GBP 54 Billion In Secured Contracts Will Ensure Future Stability

Key Takeaways

• A robust secured work pipeline indicates a stable, long-term revenue stream, bolstering confidence in growth and profitability.
  
• Strategic focus on expanding markets and key contracts in various sectors drives anticipated revenue and profit increases by 2027.
  
• Costain's reliance on infrastructure projects and need for ongoing investment pose risks to revenue, earnings, and shareholder returns amid potential regulatory and economic challenges.

Catalysts

Provides smart infrastructure solutions for the transportation, energy, water, and defense markets in the United Kingdom.

• Costain Group has secured a record increase in its forward work position, totaling £5.4 billion, which is expected to represent over 4 years’ worth of revenue. This secured pipeline suggests a stable future revenue stream, providing confidence in sustained growth and profitability.
  
• A substantial future step change in revenues and operating profits is anticipated by 2027, driven by key contracts in transport (including HS2), water, energy, and defense sectors. This positions the company for significant revenue and operational profit expansion.
  
• The pension scheme's actuarial surplus allows Costain to pause contributions and consider options such as dividend increases or share buybacks, potentially enhancing earnings per share (EPS) and shareholder returns.
  
• The company’s strategic focus on growing markets and broadening its customer and service base underscores its commitment to revenue diversification and margin growth, fostering overall earnings enhancement.
  
• Costain's transportation division is expected to see increased revenue from projects like the National Grid upgrade and Sizewell C, although infrastructure project revenues typically lag due to extended design phases, emphasizing future revenue growth through the 2027 horizon.

Costain Group Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Costain Group's revenue will grow by 4.0% annually over the next 3 years.
• Analysts assume that profit margins will increase from 2.4% today to 3.2% in 3 years time.
• Analysts expect earnings to reach £44.8 million (and earnings per share of £0.17) by about April 2028, up from £30.6 million today. However, there is some disagreement amongst the analysts with the more bullish ones expecting earnings as high as £49.8 million.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 10.1x on those 2028 earnings, up from 9.4x today. This future PE is lower than the current PE for the GB Construction industry at 11.7x.
• Analysts expect the number of shares outstanding to decline by 1.62% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.68%, as per the Simply Wall St company report.

Costain Group Future Earnings Per Share Growth

Risks

• The company's heavy reliance on transportation infrastructure projects, such as HS2 and future highway schemes, may pose a risk if any project delays or changes in governmental investment priorities occur, impacting Costain's future revenue projections.
  
• The balance between contracted work and preferred bidder status implies uncertainties in translating the £2.5 billion preferred bidder pipeline into definite revenue, potentially affecting future earnings and net margins.
  
• The company's growth assumptions are closely linked to the anticipated expansion in markets like water and energy sectors, which may face potential regulatory or economic headwinds, influencing the expected revenue and earnings trajectory.
  
• Costain's need for ongoing investment in systems (e.g., CapEx for new systems) in the coming years could strain cash flow, possibly affecting net margins if not properly managed.
  
• The pension fund's position, while improving, calls for regular assessments to determine if surplus cash can be utilized as dividends or buybacks, potentially limiting available cash flow if obligations change, thus impacting shareholder returns.

Valuation

• The analysts have a consensus price target of £1.42 for Costain Group based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of £1.87, and the most bearish reporting a price target of just £1.15.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be £1.4 billion, earnings will come to £44.8 million, and it would be trading on a PE ratio of 10.1x, assuming you use a discount rate of 7.7%.
• Given the current share price of £1.07, the analyst price target of £1.42 is 24.8% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.