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100percent - What are your thoughts on the potential upside from the A465 dispute, mainly regards the below:
Within the RNS released on 12 December ‘19 Costain noted the below:
“the net cash position being impacted by c£40 million of cash currently withheld on the A465 Contract.”
It appears as though Costain have effectively outlaid a large sum of money complete the additional scope on the project. Having made a huge dent in the 2019 Cashflow and thus 2019 profits (and SP), the Welsh Audit report (link below) appears to state it 'expects' £80m to be paid to Costain. With the project due to complete in 2021, the additional £40m is basically Costain's entire Market Cap... The SP would change significantly when this is paid (Maybe the day traders will be interested that day).
"The Welsh Government’s current forecast also includes a sum to cover expected liabilities for adjudications decided to date in favour of Costain. In total, these two elements comprise £80.5 million. The Welsh Government has accepted liability for another £16.7 million of increased costs, which relate to activities deemed outside the original scope of Costain’s contract and classed as compensation events. "
www. audit.wales/publication/a465-section-2-interim-findings
(remove space after www.)
Totally agree re lack of transparency on the rights issue. Currently the market cap of Costain is only circa £39 million, and they are looking to raise more than double that amount via the rights issue. With just over 100 million shares in issue at present, the as yet undisclosed detail of this RI is the elephant in the room.
Agreed. The 6-7% target is clearly not going to be realised in the current climate, this is a mid-term target (years). My post was not targeting the pump and dump day trader crowd. It was for the mid-term holder and the unfortunate long term holders who's SP average is multiples of today's price. The lack of information regarding the equity raise is extremely frustrating, my point on this sought to present a targeted upside to the equity raise.
Your point regarding low margins within the construction industry is correct, that's why Costain is diversifying their approach (see link). As a real world example, a good friend of mine works for Costain as part of their consultancy framework. He is deployed on site with a Blue Chip company which continues to operate throughout Covid-19 - The gross profit margin on his hourly rate is huge, lets just say it's over 100% (Net margin will be lower due to annual leave, pension, overheads etc), but you can see my point.
Link to their Leading Edge Strategy (remove space after www.)
(Page 18)
www. costain.com/media/598758/cmd-presentation-for-website.pdf )
Just a bit of useful insight that I may be able to part.
I work as a Quantity Surveyor for top UK Contractor (not Costain) so I have a good understanding of the construction industry.
In relation to your first point I assume by 6/7% profit margin your referring to pre-tax profit and not gross profit which is the measure that all contractors measure profitability by? 6/7% margin is extremely and virtually impossible in the current construction climate. Generally margins are extremely low in construction due to the inherent risk of the activities. If you are making circa 2% margin then as a contractor you are doing well anything and performing at industry expectations. Anything more and you are doing very well. Some contractors like Watkin Jones make considerably more than this but this is largely due to development acitivities which are extremely profitable and not all major contractors have significant development divisions. See the construction index below for a list for the data for the top 100 contractors in the UK
https://www.theconstructionindex.co.uk/market-data/top-100-construction-companies/2019
You highlighted several loss making incidents as one offs. Although that may indeed seem the case the very nature of construction makes it difficult to predict margins from year to the next. Often Clients pass on too much risk to Main Contractors who often have little choice but to accept in order to win a project. This is generally the main reason behind huge losses and unfortunately this is a trend that continues so there is no gurantee that losses will stop occurring from one year to the next.
That being said I think the current SP is extremely low and definitely worth buying at. I think yesterdays RNS was positive, especially considering that 50% of the company's revenue is no affected by COVID-19 which is a stark contrast to many other Main Contractors. At mentioned the UK government is wanting to spend Billions on infrastruture in the UK and Costain are well placed to do this an an infrastructure specialist, unlike many of their competitors who still remain invested in general building which Costain exited years ago.
Costain’s share price by all accounts has had an awful run this last couple of months - Overall, the drop is justified, albeit I believe massively oversold. Why?
The long-term positives
• Equity Raise will only be offered on the basis that a 6-7% profit margin can be proved viable to investors. A £1billion/year revenue gives a target profit of £60m/£70m – For a company valued currently at £38m, that’s impressive. (see below for more details)
• A conservative P/E of 10 on the above terms would value the company at circa £600m. Even if the £100m equity is raised at current share price of 35p, that would mean 285m new shares. Yes- Almost 3 new shares for every 1 held. Yet at a market cap of £600m being nearly 16x the current price. It still represents a share price in the region of £1.50 which would be a 300%+ increase on todays share price.
• 70% of the workforce still operating throughout Lockdown (See latest RNS) meaning profits will take a limited hit compared to other sectors. This is due to the focus on remote working and the advanced IT infrastructure the company possesses.
• £27billion to be in invested in infrastructure by the Government over the next 5 years. Costain are a leader in this sector and stand to benefit from this massively.
• Collaborates with UK Government and Blue Chip Clients only
• A total order book of over £4billion
• £300m of work won in February ’20 alone (https://www.constructionenquirer.com/2020/03/11/costain-tops-february-contracts-league/)
• Potential additional profits gathered from A465 project. (see below)
Looking at the most recent results, Profit was down from £40m in 2018 to a £6.6m loss in 2019, a £46.6 deficit, but that was due to a number of one-off events:
1. £20m loss due to arbitration costs resulting from a dispute on the A465 in Wales. (more information on that below)
2. £9.7m loss due to issues relating to a roof at the National Synchrotron scientific laboratory in Oxfordshire.
3. 16m loss due to Contract losses and delays.
4. 15m less net cash due to its commitment to fairer payment practices (reducing payment terms for Sub-Contractors). This transition is very much a one off financial ‘hit’.
The above totals £60.7m, if any of, or a number of the above were avoided then the profits would have been substantially more than what was eventually realised. Granted all/most of the above are the fault of the Company, however these were significant one-off events rather than systemic consistent failures. BP’s oil spill in 2010 cost the company billions, profits were destroyed, but it didn’t turn them into a bad company because of it.
Costain communicated that they wished to release much of the bad news within a concentrated timeframe. Ie. (Poor) End of year results, £100 equity raise, then came the unprecedented effect of Covid-19. I would rather this than a consistent drip feed of negative news if a strong, steady Share Price rise is to be realised.