. We have cut our estimates for 2012 by 1.5 per cent and now expect adjusted pre-tax profits of £189.3m and EPS of 43.8p – but such a low prospective share price rating leaves much of the challenges in the price and we reiterate our buy recommendation.

RBC Capital Markets says...

Sector perform. We are lowering our rating from outperform, and also cutting our earnings forecasts on the back of the first-half trading statement – EPS this year of 42p is now expected, down from 44p previously. Far East margins have declined as negotiated contracts have now been replaced by competitive tendering, while UK margins are also under pressure. However, these will be partly offset by solid growth in Carillion's Canadian operation although, overall, we expect to see trading in the second half remaining pretty flat in the absence of any Public Private Partnership (PPP) reforms or progress on implementing the government's Green Deal on carbon emissions.