Costain Group PLC (COST) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the Costain Group PLC interim results Q&A session. [Operator Instructions]. The company may not be in a position to answer every question received during the meeting itself. However, the company can review all questions post today's meeting and will publish those responses where it's appropriate to do so. Before we begin, we'd like to submit the following poll. And if you give that your kind attention, I'm sure the company would be most grateful. And I'd now like to hand over to Director of Investor Relations, Paul Sharma. Good morning.

Thank you, Mark. Welcome, everybody, to the Costain call, our first investor meeting call. So it's really nice to have Mark and the team do want to work for us. Just to say that our results were published yesterday. If you go to our website, which is www.costain.com/investors, you can see the statement we made at the city yesterday at 7. You can all see the presentation, and there's also a link to the analyst presentation, which is now long, so if you want to watch this and view the full presentation there, you can do that as well. Before I hand over to our CEO, Alex Vaughan; and CFO, Helen Willis, I'd like to draw your attention to a couple of things. On Slide 3 here, this is the safe harbor statement. So please have a look at this. It's also on Page 22 of the statement yesterday and on Page 35 on the slides as well. So I just want you to have a look at that. So I'd like now to pass over to Alex Vaughan, our CEO, for some introductory comments. Thank you.

Thanks very much, Paul, and good morning, everyone. Thanks for taking the time to join us this morning. I'm just going to give you a very brief sort of set of key highlights from the results announcement we made yesterday, just so that we can maximize the time for your questions. So we were very pleased as a company to be able to report a strong set of results, which demonstrates the strength and resilience of the business that we have, and we're definitely on the road to where we want to be. We're all about delivering those strong results. So we've delivered a growth in the adjusted profit, up 7%, which is exactly in line with expectations, and the net cash has increased to GBP 132.1 million, and positively also, the operating margin increased to 2.3%. And we're on track to deliver against every one of our milestones for the full year in terms of profit, cash and margins. I think one of the important factors that's happened since the full year results last year is we've taken some strong actions to continue to strengthen the business, especially around cash within the business with significantly reduced contributions to the legacy defined benefit scheme and securing strong surety and banking facilities for a further 3 years. So all of that just continues to strengthen the business. Performance across the business has been good. So Transportation has been resilient and stable. We are dealing with some short-term headwinds with Department of Transport spending, which has been very public. But we're managing those and delivering our contracts across roads, rail and integrated transport, delivering those well. And then in Natural Resources, performance has been good, and we've got real growth tailwinds behind us in that area as we see strong investment in water, energy, defense and nuclear. So in summary, we've got a very positive outlook across all of our markets, whilst recognizing the short-term constraints of some of the government funding over the next 18 months. We've got a really good quality, low-risk secured volume of work, about GBP 2.5 billion of secured work and a further GBP 1.5 billion of preferred bidder work. So that GBP 4 billion worth of work really gives good visibility for the business together with a number of frameworks that we've got that we value at 0. And at the moment, the highest level of bidding that we've seen for a very long time gives us really strong confidence moving forward. So I think my closing message would be that the more diversified customer mix that we've got, the broader service offering that we're giving. The market outlook and the strength of our balance sheet is giving us real confidence. And the Board is currently reviewing putting in place an interim dividend payment, and we'll update the market shortly on that. So with that, I'll hand over to you, Helen, just for a few highlights.

Thanks, Alex. Good morning, everybody. It's great to have this opportunity to connect more directly with our investors. So just to build on a couple of things that Alex has said, strong cash generation is a real feature for the business now. And you'll see that we've generated GBP 26 million in the first half of this year, and that comes off the back of really strong cash generation in 2022 as well. So real focus for us on that, making sure we are managing the working capital very tightly and building that cash balance. Just a little bit more color on the refinancing that we did and Alex has just mentioned. So we worked with our banking group and our sureties to refinance, with a new arrangement taking us through the next 3 years. We were able to bring in a new bank into our banking group. So NatWest have joined us. So really nice to have a strong High Street U.K. bank coming into the group. And I think that's another marker of confidence. So really pleased with the outcome there. You'll see that the facility level has come down. But again, that's a sign of confidence. We didn't use our RCF, our revolving credit facility, last year or the first half of this year. It's there to essentially give us a buffer. But the reduction in that level is a positive thing for us and reduces our financing expenses. So again, really positive outcomes there. And lastly, just to build a little bit on the pension valuation. So this is a 3 yearly process to value the defined benefit scheme that the company still is obliged to maintain. And we worked with our trustees on the Board of the pension fund to strike a new 3-year agreement. And we were pleased that the deficit has reduced to such a small level that we were able to agree reduced cash contributions into that scheme. So that was GBP 12 million coming down to GBP 3 million annually. So another good outcome for both the trustees being comfortable with that and for the company to have reduced that cash. So I think really building on the strength of the balance sheet, really focusing in on cash generation and some good outcomes there on the refi and on the pension revaluation process. So with that, I'll hand back to Paul.

