Crest Nicholson

Description

A UK housebuilder with a focus on southern England. The company emphasises well designed homes in sustainable communities and has a wide product range, serving the needs of first time buyers through to larger family homes. Crest Nicholson has been building homes for more than 50 years, listed on the London Stock exchange in 1968 and, having been acquired by a private equity consortium led by HBOS shortly before the financial crisis, it required a series of financial restructurings, before returning to the market in 2013.

Crest Nicholson joined the Woodford Income Focus Fund portfolio at launch in April 2017 and was added to the Woodford Equity Income Fund in November 2017.

Investment case summary

In 2017, our increasingly positive view of the UK’s economic prospects combined with the wider market’s pessimistic view towards domestically exposed businesses in the aftermath of the EU referendum, created a contrarian opportunity to revisit the UK housebuilding sector for the first time in many years. In doing so, Crest Nicholson emerged as one of several housebuilders that have looked attractive enough to force their way into the portfolios.

In our view, UK housebuilders and the construction industry more broadly is benefiting from structurally positive supply-demand dynamics. Fixing the UK’s ‘broken’ housing market inevitably means building many more homes and, although some commentators have concerns about house prices, from an affordability perspective, with interest rates near record lows, mortgage repayments represent a much smaller part of take-home pay than is normally the case.

Due to its focus on southern England and a relatively high average selling price, Crest has not enjoyed the same benign trading conditions as its peers in recent months and this has weighed on selling prices, reservation levels, and on margins. Meanwhile, concerns about house price declines have weighed on Crest’s share price more than on others in the sector, to the extent that its valuation already discounts a significant deterioration in the trading environment, which represents a fundamental margin of safety for investors. This makes Crest Nicholson one of the cheapest shares, in one of the cheapest sectors, in one of the cheapest regional equity markets.

We do not anticipate widespread and material house price declines but even if a worst-case scenario plays out in house prices, Crest and indeed other housebuilders could slow or cease their purchases of land, effectively crystallising shareholder value by turning their land banks into cash. As a result of its recent operational challenges, