Is battered Balfour Beatty a bargain?

It was another bad day at the building site for Balfour Beatty. The construction firm brought forward a scheduled trading update by a week to issue a fourth profits warning in less than two years. Its share price quickly plunged below 200p for the first time since the dark days of 2008, and a number of problems urgently need solving.

The worsening performance of Balfour's mechanical and electrical (M&E) engineering services business is of concern. It's behind the latest warning of a £35 million profits shortfall this year, which comes just months after the appointment of new management there; a case of "kitchen-sinking" it, perhaps? Balfour blamed contractual disputes, project delays, design changes and project re-work, mainly in London. A "slow market" has hit new orders, too, which accounts for £5 million of the hit to the bottom line.

Analysts at Jefferies are certainly nervous. "There is no guarantee that there will not be a fifth," they said on the topic of Balfour's apparent penchant for profit warnings.

In reaction, Balfour's top brass has decided to scale back the division to focus engineering services in central London only on jobs with group companies where it can influence design and add value to customers.

Thankfully, business elsewhere is steady, and that £35 million hole will likely be filled by gains on PPP disposals over the next few months. That should keep Balfour on track to make a pre-tax profit of between £145 million and £160 million this year. Its order book at the end of June was pretty stable, too, at £12.9 billion.

The company maintains that it is on a 12-18 month programme to return the construction business to a "firm footing". But there have already been casualties. In May, a profits warning cost chief executive Andrew McNaughton his job, and trying to fix the division without a CEO is no easy feat.

Of course, it hasn't always been like this, and Balfour's US construction is doing well. That said, improvements in Dubai are being offset by weakness in the M&E market there. And it will take some time for long-term projects in Hong Kong to boost profits.

"The PFI portfolio can underwrite several more profit warnings and the board appears to us to be seriously working at structural repair of Balfour Beatty rather than just papering over the cracks," says Jefferies. "But significant uncertainty remains."

It certainly does. Yes, management is working through its problems, and there's an attractive forward dividend yield, too. But profits are under pressure, and we'll be waiting for evidence that action taken is working before getting too excited.

Investor view

Some users on the Interactive Investor discussion board blamed Balfour's management and board members for the disappointing update.

'Stutes' said: "Surely shareholders need to know that there are no more skeletons/surprises and that means a new structure where better/independent spot checks are carried out on major contracts and business units. You also have to question if too much power has been delegated to the business unit without the right checks in place to protect shareholders?

"If the Board/management can't protect shareholders then it’s time to change them for people who deliver consistent profits. Yes mistakes are made but too many surprises and you start questioning the overall credibility of the board to run the business. Time for a root and branch clear out with new/better controls," the user added.

Another user agreed: "No surprise to market reaction. Dividend cut very likely now, with no end in sight to bad news and profit warnings, which have been dogging Balfour for nearly three years now.

Other major construction companies have been reporting improvements in earnings. So clearly Balfour have serious management issues which are not going to disappear until radical management overhaul takes place. So far only chief executive has gone last May and no replacement so far."

However, 'wind machine' wondered whether today's update justified the share price fall of 12% earlier in the day. The user later added: "My point is that bad news of this kind sometimes gives rise to an overreaction in respect of the share price. I note that since I originally posted, the share price has picked up somewhat and is currently down "only" 6%. Those that bought at or near the day's lows have done well and deservedly so."