Thank you much indeed. So I'll go to the Q&A. I can do this really in chronological order coming in. So first one is, given your level of cash outside cash joint operations, can we expect a dividend this year?

So we've signaled in the statement that the Board is considering, we're assuming, dividends. We recognize that that's really important for investors. We've also signaled that there is currently dividend matching with part of the pension agreement, and that is set to GBP 3 million. So the consideration under at the moment is to resume a dividend that would be equivalent to the pension contributions at around GBP 3 million a year. We're going through a process at the moment to have the right agreements through the company and with our new banking group, and we hope to be able to make a statement very shortly on that.

The next one is, do you expect revenue to be stable in 2023? And what do you expect for '24 and '25?

So for 2023, yes, I'd expect the second half to be similar to the first half as we move into 2024. A little bit early to say, but across the business, Natural Resources continuing to grow, and Transportation, a different view for each of the sectors. A lot of commentary in the press about highway, so road sector, there may be a bit of a slowdown there, but we have really good visibility with rail, with the work that we do with HS2. So [ as steady as it ] goes, I think, will be the answer for 2024.

You're pensively expanding operating margins for '24 and '25. Do you have any expectation of the margins for 2023?

Yes. Look, I think we've got expectations out there in the marketplace for full year margins for '23. So I think we're guiding the market to about 2.9% for the full year, which will be up on the half year. And obviously, we've set out the milestones for getting to 3.5% margin by the end of 2024 and getting up to 4.5% by the end of 2025. And we're on track to deliver against those milestones.

Our next one is, given your level of net cash and EBIT, the shares seem to be cheap. Have you been approached by a buyer?

I agree that the shares do feel cheap, and there is room for improvement in the valuation of our business. And obviously, we're working hard on supporting that. And there's -- there have been no approach.

In terms of the share price, basically asking you what will it take to move the share price up. And secondly, will the Board's [ strict ] management be buying any more shares in the company?

So look, I think we're clear on the measures we've got to do as a business in our hands to get the share price to move up. So one is continued confidence. So we've delivered really strong set of results in the full year last year. We've delivered in line with expectations at the half year this year. So we're building back the confidence that this is a business that does what it says it's going to do, which is good. I think continuing to make the progress against the margin milestones that we've outlined is great. And I think demonstrating to everyone the confidence in the outlook and the market by securing work will be another measure. So those are the things that we're very focused on and delivering against. I think there are some market issues that are outside our control. We're obviously heading into a general election next year. And I think once we get through that, that's also going to give people long-term confidence about the direction and the underpin. I think what I would say about market outlook and the election is that what we're hearing from conversations we're having with both the major parties is that there is an alignment in terms of policy prioritization and investment levels for the markets that we are in. I think the Labour would like to invest more in getting greener quicker. But I think they recognize that funding will be constrained, and therefore, they're probably going to continue at the speed that the current government is going, were they to get in. So lots of actions on our behalf. But I think the results we've issued yesterday for the demonstration of a track record as a business that does what it said it's going to do is an important step in moving the share price up. And in terms of coming to your second question, look, we both own shares. A large part of our remuneration is paid in shares. So we are directly linked to our shareholders' expectations. Personally, I'm a significant shareholder in Costain, and I have bought a significant number of shares during my career. I've been here 32 years. So I'm heavily invested in this business from a shareholding point of view.

Our next question is, how -- this is from [ Tim ]. How is the management pay linked to the share price performance?

Yes. So [ Tim ], we are -- so a significant amount. So we obviously get paid a salary, and then we get paid annual bonus. And about 1/3 of the annual bonus is converted into shares. And obviously, therefore, we're directly linked to holding those shares for a long period of time and those shares increasing in value as the share price goes up. So that's a key point. And then another significant part of our remuneration is a long-term incentive plan, which has targets linked to earnings per share and relative share value growth in the market as well as cash. And so -- and we -- and both of us, again, are expected to hold those shares for a significant period of time. And all of the details are obviously in the annual report. So we are heavily aligned and incentivized to have the share price continue to grow and the future of the business become very strong.

Next 2 questions are probably related revaluation-wise. So how does Costain compare to its peers in terms of valuation?

