Jefferies said it is switching to quality in the building & construction sector after downgrading Carillion PLC (LON:CLLN) and Balfour Beatty (LON:BBY).
As it took up a slightly uncomfortable position sitting on the fence with those two, it upgraded Costain Group PLC (LON:COST) to ‘buy’, after revising upward its profit before tax estimates for the current year and next by 8%.
In the broker’s view, Costain has a simple strategy, which is to concentrate on serving blue-chip clients in a limited number of well-funded sectors, all of which are critical to the UK’s infrastructure needs.
“With this comes long order books, more target cost contracts, reduced earnings volatility, and a premium rating compared to peers,” the Jefferies team maintained.
On top of that, the group’s strong balance sheet gives it ample firepower for acquisitions, particularly those targeted at increasing Costain’s technological abilities.
In contrast, it is no longer possible to avoid the elephant in the room when it comes to Carillion, which has been downgraded to ‘hold’.
Slower bidding in the support services sector should lead to “flattish earnings” this year but the aforementioned elephant in the room is Carillion’s heavy debt load of £587mln and its £663mln pension deficit.
The shares are trading at a significant discount to the sector and that’s because, in the view of Jefferies, the market is expecting a rights issue at some point to shore up the balance sheet.
Turnaround play Balfour Beatty is also downgraded to ‘hold’ after the company completed phase one of its recovery plan, which was to stem losses in UK construction and bolster the balance sheet.
“The next stage of the journey sees the group returning to industry standard margins by the end of 2018. We expect this to take the form of J-curve with a flattish top line boosted only by the US (mainly FX),” Jefferies said.
The shares trade at around a 30% premium to the sector but the broker believes “the next stage of the [turnaround] journey is largely priced in”.
Shares in Costain were up 1.7% at 444.25p in lunchtime trading, while Balfour Beatty was down 1% and Carillion down 3%.