The strain eases on Costain

The only certainty for infrastructure construction specialist Costain (COST) was that big, complex infrastructure projects can sometimes have unquantified levels of risk. However, having “kitchen sinked” the bad news over the past 18 months, the company was able to report a clean set of interims, free from the charges and writedowns that had severely affected its previous reported performance. While there was still no sign of a return to the dividend list, the result of all the operational housekeeping was a much better cash conversion performance.

The company seemed to finally draw a line under the troublesome National Grid contract for a gas compressor in Cambridgeshire that had caused many of the writedowns in the prior year. An agreement has been reached to cease work on the project and go through a legal adjudication process to determine how costs will be compensated, with the forecast that this will be completed by the end of the year. Following legal advice, management said that it doesn’t expect that there will be further charges in addition to the provisions already made.

There were also signs that margins in its main business segments are starting to recover. In transport, for instance, a margin of 3.8 per cent, compared with a negative figure last time, is back in line with the historic average for the sector. Overall, the company won £334m of new orders, which takes the total forward order book to £4bn.

Chief executive Alex Vaughan said that part of the recent underperformance was due to energy contracts that were delayed but have now come through. He also noted that Costain’s exposure to price inflation in the construction sector was offset, in part, by agreements in its contracts to pass on price rises to customers. The company only actively hedges forex hedge risk when it imports specialist machinery, such as the tunnel-boring machines used on HS2, he said.  

With a free cash flow conversion rate of nearly 100 per cent, Costain’s underlying business looks in much better shape now that it has some certainty over its troublesome legacy contracts. With infrastructure spending, whether it is de-carbonisation projects or general updating, set for a major boost via a government-backed infrastructure bank, the company merely needs to survive in order to benefit. With a share price that barely tracks the net asset value, there is room for upside from a consensus PE for 2022 of 6.8. Upgrade to Hold.  

Last IC view: Sell, 69p, 16 Mar 2021