Well, I think, generally, Costain is sort of valued on a multiple basis, slightly lower than some of our peers. And I think that's an element, as I said earlier, about this continuing confidence in the business. We did disappoint the market, and we recognized that sort of 2019, 2020, and that then sort of had a hangover into '21. So we really only had a full set of clean results in '22, which was great. And again, another half of good results for the first half. So look, I think as we build back the confidence, I think our relative balance sheet strength is good as compared with anyone else in the market. And our order book is at a good level. And I think the markets that we operate in and the financial performance is good. So we're on the road to recovery to being valued where we should be valued, and I think that should give everyone confidence.

This is from [ Michael ], asking strategic investments at technology. Are you looking at doing any M&A in the technology space?

So look, Michael, at the moment, we've got significant opportunities in this business. I'm never going to say never, but we've got significant opportunities in the business at the moment to drive organic growth, and that's where our big focus is. I think you will have seen that we made an announcement that we're actually pivoting our digital activities. We're really focusing on the services element of digital -- of our digital activities because that's an area that we're certainly seeing consistent demand from our customers, and they're buying us, and we're getting a reasonable margin, well, good margin on that. And we're discontinuing the manufacturing and production activities in digital just because demand is inconsistent. It needs a fixed cost base, and it just gives us less flexibility and more risk. So we've decided to discontinue that and focus on the areas where we can drive real growth and margins.

Next one is from [ Martin H. ], asking about the expression in line with Board expectations. I'm saying that's really not just hard to give more detail. And probably this [ very well ] for me actually because -- if that's okay. So [ Martin ], the -- I'll say this with legal -- point at all is it's -- we have quite careful the phraseology we use. In line with Board expectations is not a formal profit forecast, which actually the market and the FCA don't like. So in terms of transparency, I can give you the numbers really. And if we were outside what the analysts that we're expecting, of course, the [indiscernible] the market, no. So in effect, what the market is saying for this year is to expect the adjusted EBIT to be around GBP 39 million, expecting the adjusted EBIT in FY '24 to be about GBP 42 million, GBP 43 million and the year after to be about GBP 47 million. So those are the numbers in the market. And if we were tracking up well outside that, then we'll also have to let the market know, but that's where the market expectations are at the moment. And the Board is comfortable with those market expectations. Next one is from [ Daniel D. ] What do you think is the things the investors understand, appreciate least about Costain?

I think probably, I think people don't understand as much is the strength of demand perhaps in the markets that we've got. I think if you go and we took it through in the presentation yesterday, just the impact of climate change, the impact of population growth, the impact of resilience of natural resources and the need for economic growth, the big drivers that are pushing demand our way. I think -- I hope people can understand it, but it's what's driving them. And I think everyone can see the investment that's going to have to be made in the water sector just because it's been so public about the polluting of coastal waters and rivers, and that is something that Costain plays an important role in preventing. I think also probably people don't understand the sort of competitive advantage we're building in the market from our strategy. We are a business that's very different to anyone else in the market in that we are working to meet our customers' whole needs as opposed to just being there to build new assets or just being there to design new assets. We are there to help them shape their strategic thinking. We help them help -- we absolutely do help them deliver the infrastructure that they need, but we also help them optimize the use and performance of the existing infrastructure that they've got. And that is creating a real positive dynamic between us and our customers in terms of being seen as a partner who can help them with whatever challenge they've got as opposed to only if I want to have something built. And I think that's a real strong opportunity for the business. So I hope that answers the question.

Next one is from [ Nick B. ] Are you thinking about going outside the U.K.? Or is the U.K. going to be your sole focus?

Well, look, at the moment, the U.K. is our sole focus, and that's really because for us, the consistency of being able to deliver good business is directly linked to the strength of your customer relationship and the type of customer that you work with. And we invest heavily in building strong relationships with our customers and work with those big blue-chip customers who demonstrate the behaviors that we would want as a partner. And that is our single-minded focus at the moment, and that is what is going to drive growth in the business moving forward.

Our next one is from [ Gregory C. ] Why are you doing dividends rather than buyback? Should you buy back shares at this -- [ at the outset ] ?

I think our hope is to resume a progressive dividend. We've got a stated policy. We've also been clear on our capital allocation priorities that you'll see that reiterated in our half year statement. There is the flexibility to think about other returns other than dividends. But at the moment, we are considering a fairly modest return to dividend.

Next one -- actually, there's a few from [ Daniel D. ] So considering that consultancy is such important part of your business, why don't you just disclose more details in the results and then break it out in a bit more detail basically?

