Builders on shaky foundations

The Investment Column

The gloom from the construction industry has been relentless this year but comments from Wimpey yesterday were more depressing than anything investors have had to bear so far.

Job cuts, which have been more or less continuous for five years, are set to restart, the company is, in effect, pulling out of its core contracting business and housing is under the cosh and likely to remain so.

Little wonder then that the shares, despite falling from a high of 232p at the beginning of last year, shed another 2p yesterday to 104p. They are only a little higher than in the depths of the recession in 1992, when interest rates were sky-high and the market was discounting everything but Armageddon.

Turning pounds 738m of sales into just pounds 1m of profit for the six months to June is quite an achievement, even given Wimpey's second-half bias. Even more so, reversing last year's 1.4p earnings per share into a loss per share of 0.1p. The maintained dividend of 2p will exacerbate a jump in gearing from 5 per cent to 38 per cent.

The admission from Joe Dwyer, chief executive, that the traditional method of tendering for construction contracts on the basis of price was unsustainable is admirably frank but worrying nonetheless.

Unless a handful of large players fall out of the market altogether - which is just not going to happen - a decent return will remain elusive.

Contracting has always been a low- margin business, but in the past it has made up for that with good cash flow as big players such as Wimpey took up-front payments and systematically dragged their feet over paying their subcontractors. That is no longer the case, and some of the fundamental reasons for being in the business don't exist any more.

The danger is that others will follow suit and shift their attention to design and build projects, negotiated work and partnerships, driving margins down there as well. But having squeezed profits of just pounds 600,000 out of contracting sales of pounds 330m, the company is right to at least try something different.

Mr Dwyer's faith in a housing recovery next year is touching but probably based more on wishful thinking than reality. With July and August sales lower than last year, the division is more dependent than ever on a strong autumn selling season.

Again, it is hard to see much relief on that front and forecast completions of about 7,500 are as much as can be expected.

The only bright spot came from Wimpey's minerals arm, which transformed last year's break-even into a pounds 6m profit on sales of pounds 154m. Here the challenge is to replicate the UK operation in the US, where the return on assets is much thinner.

On the basis of forecast profits of pounds 36m this year and pounds 48m in 1996, the shares trade on a prospective price-earnings ratio of 17, falling to 12.

That is hardly tempting given the considerable risks involved and that the only prop to the shares is a gross yield of 6.7 per cent, assuming the barely covered 5.5p dividend is maintained. Unexciting.