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Breedon Aggregates, Michelmersh and Marshalls pave the way to growth

The construction sector is expected to grow at a decent clip this year even after March’s pre-election wobble. It expanded by 7.2% last year, driven on by demand for new houses, and analysts are predicting growth will around 5% in 2015 with the commercial sector taking centre stage. Here we look at three stocks that may benefit from that upswing.

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The construction sector is expected to grow at a decent clip this year even after March’s pre-election wobble.

It expanded by 7.2% last year, driven on by demand for new houses, and analysts are predicting growth will around 5% in 2015 with the commercial sector taking centre stage.

Multi-billion pound government infrastructure projects such as Crossrail in London and the new Forth road bridge in Scotland will also to lend support.

Picking the beneficiaries of these benign conditions is difficult. There is an argument, though it’s not universally accepted, that house building stocks may now be ‘over-bought’ given the slowing of activity in the sector.

The progress of shares in Taylor Wimpey (LON:TW.) - up 33% in the last year -  Barratt Developments (LON:BDEV) - up 29% - and Bellway (LON:BWY) - up 18% - lends support to this point. 

Infrastructure companies such as Balfour Beatty (LON:BBY), Costain (LON:COST) and Morgan Sindall (LON:MGNS) should benefit from committed and future government spending programmes such as the upgrades to the motorways and HS2 if it ever arrives.

But, as Balfour demonstrated last month, they also have the potential for self-harm. Investors weren’t impressed when it posted a thumping £304m loss and cancelled the dividend.

The upsurge in construction is definitely benefiting the suppliers of the heavy materials; the brick makers and the firms that provide concrete and aggregates. 

However most of the once great, British suppliers are now in foreign hands. 

Hanson’s operations are owned by Germany’s Heidelberg Cement and Tarmac is moving from French to Irish hands.

Close scrutiny reveals that true home-grown quoted suppliers to the construction industry are few and far between.

However three smaller players stand out - Michelmersh Brick (LON:MBH) , paving stones firm Marshalls (LON:MSLH) and Breedon Aggregates (LON:BREE).

All look on basic valuations metrics to be fairly priced. 

However the trio are operating in markets where competition is abating, so prices are rising along with trading volumes. 

Marshalls and Breedon have the added dimension of being able augment organic growth with well-chosen acquisitions.

Kicking off with Michelmersh; its top quality bricks were used in the St Pancras station refurb and the shop front of Jimmy Choo’s posh shoe emporium in London.

It is benefiting from brick stocks being at their lowest level since the war.

This also allowed it to push through prices rises for the first time in seven years in 2014. Analysts at Cenkos reckon it will repeat the feat this year.

On the face of it the shares look fully valued at 22 times forward earnings. That said, Michelmersh is sitting on investment land worth around £21mln, or 26p a share.

Stripping this out brings the price to earnings multiple down to a much more reasonable 13 times.

Marshalls and Breedon are both in the position of being consolidators of their particular niche of the market, according to the broker Jefferies.

This buy and build strategy relies on management stripping out unnecessary costs and running the bought businesses more effectively.

Jefferies reckons Marshalls has around £150m to spend, while Breedon is on record as saying it has £30-£40m to spend. However the latter could tap the market to fund a bigger deal.

Breedon under boss Simon Vivian has bought very effectively, making eight acquisitions in the last four years.

Those who have followed the story will know that the base Breedon business was bought out of administration for a pound in 2010 with debts of around £160mln.

This was an operation that over-geared and was hit by the economic downturn that followed the financial crisis.

The prelims revealed Breedon generated revenues of almost £270mln from quarrying and shipping aggregates, asphalt and concrete to construction sites throughout the UK. And a total of £38.5mln of that was converted to earnings before interest, tax, depreciation and amortisation (EBITDA).

This represents a doubling in top line growth since 2010 and a near three-fold increase in EBITDA.

The City broker Peel Hunt is predicting EBITDA will grow by 18% to £44.8mln this year and then to £51.2mln.

The outlook for Marshalls is fairly bullish too with EBITDA set to grow to £46.7m this year from £38.5m and then to £58.1m.

Using basic valuation metrics, shares in both companies look expensive – Marshalls trades at 20 times forecast earnings, while Breedon’s P/E is 22.

That said, profit growth will be more rapid than predicted if and when these companies find the right deals – so by extension these toppy multiples should fall to more normal levels.

In the case of Breedon its 43 quarries backstop the investment. They contain around 70 years of reserves and are likely to grow in value simply because Britain just isn’t giving planning permission for new sites. 

And as Peel Hunt analyst Clyde Lewis points told investors recently: “The outlook for the UK heavy-side building market is good, because of increased infrastructure spending plans.

“This, combined with further market share gains and a flow of acquisitions, will see Breedon continue to grow faster than its peers.”


Quick facts: Breedon Group

Price: 69.3 GBX

AIM:BREE
Market: AIM
Market Cap: £1.17 billion
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