EUR 850.00 For Business Accounts Only

Morningstar | CSR's Balance Sheet Impeccable as Downturn in Australian Residential Construction Accelerates

While lost market share in roofing product categories and softer-than-expected aluminium earnings saw no-moat CSR’s fiscal 2019 full-year earnings come in below our forecast, we’re unsurprised by the direction as earnings come off a cyclical high. Net income of AUD 178 million, inclusive of the discontinued Viridian Glass operations, was around 7% short of our forecasts. Australian residential construction activity continues to cool in 2019. The recent pace of decline in housing starts has been headier than we’d anticipated, and we’ve adjusted our near-term housing start forecasts accordingly. But with our midcycle housing start expectations largely unaffected, CSR’s valuation is unaffected as well. We’ve upgraded our earnings forecasts for the aluminium segment, and this sees our fair value estimate increase 6% to AUD 3.50 per share. CSR shares continue to screen as fairly valued, trading circa 4% below our revised fair value estimate.

Building products EBIT of AUD 207 million was short of our AUD 215 million forecast. While price gains were strong, lost market share saw EBIT margins contract to 12.2% in fiscal 2019 from cyclical highs of 12.8% a year ago. With near-term housing starts now anticipated to contract more than we’d originally expected, we now expect segment revenue to fall 4.6% in fiscal 2020, down from our prior expectation for a 1% fall. We continue to expect segment EBIT margins to fall to 10% at midcycle in fiscal 2024.

The step-up in electricity costs for CSR’s aluminium segment in fiscal 2019 was greater than we’d anticipated. Accordingly, segment EBIT of AUD 37 million was below our forecast of AUD 51 million. However, expectations of new electricity supply from renewables has caused electricity forward price weakness in recent months. With expected prices easing, we now forecast aluminium EBIT margins of 4.7% in fiscal 2024, up from a prior forecast of approximately break-even.

The recent flattening of the electricity forward curve has led to the upgrade of aluminium earnings. We now anticipate wholesale electricity prices of AUD 79 per megawatt-hour in fiscal 2024, down from our prior expectation of AUD 85 per megawatt-hour.

While we’d anticipated housing starts to fall in fiscal 20119, the recent contraction in construction activity has outpaced our expectations. The decline in housing starts accelerated in the December 2018 quarter. Detached housing starts fell 8% sequentially, while multifamily fell 27% on a sequential basis. These compare unfavourably with the September 2018 quarter, when housing starts fell 4% sequentially for both detached and multifamily dwellings. We now expect approximately 106,000 detached housing starts in CSR’s fiscal 2020, an approximate 6% decline. We’d previously expected a 2% decline in CSR’s fiscal 2020. While CSR is less exposed to multifamily starts, we’ve also downgraded our multifamily starts forecast and expect an 18% decline in CSR’s fiscal 2020. But with 187,000 starts expected at midcycle in fiscal 2024, the near-term recession in building activity has an immaterial impact on CSR’s valuation.

CSR’s balance sheet is pristine with a net cash position of AUD 50 million at year-end following the divestment of Viridian Glass and property sales. With the Australian residential construction cycle now turning, CSR is ideally positioned to weather the downturn but also to also take advantage of acquisition opportunities that may present themselves as the cycle turns. Further, the return of surplus cash to shareholders continues under the current AUD 100 million share-buyback program. We continue to see capacity for a further AUD 150 million in share buybacks in fiscal 2020 and onward. The return of surplus cash to shareholders should see gearing approach 1 times net debt/EBITDA at midcycle in fiscal 2024, still well below 2 times net debt/EBITDA, where CSR feels comfortable on a through-the-cycle basis.