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Morningstar | Boral Hits a Soft Patch 1H 2019 But Outlook Remains Positive; Shares Undervalued. See Updated Analyst Note from 25 Feb 2019

Delays to Australian infrastructure projects and adverse U.S. weather impacted no-moat Boral in first-half fiscal 2019. While announced first-half EBITDA of AUD 485 million was expected, pricing in Boral’s Australian businesses and volumes in its U.S. fly ash businesses were soft and lead us to trim our full-year fiscal 2019 EBITDA forecast by 2.5% to AUD 1,087 million, including Boral USG join venture profits. Nonetheless, we continue to see medium-term top-line growth for Boral given a robust infrastructure pipeline in Australia and a supportive residential and infrastructure backdrop in the U.S. We retain our valuation of AUD 5.80 per share and continue to view Boral shares as around 15% undervalued.

While we reduce our full-year expectations for Australia segment price increases in fiscal 2019, we expect positive skew in volumes to the second half to drive 2.8% segment sales growth. Australia segment prices increased 1%-3% in the first half, comparing unfavourably with our full-year expectations for 3.5%, and were insufficient to offset input cost inflation. Segment EBIT margins thus declined to 9.2% from 10.8% a year earlier. Meanwhile, infrastructure project delays saw first-half concrete volumes fall, offsetting growth in aggregate, cement, and asphalt. We expect better volumes in the second half. Segment EBITDA of AUD 638.1 million is now forecast to be largely flat year on year, before returning to growth again in fiscal 2020.

Shrinkage in first-half fly ash volumes leads us to trim our full-year North America segment EBITDA forecast is by 2.5% to AUD 382 million. While strong volumes in the North America roofing business delivered segment revenue growth of 3% in USD terms, weather impacted volumes elsewhere. Fly ash volumes retreated 6% in the period. We now forecast flat fly ash volumes in fiscal 2019, down a prior 4.3% growth. Nonetheless, delivery of the previously guided USD 25 million in full-year Headwaters synergies remains on track.

We continue to expect AUD 192 million in segment EBIT for USG Boral, a largely flat result year on year. USG Boral volumes were significantly impacted in the first half by a market downturn in Korea, which offset growth in Australia, Indonesia, Vietnam, and India. Segment EBIT of AUD 84 million was 26% lower than a year earlier despite translational gains from a lower AUD. Boral continues to engage with Knauf regarding options for the joint venture following the completion of Knauf’s acquisition of USG. While Boral asserts it will only take full ownership of USG Boral once more should it be value accretive for shareholders, our continued preference is for capital be allocated elsewhere given the lack of economic moat that the plasterboard business enjoys.

Leverage continues to improve following the Headwaters acquisition and following the sale of the U.S. block business in the first half. Net debt stood at AUD 2.3 billion at fiscal 2019 half-year and we expect net debt/EBITDA of 2.3 times by fiscal 2019 year-end, down from 3.9 times in fiscal 2017 post Headwaters deal completion. While not identifying specific assets, management reaffirmed that further Boral assets remain earmarked for sale. Further divestments would provide flexibility for Boral to return capital to shareholders. We believe businesses on the chopping block would include remaining high-fixed-cost, highly cyclical businesses such as the US Brick joint venture.