In August we said it was difficult to see what would prompt a re-rating of shares in Carillion (CLLN). That has all changed, thanks to improving prospects for UK construction and an encouraging order book in the Middle East. Most important, however, the outlook for private finance initiative (PFI) projects looks much better now that the UK government has removed layers of uncertainty.
- Strong order book
- PFI work back on the menu
- Attractive dividend yield
- Rating cheap compared with rivals
- UK construction may take time to recover
- Margin squeeze in the Middle East
As proof of Carillion's brighter prospects, it has just won a £600m contract with Birmingham city council to improve the energy efficiency of 60,000 homes and offices, but the deal could be extended throughout the West Midlands, boosting its value to £1.5bn. And news is expected soon on the Royal Liverpool Hospital project for which Carillion has been shortlisted - this could be worth another £750m. Yet even before these, the order book looked healthy. It stood at £18.3bn at the end of June when Carillion also had £35.6bn-worth of contracts in its bidding pipeline; a record.
But it gets better. Earlier this month, the government announced new guidelines for private finance initiative (PFI) schemes in which private sector capital funds public sector projects. True, the revised PFI rule book is little changed from the old one, but a string of projects that were on hold will now be released.
Carillion's chief executive, Richard Howson, reckons there could be £2.5bn of priority schools work up for grabs in the first quarter of next year, and that's just for starters. Elsewhere, the group has a healthy involvement in PFI work in Canada, where there is a record pipeline of opportunities. In Ontario, for example, a new 10-year alternative financing procurement programme is being developed, under which around C$35bn (£22.3bn) will be invested over the next three years, notably in the health sector where Carillion is a market leader. Turnover in Canada is targeted to rise to £1bn by 2015.
| CARILLION (CLLN) | ||||
|---|---|---|---|---|
| ORD PRICE: | 293p | MARKET VALUE: | £1.26bn | |
| TOUCH: | 292-293p | 12-MONTH HIGH: | 367p | LOW: 234p |
| DIVIDEND YIELD: | 5.9% | PE RATIO: | 7 | |
| NET ASSET VALUE: | 223p | NET DEBT: | 12% | |
| Year to 31 Dec | Turnover (£bn) | Pre-tax profit (£m) | Earnings per share (p) | Dividend per share (p) |
|---|---|---|---|---|
| 2008 | 5.46 | 118 | 29.0 | 13.0 |
| 2009 | 5.63 | 136 | 30.5 | 14.6 |
| 2010 | 5.14 | 168 | 36.9 | 15.5 |
| 2011 | 5.05 | 143 | 32.0 | 16.9 |
| 2012* | 4.84 | 203 | 40.1 | 16.8 |
| % change | –4 | – | – | -1 |
Normal market size: 8,000 Matched bargain trading Beta: 1.1 *Peel Hunt estimates (only dividends comparable with historic figures) | ||||
The UK construction side also looks set to benefit, although not until next year. Before then, revenue is expected to be down from last year, although, by tightening contract selection, Carillion reckons that operating margins and profits will be maintained. For the group as a whole, operating profits are expected to improve this year despite a fall in turnover.
Middle East construction services have seen margins fall from 7.4 per cent to 6.7 per cent, and the trend is expected to take margins down to 6 per cent as old contracts are replaced by contracts won through competitive tendering. First-half revenue slipped from £254m a year earlier to £202m, but a number of significant orders have been secured since then. However, revenue is not expected to grow sufficiently in the full year to offset the lower margins. Even so, management maintains its target of boosting Middle East revenue to £1bn by 2015.
Carillion has also worked to reduce its reliance on UK construction by developing the support services side. And while this sector contributed 45 per cent of group turnover and 52 per cent of underlying operating profits in 2007, it now contributes two-thirds of underlying profits. Support services generate a steady revenue stream, and margins have been maintained at 4.1 per cent. Typical work includes a contract to provide facilities management for Oxfordshire county council. It's dull stuff, but it provides reliable revenues.
