Why should you consider buying Balfour Beatty?

25th Nov '14 by Orangetree

6 comments 13387 reads

PROLOGUE

What was Balfour Beatty management thinking, not accepting the Carillion takeover deal?

Looking back, I think Balfour's shareholders may rue the chance of getting back its investment. And I feel sorry for them.

Unlike other construction companies, which saw its share price recover from the financial crisis, Balfour's share price took the wrong turn, going in the opposite direction, languishing at a 10-year low.

So, what was the Carillion proposal, again?

Well, it was a £2.1bn offer, which would have valued Balfour at over £3/share, add on a sweetener of 8.5p/share dividend pay-out.

On top of that the combined business would have given Balfour Beatty control of the new entity @ 58%, as oppose to Carillion's shareholders 42%.

What has happened, since they rejected the offer?

Balfour kept on releasing profits warnings, and the share price languishing around £1.60/share.

Surprisingly, at today's market, the reverse would be true. Carillion's shareholders would become the majority shareholders at (you guess it) 58%, as oppose to 42% for Balfour's shareholders (how things changes in the space of a few months).

Cheer up Balfour's shareholders

Secretly, behind the scenes Balfour's management has been making a number of disposals lately. In 2014, I calculated from their news releases, that they have sold off three PPI projects for around £158m (gross proceeds), along with selling Parsons Brinckerhoff for net proceeds of £753m.

So, I guess the disposal this year would be a bumper harvest of slightly under a £1bn, give or take.

Somehow the market isn't listening, or something is very wrong.

Balfour's management explicitly said that after the disposal of Parsons, they will still be generating revenue of £8bn (include JV and associates), (2013: group revenue: £10.1bn). The proceeds itself represents more than 50% of market cap at the time.

Instead, the markets were focusing on Balfour's profits warnings and the deterioration of its balance sheet, despite not taking into account of the proceeds generated so far.

What is wrong with Balfour's financial position?

Tell me what isn't wrong about Balfour Beatty's financial positions, they have struggled to make a decent net margin, since the financial crisis, and debt has ballooned.

Balfour's financial assets (liquid-only) and liabilities (provisions, leases and pensions deficit included)

Here are the company's current liabilities and future obligations shown below:

…

2013

2012

2011

2010

2009

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Cuthbert C

27th Nov '14

Worth looking at the prefs. BBYB. Nominal coupon >10% cumulative and redeemable.

Recently dipped to 102p when a large holder disposed of their holding. At that price YTM > 10% which is pretty attractive. Subsequently recovered to 112p or thereabouts.

Orangetree

Hi tournesol,

Yes, it is worth looking at the prefs, and since managements are likely to opt for share buyback (less attractive in my opinion) for a dividend cut.

I think this is a Buffett play (similar to his deals with GE and Bank of America), the company has ample of cash to meet its prefs dividend (only costing them £12m/annum).

However, one should suspect the company may retire its prefs since it has fallen to all-time lows.

Thanks for the tip :)

alterego

According to the company website:

The Company is entitled to convert all outstanding preference shares into ordinary shares if there are fewer than 44,281,239 preference shares in issue or if the average of the closing mid-market price for a Balfour Beatty plc ordinary share during a 30-day period exceeds 810p, subject to adjustment in certain circumstances. At 31 December 2012, there were 111,839,795 preference shares in issue.

so retiring the prefs may not be as easy as you might think.

HI Alterego,

I can clarify one thing, and that is the shares won't reach £8.10/share, so these prefs will not get converted that way.
But the company mentions they will convert if there are fewer than 44.28m shares in circulation. Currently, there are 111m in circulation, so I'm asking myself: "How is the company going to reduce the number of prefs. shares in circulation?"

And in its annual report 2013 footnote, under '29.2 Cumulative convertible redeemable preference shares of 1p each'.
The first sentence read: "All issued preference shares are fully paid. During the current and prior year no preference shares were repurchased for cancellation by the Company."

So they can buy back the prefs.

Hope this clears everything up!

Regards

Remember these shares are redeemable in 2020 - so their life expectancy is less than 8 years.

Of course BBYB might decide that they do not want to carry on paying the 10.75p coupon in which case they are free to buy the prefs back in the open market or make an offer to redeem them early. If they do either or both and manage to reduce the number in issue to the threshold level, then they can compel any remaining holders to convert early.

My expectation is that the annual dividend payment is simply too small for BBY to invest much management time and effort in early redemption. I think it is easier just to carry on paying. But if I'm wrong and BBY do start buying the shares in the open market then the price will firm up and that will be a good thing. Or if they make an offer for early redemption then they will need to offer something more attractive than the run-off so that too will be a good thing.

Either way, I expect to do OK

Just what i was thinking :)

Regards

Why should you consider buying Balfour Beatty?

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Orangetree

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