Last Tuesday, the education secretary, Michael Gove, announced a £2bn programme to rebuild schools under the private finance initiative (PFI). The money will be used to construct between 100 and 300 properties and help deal with a growing shortage of school places and a backlog of repairs. This is good news for tier 1 contractors like Costain – and it demonstrates how the upkeep of vital public infrastructure can only be put off for a short while.
The civil engineer looks to be in pretty decent shape, with the 30 June update showing that it had already bagged £900m (or over 90%) of its targeted revenues for 2011. What’s more, the order book stands at a substantial £2.3bn, with an extra £400m of preferred bidder positions. Seventy per cent of these relate to less volatile regulated industries and/or maintenance work.
Costain (
Aim: COST )
Additionally, there is a high level of tendering activity in its chosen markets of water, energy, waste and transportation. And on 11 July, the firm said that its joint venture with Skanska had clinched a blue-ribbon £250m contract to build Crossrail’s first station at Paddington. All told, there are £1.5bn worth of contracts up for grabs. Other stations at Farringdon and Whitechapel will be awarded later this year, with the rest (involving Bond Street, Tottenham Court Road and Liverpool Street) being announced in spring 2012.
In terms of the numbers, analysts are forecasting 2011 turnover and underlying earnings per share (EPS) of £990m and 25p respectively, together with a 9.8p dividend. That puts the shares on an attractive price earnings (p/e) ratio of 8.5 with a 4.6% dividend yield.
Although there is a £29m pension deficit (net of tax) to watch, the scheme has recently been closed to all members, so this should be less of a worry going forward. The upshot is that, assuming a six times earnings before interest, tax and amortisation (EBITA) multiple and adding back £100m of cash and £26m of PFI stakes, I value Costain above 300p a share.
Therefore, despite future concerns over the government’s finances, on top of the generic risks associated with non-performing contracts and tough competition from peers Balfour Beatty and Carillion, Costain looks like one to tuck away. Indeed, six months ago Costain was named by the New Civil Engineer magazine as “contractor of the decade”. House broker Investec has a target price of 315p a share, and interim results are due out on 25 August.
Recommendation: BUY at 213p (market cap £137m)