Yes, [ Daniel ], thanks. We get asked that question quite a lot. Look, the consultancy business is going. I mean we report the business in the way we run the business, and we don't run a separate stand-alone consultancy business, and the people in Costain sometimes work as a consultant and sometimes work as a contractor or delivery partner. So we just feel that we should report the business in the way that we run and operate the business to keep it simple. And that's what we do. And that's why we set margin targets for the overall group because that's what's really important is that we drive the overall group margin up. And that's how we're running the business and how we're growing the business. And yes, positively, the amount of consultancy work and the quality of the consultancy work is increasing. And we are making sure that people can understand it better. So in the results presentation, you can certainly see the type of consulting work that we do and for the type of customers that we do it for.

Yes. That's also, I mean, really, this -- [ Daniel ], this [indiscernible] the margin targets we have. So the 3.5% for FY '24 and FY '25, 4.5%. And really, this is driven by the business mix moving to more towards consultancy as well. It's also from [ Daniel D. ] Considering the headwinds in road and the lack of margin on schemes, what's the future for that business? How are you going to position yourself in highways sort of road?

Yes. Look, let me cover that in a couple of things. Let me firstly deal with the sort of margin headwinds in road. That is a particular factor of the hyperinflation impact and just how that plays out. So that is a sort of one-off particular issue as opposed to a normal, long ongoing trend with roads. Generally, we can make good money and good margins delivering roads. I think, look, one of the factors that you'll see within our presentation is that we recognize that we have been working hard to build a much more resilient business by having a broader customer base and larger positions with other customers. And you'll have seen the progress there with Heathrow Airport, Manchester Airports Group, Transport for London, where we're growing our position with those sort of customers. So strategically, this business is moving in a direction to make sure that it has a good set of large, broad-range customers that it is working for so that if any customer go through a strategic change or budget change or changes its strategy and the resilience of the businesses that we can keep going, and it won't affect us. So that is a factor of what our focus is at the moment. And pleasingly, we're making progress on that.

And this is the last question at the moment. It's again from [ Daniel ]. Cost -- [ is there ] a significant amount of women in senior positions versus peers? Why is that? And does that help you?

Well, why is it? It's because we want the best team, and the people that we've got within the business are the best people around in the business, and that's great. And what I can tell you is the quality of the conversations that we have and the quality of our decision-making is so much better because we're getting -- it's not just the diversity from a gender point of view, but it's also the diversity of background in previous experience that we're accessing. And it's just adding real quality conversation and quality decision-making in where we're taking the business. So that's my view. Helen, I don't know whether you have a view.

Great question. I think we -- yes, we do have our PLC Board clearly has a high proportion of female as just our exec board, and we're working really, really hard to get that gender diversity throughout the business. That's really important. But we're really focused on other areas of diversity as well. And I think I absolutely agree with Alex. I think the -- for me, the diversity of thinking makes us a better business, and us creating the culture to embrace that diversity of thinking is a great direction for us to be going in. So can only translate, I think, into ultimately into a stronger business with better results. So it's one of the reasons I came to Costain. It's not just a tagline. They're not just stats. It really is a very inclusive culture where people come first in pretty much all of our conversations. So I think it's a very, very important part of what Costain is, and it will be a very important part of how we move forward.

And from [ Daniel ], this is about staff and staff costs. So basically, staff [indiscernible] essentially the cost, but the salary is going up. So is this factored into your margin targets and basically your forecast for '24, '25? So was that wage increase basically fully factored into your numbers?

Yes. Look, I think if you look at staff is -- it's a terrible term, but they are the biggest asset that this business has because they are -- we have an exceptional team, who I am incredibly proud of. We -- in the April review this year, we got the staff a rise commensurate with what's going on in the market, and we'll be minded to just make sure that we're paying people fairly moving forwards as well. And one of the benefits of the Transformation program that Helen has been leading is that it's delivering benefits that are helping us being able to manage that and, therefore, that we can retain our targets for margins and growth in the business.

That's great. We're pretty much actually [ exact ] on the half hour. So maybe, Alex, if I could ask you just to round up.

Yes. Look -- and look, thanks very much for your time and for joining this call, and thanks for your support in supporting Costain as an investor. Look, we're very focused on continuing to deliver strong financial performance as we have done in the half year. We will continue to take the strong actions that will strengthen the business. And we're going to take advantage of the positive market outlook that we've got ahead, and you will see continued momentum in this business as we build it back and deliver in line with the expectations and deliver on the ambition that we've got. So thank you again for your time, and have a good rest of the day.

That's great. Alex, Helen, Paul, thank you once again for updating investors this morning. Could I please ask investors not to close this session as we'll now automatically redirect you to the opportunity to provide your feedback in order that the management team can really better understand your views and expectations. This will only take a few moments to complete, but I'm sure it'll be greatly valued by the company. On behalf of the management team of Costain Group PLC, I would like to thank you for attending today's presentation, and I wish you all a very good morning.