When the half year results for contractor and engineering group CIMIC (the old Leighton Holdings) were slipped out on Tuesday night, well after trading had closed, they looked odd – a small rise in profit on a 30% plus plunge in revenue.
The company looked, from the way the results were released, as if it knew investors would not be happy, and so it was yesterday with the shares plunging more than 19% to $26.96 at the close after being down more than 22% at one stage.
It was an extreme reaction to the half year results which, from the report on Tuesday night, looked light on.
Cimic reported a 3.1% rise in net profit for the first-half despite a 31% fall in revenues.
The company said net profit after tax climbed to $265.2 million in the six months to June 30, with earnings per share rising 5% to 79.8 cents.
The increase came as after-tax profit margins jumped 5.4%, despite that sharp drop in revenue to $4.95 billon.
Crucial to the profit rise was the integration of smaller contractor Sedgman into the business.
Cimic completed a purchase of its smaller rival on April 13, with full control coming after it held a 37% stake in Sedgman at the end of the prior half.
CIMIC said full control of Sedgman contributed $157.1 million to its sales, with a $4 million boost recorded to profit since the acquisition was sealed.
That increase represents half the after-tax profit rise recorded for the half, which failed to impress analysts. As a result, a number of analysts downgraded the company, which is only of marginal interest to the market these days with more than 71% controlled by Hochtief, the German engineering contractor in turn controlled by Spanish construction giant Grupo ACS.
Analysts just didn’t like the quality of the result
Morgan Stanley analysts highlighted what it called “the disconnect” between reported profit and cash flow, and said they “remained cautious” with their underweight rating.
The report to the ASX reveals that Cimic said it had “operating cash flow generation of almost $1.2 billion in the 12 months to 30 June, 2016” and “Free operating cash flow of nearly $830 million in the 12 months to 30th June 2016".
But the report to the ASX was for the six months to June 30, so the figures are not comparable at all.
Deutsche Bank analysts called it "a weak result" and downgraded the stock to sell: "We consider it a low quality result as reported earnings were boosted by a revaluation gain when Cimic acquired the remaining Sedgman shares it did not already own".
Macquarie analysts lowered their rating to "underperform", and also noted that the quality of the profits "disappointed". While they said they “like CIM’s margin improvement and positive leverage to the infrastructure theme”, they pointed out that "an improving cash performance that has been a feature of recent results is noticeably absentf from 1H16".
Cimic sharply revalued the carrying value of the 37% in Sedgman it held prior to the takeover to account for a higher valuation for the group. This reconciliation added $46.6 million to its pre-tax profit of $350.7 million.
That still left pre-tax profit lower than the pre-tax profit in the prior corresponding period which was $363.6 million.
Based on the 30.25% tax rate it recorded for the period, the change to its Sedgman valuation may have added around $32.5 million to after-tax earnings.
And if you ignore the Sedgman contribution, Cimic’s earnings could have been around 9% lower than reported.
But Cimic chief executive Marcelino Fernandez Verdes defended the result in Tuesday night’s release, saying,“The quality of Cimic’s result further improved during the period, reflecting the ongoing benefits of our transformation strategy”.
“Through improvements in project delivery and risk management we steadily increased margins. In the second quarter, our revenue returned to growth showing a positive emerging trend that we expect will continue,” he said in the release.
The firm retained its guidance for full-year net profit after tax of $520-$580 million.
Cimic also took a $7 million impairment cut to the carrying value of its 59% stake in small Brisbane-based property developer Devine Ltd.
Cimic will pay a fully franked interim dividend of 48c per share, up 4.3% on the first half payout for 2015 (71% will flow to Hochtief).