Lend Lease Shapes Up For Earnings Spurt

This story features LENDLEASE GROUP. For more info SHARE ANALYSIS: LLC

-2016 significant for profits
-Focus on FY16 cash flow
-Potential infrastructure wins
-Re-rating likely
 

By Eva Brocklehurst

Lend Lease ((LLC)) is shaping up for a major earnings spurt in 2016, with the first two commercial towers at Barangaroo in Sydney due for completion and the first two apartment buildings ready for settlement late in 2015. The recent fire at Barangaroo has been covered in construction contingencies and the company is in the process of  resetting construction timetables to account for this. Lend Lease is in advanced discussions with pre-commitment tenants for the third commercial tower.

Lend Lease has operations globally but the major spokes in the earnings growth wheel for the next couple of years are coming from closer to home, this being a recovery in Australian infrastructure spending along with Sydney's large waterfront redevelopments. Australia generated 67% of earnings in FY13.

Lend Lease does not have a target start for the third commercial tower but Deutsche Bank Bank assumes late this year, or early next year, would be best in terms of sequencing and workforce deployment. Macquarie, too, expects it to happen in late 2014 and also expects Lend Lease will sell down its interest once the pre-committed space exceeds 50% of net lettable area. Lend Lease expects to start construction on the first stages of the Darling Harbour redevelopment later this year as well.

Outside of these major developments, Lend Lease has a good position in the infrastructure area with Macquarie welcoming the company's observation that business is as good as it's been in this division in the last 10 years. The key items are roads, tunnels and bridges. The broker believes FY16 will be particularly strong, underpinned by pre-sold residential projects. A further positive announcement coincided with the tour of the Sydney developments. The UK Financial Conduct Authority has agreed to a move from Canary Wharf to become the anchor tenant for the Stratford development next to London's Olympic Park.

Citi is expecting strong earnings growth over the next three years, with multiple streams from Lend Lease's urban renewal projects. Darling Harbour's redevelopment emphasises the company's leadership and dominance of public private partnerships (PPP). The broker highlights the fact Lend Lease is bidding on a large number of infrastructure projects and thinks the company may also be a beneficiary of organisational changes at Leighton Holdings ((LEI)). Citi expects further share price gains, underpinned by the sale of Bluewater, UK, the selling down of development projects and infrastructure awards.

Darling Harbour's mixed use redevelopment is showcasing Lend Lease's ability in this area, according to JP Morgan. The broker thinks this project will be quick to generate profits, with work largely complete in 2016. Progress is also being made on other major mixed-use developments such as Showground Hill in Queensland and the Stratford/Elephant & Castle development in the UK. Improving conditions in Australian residential building, particularly in NSW and Western Australia, should also underpin the company's earnings.

It's looking good in CIMB's opinion. The projects are quality and, while the company generates profits from a multi-faceted business, the major project development pipeline is an important part of near and medium term earnings. The sale of Bluewater is likely to take place in FY15, and CIMB thinks this will be an important catalyst, bringing a significant amount of cash to the business at a time when it is needed. The inflow of around $1bn from that project should focus investor attention on the use of the funds and FY16 earnings will be in the spotlight. CIMB thinks the share price will re-rate further, as there is significant profitability over FY14-16 which will be released on completions in FY16.

BA-Merrill Lynch also observes the PPP focus is moving to large scale transportation from the social (hospitals) infrastructure projects. Lend Lease has an integrated model which is an advantage when Australian governments are looking to ramp up infrastructure development but at the same time are increasingly fiscally constrained. Merrills is a little more circumspect than the other brokers, noting that operating metrics for the construction business are under pressure and margins slipped in the first half. With the slowing of the resources sector in Australia the broker expects the continued transfer of capacity by competitors to the infrastructure space and this could result in further margin pressure.

Merrills is confident the company can deliver the development earnings from FY15, and there will be a pick up in operating cash flow, but the challenges faced by construction and the cash drag because of development capex could cast a shadow on a sunny outlook. Merrills considers the share price may now be capped around current levels until investors gain greater clarity about the FY14-15 outlook. The broker retains a Neutral rating, one of two on the FNArena database. The other is UBS. Aside from these two there are six Buy ratings. The consensus target is $12.60, suggesting 1.5% upside to the last share price. This compares with $12.51 ahead of the company's presentation/tour. Targets range from $11.58 to $13.35.
 

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