Persimmon, one of the country’s largest house builders, has seen house sales level off after their recent slump. Could the worst be over for this battered sector?
In early July most of the major house builders issued dire trading updates. This seemed to mark a low point for their shares though and many have seen their share prices increase by a third since then. Those which had fallen furthest in the preceding twelve months, Taylor Wimpey (LSE: TW) and Barratt Developments (LSE: BDEV), have put in the best recovery with their shares up 60% and 200% respectively.
Today saw the first set of full results for the sector with figures from Persimmon (LSE: PSN). Taylor Wimpey and Bovis (LSE: BVS) report next week while Redrow (LSE: RDW), Barratt and Berkeley (LSE: BKG) follow in mid-September.
Has trading worsened?
Although it’s only been a few weeks since those trading updates, the question most investors were asking is have things got any worse?
As far as Persimmon is concerned the answer is no. Its sales volumes have flattened out and it says visitor levels are reasonable and cancellation rates have fallen from their recent high of 40% to 33%. The dithering over stamp duty has had an effect but it appears to have eased. Still, Persimmon says it is applying extreme caution to all its business decisions and is no mood to make any predictions for 2009 until it sees how this autumn’s selling season progresses.
As for its results, they were as grim as expected. Sales were down by 34% to £1bn and operating profits before exceptional costs were down by 56% to £140m as margins contracted due to a combination of lower selling prices and a near doubling of marketing costs (i.e. sales incentives).
After exceptional costs of £64m and interest of £39m, earnings per share fell from 65.5p to just 8.8p. The interim dividend was slashed by 73%, far more than expected, to 5p.
Land write downs – more to come?
The exceptional costs included the restructuring of the business with 1,100 jobs lost and a £40m write-down in the value of its £2.5bn land bank. That write-down was based on sales price falls of 5% so far this year and 5% over the next six months.
At the start of July, Persimmon said it didn’t expect to make any significant write-downs and this has proved to be the case although many analysts expect this will the first of a number of write-downs if property values continue to fall. The company owns or controls 76,000 plots at the moment, equivalent to seven years’ of sales at current volumes.
In common with most other house builders, it’s running down its land bank in reaction to lower sales volumes. After spending £840m on land in 2007, this year’s spending is expected to be £440m with the two following years dropping to £200m and then £100m. Still, a lot of its land bank is relatively recent, with 62% bought since 2005 and a further 18% of controlled plots where the values are yet to be agreed.
Debt on the way down
The slowdown in sales has seen Persimmon’s debt rise to £900m although it expects to generate free cash flow of £200m in the second half of this year to help pay this off. £280m of this debt comes from a £800m revolving facility that is due for renewal in November 2010. The remainder is loan notes, with an average of £100m per year due to be paid off over the next three years and the remainder after 2012. Provided the cash does come through as predicted in the next six months, these debt levels look manageable.
Finally, we come to valuation. At 300p per share this business is valued at £900m. If trading does indeed remain stable and there are no more exceptional costs, then this business should generate profits before tax of around £200m per annum, which translates into a price earnings ratio of between six and seven times.
The dividend yield is more difficult to gauge but a repeat of last year’s ratio between the interim and final payments suggests a full-year payout of around 14p for forecast yield of 4.6%. On this basis of these two ratios, Persimmon is cheap but not screamingly so.
If the downturn in the housing market is more prolonged, then it’s a different story. With so much land bought in the last few years, write downs could turn out to be substantial and it could be some time before profits recover.
It’s a tough one to call. Persimmon remains one of the best ways to play this battered sector but it will be rough ride and suit only the bravest of investors.
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