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Analysts welcome Bovis Homes recovery plan and dividend policy under new CEO

Bovis Homes posted a drop in first half profits but its shares rose after saying its operational issues were "very fixable"
Bovis Homes
Bovis Homes says it is confident on its outlook for the business

An ambitious plan to turnaround Bovis Homes Group PLC under new chief executive Greg Fitzgerald was well-received by analysts today, sending the housebuilder's share price soaring.

In late afternoon trading, Bovis shares on the FTSE 250 index were 9.5%, or 100p higher at 1,152p.. 

Bovis took a hit to profits in the first half due to costs associated with fixing poor quality homes it built and money spent on advisors to assess takeover bids it received from Galliford Try PLC (LON:GFRD) and Redrow PLC (LON:RDW) but ultimately rejected.

However, the group said its issues were “very fixable”.

READ: Bovis Homes first-half profits fall but shares rise on new CEO's turnaround plan

“Whilst Bovis had made itself vulnerable to a takeover after warning on profits, the problems it has (had) are eminently fixable from within,” said Neil Wilson, chief market analyst at ETX Capital.

“Failure to meet construction targets, poor relations with contractors – these are not fundamental issues with the business or its model. It can afford £10mln to fix build quality problems.”

Fitzgerald's strategic plan to overhaul the business includes cutting building costs, reducing its land investment on a number of larger sites, disposing non-performing assets and streamlining its operations to focus on a few core regions. As it reduces its operations to seven from eight regions, the group expects to see 4,000 completions per year.

The aim is to improve profitability and improve its balance sheet to deliver 25% return on capital employed (ROCE) by 2020.

“We believe Bovis has set out very ambitious targets over the medium-term, namely a ROCE target of 25% by 2020 which historically has only been achieved in fiscal year 2004,” according to UBS analysts.

UBS also noted the execution risk in disposing of £170mln-£240mln of non-performing assets over the period in order to achieve ROCE targets. The bank repeated a ‘neutral’ rating on the stock and a target price of 950p.

“Furthermore, we believe over the short-term Bovis will continue to see some challenges and restructuring is still ongoing, meaning these targets are likely to be back ended towards 2020,” UBS said.

“While the shares have already recovered strongly (+29% year-to-date, in line with the sector), we believe this is positive news and the market will likely react positively.”

Dividend growth means 'meaty yields' but may be 'too good to be true'

Reflecting its confidence in the outlook, the company plans to return £180mln in excess cash to shareholders through to 2020. Bovis will raise the ordinary dividend for fiscal year 2017 by 5% to 47.5p per share and by a further 20% in 2018 to 57p.

“That is enough to put Bovis on a yield of 4.2% for this year and 5% for next. On top of that, the company now intends to distribute special dividends worth £180 million, or 134p a share, out to 2020, sums which will take the yield into double-digits, depending upon how they are phased,” said Russ Mould, investment director at AJ Bell.

“Such meaty yields could be seen as falling into the ‘too good to be true’ category, even allowing for the sound balance sheet which has minimal debt.”

Mould said if the housing market were to decline and profits were to fall again, Bovis could still pay such dividends by sacrificing land purchases.

In the event of a downturn, the firm would surely prioritise the purchase of cheaper plots, which is a key issue to housebuilders’ long-term profitability, the analyst added.

Analysts at Numis expect the company’s plans to return excess capital to shareholders will lead to it becoming the highest yielding stock in the sector.

Numis raised its rating on the stock to 'buy' from 'add' and raised its target price to 1,275p from 1,085p.

“The strategic review shows that the new CEO and the wider team are moving quickly to improve build processes, the quality of customer care and also ensuring the business is rightsized to operate at 4,000 units in the short-medium term,” Numis said.

“We think these actions will start to bear fruit from the second half of 2017 and management has committed to reducing overhead costs and rebuilding the gross margin, so that EBIT (underlying earnings) margins move toward 19% by 2020 (2017 14.5%).”

Tailwinds in housing sector won't last forever, says Hargreaves Lansdown

George Salmon, equity analyst at Hargreaves Lansdown, said while the new strategy seems “sensible enough” the company may face sector-wide challenges down the road.

For now, housing market demand remains supported by low interest rates, the government’s Help to Buy scheme, low unemployment, good mortgage availability and shortage in the supply of homes.

But Brexit uncertainty has started to weigh on confidence in the sector and has put a squeeze on consumers’ ability to save by driving the pound lower and pushing inflation higher.

“The tailwinds in the sector, namely the combination of low interest rates and supportive government policy won’t last forever,” Salmon concluded. 

 -- Updates share price --

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