Unspectacular Q3 16 results: Flat revenue but improved...

Eastern European and North American brick and roofing markets with solid volume growth. Some headwinds from FX (c.€ 10-15m in 2016 mainly from weak GBP), weaker western European markets and underperforming renovation markets. - The Pipes and Pavers business remains under pressure due to delays in the award of public-sector projects in eastern Europe and a lower number of orders in the international project business. But a bottoming-out is possible, management said. - Net leverage (Oddo Adj.) remained flat at 3.2x at end-September 2016. Interest coverage improved to 5.1x (YE 15: 4.5x). Liquidity remains sound with cash on hand of € 120.3m and undrawn credit lines worth € 257m. - We upgrade our credit opinion to ‘BB’ / Stable in line with Moody’s due to our assessment of Wienerberger AG (Wienerberger) as more of a “significant” business and financial risk under S&P’s methodology. Our shadow rating for the company’s hybrids, for which we do not assume any equity credit, is ‘B’ – three notches below the unsecured rating. - Recommendation for 2020 straight bond changes: Neutral (no change) for the 2018 straight bond, but reduce (previously neutral) on the 2020 straight bond and reduce (no change) on the hybrids issued in 2007 (callable in 2017) and 2014 (callable in 2021). The hybrid issued in 2007 is unattractive for two reasons: i) Never say never, but we deem a call uncertain in 2017 as the interest burden will decline to 3M EURIBOR plus 325bp, which is inexpensive for Wienerberger. But this makes this subordinated instrument unattractive at a ‘B‘ shadow rating (Appendix 2 shows hybrid instruments with higher returns and stronger ratings). ii) But if called, we note that the ask redemption price of 100 is below the current market price of 101.2. The hybrid issued in 2014 is unattractive in light of better alternatives in this rating range. - >Support factors - Strong market positions in the brick (global no. 1) and roof tile markets (European no. 1).Solid net leverage of 3.2x at end-Q3 16 (1.5x based on Wienerberger’s calculation).Ability to generate FCF in difficult market environment and despite low plant utilisation.Upside potential: The company believes it can achieve an EBITDA margin of ~20% in the bricks business (c.13%) if its capacity utilisation rate improves to ~85% (now: c.70%).According to Wienerberger, capex will stay significantly below depreciation as it has enough idle capacity to meet any rise in demand. Thus, a potential volume recovery offers significant cash flow leverage.New construction remains mixed in Europe; still more solid in the US...Points to watch - ...although softening US housing starts have been a bit concerning recently.Potential negative impact from Brexit on brick and roof tile volumes in the UK in 2017.The bricks and roofing businesses are exposed to cyclical residential construction.The pipes & pavers business is exposed to government infrastructure spending. Lower infrastructure expenditure has weighed on this business the past few years.