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Morningstar | Cimic Meets 2018 Earnings Guidance High-End. No Change in View or AUD 34.50 FVE.

We make no change to our AUD 34.50 per share fair value estimate for no-moat Cimic. The company reported an 11% increase in underlying 2018 NPAT to AUD 781 million, marginally ahead of our AUD 761 million forecast, and at the top end of guidance. That modest beat reflects slightly better than anticipated revenue growth from all three major segments including construction, mining and services. Higher than anticipated net interest charge was only a partial offset. Net finance costs increased mainly due to a reduction in interest from shareholder loans to BIC Contracting and an increase in the general level of bonding to support growth.

NPAT guidance for 2019 is set at AUD 790-840 million subject to market conditions, which would equate to an increase of between 1.2% and 7.6%. Our forecast is unchanged at a guidance high-end AUD 840 million or AUD 2.59 per share. Cimic has announced a number of large contract wins. These have been coming at a combined average magnitude of approximately AUD 600 million per week, triple a five-year historical average nearer AUD 200 million. An increase was anticipated and necessary in support of our revenue growth assumptions, but the pace we think supports guidance high-end growth. Our 2020 EPS forecast is AUD 2.72.

Our fair value estimate equates to a 2023 EV/EBITDA multiple of 6.6. We assume five-year revenue CAGR of 3.4% to AUD 17.4 billion by 2023 versus 2018’s AUD 14.7 billion. Cimic shares are just over 10% below September AUD 51.60 highs, but remain overvalued. We estimate the AUD 45.90 share price has the market anticipating a too-high 8% five-year EBITDA CAGR to AUD 2.5 billion by 2023. This when we expect we are nearer the peak than the trough in major transport infrastructure spending in Australia, from a low of around AUD 6.0 billion in 2016 and an estimated AUD 13 billion in 2018. We still see little reason to become more bullish in our more tempered outlook which forecasts a plateau from peak spending rates.

The full-year DPS of AUD 1.56 increased by 16% and equates to a moderate fully franked 3.4% yield at the current AUD 45.90 share price. We project DPS to increase at a five-year CAGR of 2.8% to AUD 1.79 by 2023. That would equate to a nominal yield of 3.9% at the current share price, but just 2.5% in real terms and less compelling.

We remind readers that between 2015 and 2018, when major transport infrastructure spending increased at a 30% CAGR to AUD 13 billion from AUD 6 billion, Cimic’s construction revenue fell to AUD 8.0 billion from AUD 9.3 billion, and group revenue overall grew at just 3.4% CAGR to AUD 14.7 billion from AUD 13.3 billion. Cimic is composed of many more parts than just transport infrastructure and it is a mistake to assume direct correlation. Mining, for example, comprises 27% of group revenue where we anticipate a flat outlook, in line with our commodity price expectations. And services, where we do anticipate stronger 5.5% five-year revenue CAGR, comprises just 18% of group revenue and comes at much lower 7.5% EBITDA margins versus mining and construction’s far healthier 20% and 9.5%, respectively.

We could be quite wrong in our transport infrastructure outlook for Cimic without it being materially detrimental to our outlook for the group overall. Group work-in-hand was little changed on 2017, up just 2% to AUD 36.7 billion at end December 2018. As a function of revenue, this represents a modest decline to 2.5 years from 2.7 years. Revenue in 2018 grew by 9% to AUD 14.7 billion and EBITDA grew by 12% to AUD 1.7 billion. EBITDA margin improved to 11.6% from 11.3%, with higher construction margins partially offset by lower mining and services margins.

Net operating cash flow in 2018 was very strong, up 25% to AUD 1.7 billion. This was a little flattered by favourable working capital movement, but cash conversion was nonetheless impressive, allowing net cash to build to a better than anticipated AUD 1.6 billion. This healthy net cash position is a key appeal of Cimic, and appropriate for a company operating in a space where contracts can quickly turn against operators. Cimic’s gross debt position of AUD 523 million excluding operating leases is the lowest since 2007.