Interactive Investor

Stockwatch: 20% upside here

26th August 2016 12:27

Edmond Jackson from interactive investor

Were Brexit-inspired fears for housebuilders and property stocks thoroughly misplaced? Charts now show sharp troughs, with most regaining ground from these end-June falls, as firms report healthy progress and expectations.

Significantly, the Bank of England has cut interest rates to 0.25% and its deputy governor reckons they will get even lower later this year, after unveiling another round of quantitative easing (QE).

This is supportive of asset values generally and investors are sensing attractive risk/reward. In such a macro context, Persimmon declared bullish interims with customer interest up 20% and strong autumn sales anticipated. Valuation-wise it trades on a forward price/earnings (PE) ratio of about 9.5, albeit with the 2017 earnings outlook (as yet) moderating from about 15% to 3% - possibly a reason it is priced for a near 6% yield, 1.8 times covered.

Long-term investors may balk however at Persimmon's market price over 2.5 times net tangible assets, which has a "late cycle" feel but may reflect the government's Help to Buy mortgage subsidy scheme extended to 2020.

Boot has risen from a three-year post-Brexit vote low of 170p to 206p currentlyMore diversified and modestly-rated on assets, is Henry Boot in the FTSE Small-cap index, which has just announced bumper interim results: pre-tax profits up by nearly half to £20.8 million and earnings per share similarly to 11.9p. They result largely from valuable strategic land sales which can be lumpy, however, operational prospects look bright with "the larger commercial development schemes we have been preparing for some time, now finally on site".

With the rebound in housebuilding/property stocks, Boot has risen from a three-year post-Brexit vote low of 170p - near 162p net tangible assets per share - to 206p currently. Despite a strong financial record and prospects (see table below), the price had drifted from 245p some 15 months ago, possibly caution towards a smaller cyclical in case housing/land values were peaking.

The fear is asset values - internationally - having benefited from serial quantitative easing and ultra-low interest rates, but investors are recalibrating after central banks have launched yet more stimulus.

Diversified model

Henry Boot benefits from this macro context, as it has wider exposure to land and property development than a pure housebuilder. In 2015 its profits derived 59% from land development which serves mainly housebuilders, but which looks well-positioned as central government tries to reduce obstacles and time for gaining development permissions.

Thereafter, 31% came from construction, which embraces a range of public and private-sector projects including civil engineering and 11% from property investment and development - again broad-based.

The 'Leave' vote created a pause in housebuilders' land acquisitions but confidence is returningEven so, it was the Hallam Land subsidiary completing six residential land sales and exchanging on a further three (to complete in the second half) that mainly boosted interim profit. Looking forward, 4,175 housing plots secured planning permission during the first half and at end-June the number for sale had risen to 15,183 from 12,043 at end-2015; a further 9,500 plots are in progress.

It appears the Brexit vote created a pause in housebuilders' land acquisitions but confidence is returning for smaller schemes with longer payment schedules, albeit at still-good prices for vendors.

Progress on the construction side reads well, with 2016 budgeted turnover now secured also 50% of the 2017 target: e.g. retail developments, prisons/hospitals' build and refurbishment, civil engineering and plant hire. Similarly for property investment/development where eight new commercial schemes were initiated during the first half, representing over 900,000 square feet of space.

Management contends a "win/win" situation where commercial developments in progress are now largely pre-let/sold, such that the resulting cash flow "should provide the resources to acquire competitively priced opportunities for the next cyclical growth phase." Interim operational cash flow has improved from £9.9 million to £20.2 million although there were working capital demands of £29.3 million hence a rise in short-term debt.

Cautious post-Brexit forecasts may be in order to avoid having to warn later onAlso helping the stock has been news, on 24 August, of a £333 million exhibition and conference centre next to Aberdeen airport, funded by the city council and expected to complete in the first half of 2019; similarly a 50-acre business park adjoining the airport is moving to development with Southend Borough Council.

So, the activities are quite a lot to digest to value a £275 million group, but they support its risk/reward profile by mitigating operational risks, and unless momentum slows then 2017 forecasts look cautious. They may result from recent guidance trying to avert a need to warn later on, until the post-referendum environment becomes clearer.

Group prospects are "inextricably connected to the UK property market", management confess, and two months after the EU referendum "it is probably a little early to judge how the UK property market will react over the longer term", however the pipeline is coming together as anticipated.

Conservative finances

End-June net debt was £56.2 million in context of £225.7 million net assets, only £5.6 million of which were intangibles, hence net finance costs shaved just 3.1% of operating profit. Henry Boot is not exposed financially if the property cycle is maturing, indeed there is scope for additional debt if projects require.

The stock shows chart support at 170p and this reboud above 200p shows firm sentimentSo where's the compelling valuation? Admittedly nothing shouts out from the standard mix: PE pretty much in line with most housebuilders, stock relatively less pricey in terms of premium to net asset value, albeit with the dividend yield nearly half the circa-6% available elsewhere.

The five-year chart does, however, show Henry Boot in a volatile sideways consolidation since 2013, against which the financial summary shows very good progress. Such a chart may reflect the rush into cyclicals during 2013 as QE forced investors up the risk curve i.e. small-cap cyclicals; and Company REFS shows an annual average PE in the mid-twenties then.

Technically, the stock is repeatedly proving a support level around 170p and this rebound over 200p shows firm sentiment. A re-test of last year's 245p high, therefore looks more likely in the medium term, than dropping back once more.

For more information see the website.

Henry Boot - financial summary Consensus estimates
year ended 31 Dec 2011 2012 2013 2014 2015 2016 2017
Turnover (£ million) 115 103 154 147 176    
IFRS3 pre-tax profit (£m) 16.1 13.4 18.4 28.3 32.4    
Normalised pre-tax profit (£m) 15.6 13.0 18.2 27.9 31.8 37.6 38.5
Operating margin (%) 14.5 13.7 12.3 18.6 17.5    
IFRS3 earnings/share (p) 6.8 6.9 8.5 16.2 17.5    
Normalised earnings/share (p) 6.4 6.7 8.4 15.9 17.3 21.2 21.7
Earnings per share growth (%) 1.6 3.9 25.6 90.5 8.9 22.4 2.4
Price/earnings multiple (x)         12.0 9.8 9.5
Price/earnings-to-growth (x)         1.3 0.4 4.0
Cash flow/share (p) -0.8 -6.1 -1.0 6.9 0.7    
Capex/share (p) -19.3 0.2 0.3 -8.1 -10.2    
Dividends per share (p) 3.8 4.4 4.9 5.3 5.8 6.5 7.0
Yield (%)         2.8 3.1 3.4
Covered by earnings (x) 1.7 1.5 1.8 3.0 3.0 3.3 3.1
Net tangible assets per share (p) 133 131 140 145 162    
Source: Company REFS

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