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Morningstar | Brickworks’ Volumes Begin Their Descent in 1H 2019 Post Building Cycle Peak; FVE Unchanged

No-moat Brickworks’ first half fiscal 2019 provided no major surprises. Declining brick volumes corresponded with falling Australian housing starts which have commenced their retreat from their cyclical peak in 2018. Our full-year fiscal 2019 revenue forecast is largely unchanged at AUD 897 million which reflects a 3% decline in Australian revenues, offset by a seven month contribution from the Glen-Gery acquisition. We forecast full-year EBIT of AUD 304 million, including associate earnings from Soul Patts and the Property Trust, up 30% from our prior estimate due to an unexpected compression in property cap rates. Brickworks shares continue to screen as expensive, trading at a 20% premium to our unchanged fair value estimate of AUD 15.30 per share.

While the 6% decline in first half Australian brick volumes largely tracks our full-year expectations, softer than expected price increases saw first half Australian brick revenues come in a touch soft at AUD 208 million. Surging energy prices led to an incremental AUD 6 million in energy costs in first-half fiscal 2019. We’d expected price growth of 4.4% to provide a partial offset but the top-line underwhelmed. With price increases more difficult to implement this late in the cycle, we pare our full-year brick price growth forecast to 3%. While roofing, masonry and timber revenues tracked our full-year expectations, precast concrete revenues were significantly stronger than anticipated, increasing 14% in the half year. Our revised price growth forecast reduces our full-year EBIT estimate for Australian Building Products 12% to AUD 45.3 million.

The Glen-Gery acquisition performed in line with our expectations and delivered AUD 26 million in its first two months under Brickworks’ ownership. We continue to expect Glen-Gery to contribute an approximate AUD 100 million in revenue and EBIT of AUD 8.3 million in fiscal 2019.

Management reiterated their enthusiasm for the U.S. brick industry, seeing potential to roll-up a fragmented industry suffering from substantial excess capacity. We see a path to value creation for shareholders, with consolidation having the potential improve margins by unlocking cost synergies and by improving capacity utilisation. But as always, price discipline will be required to ensure that any acquisitions do create value for shareholders.

The property segment benefitted from further compression in Australian industrial property cap rates. The portfolio’s weighted average cap rate fell to 5.4% at the half year, down from 5.9% at fiscal 2018 year-end, leading to AUD 67 million in revaluation gains and tracking ahead of our expectations for an approximate AUD 12 million in revaluation gains. We increase our full-year property EBIT expectations by 97% AUD 144 million, reflecting the unanticipated cap rate compression.

The balance sheet remains in good shape, with net debt to equity resting at 11% at fiscal 2019 half-year-end. The partial sell down of the Soul Patts cross-holding in December saw leverage decrease in spite of the Glen-Gery acquisition and leaves Brickworks in a position to contemplate further U.S. acquisitions. Further flexibility will arise from the exit from the underperforming Auswest Timbers business which has been confirmed. The ultimate sales proceeds are uncertain, given the significant work required to turn around the loss making business. However, proceeds in the range of 27 million – 58 million is possible, based upon an enterprise to sales multiple of range 0.6 – 1.3 times.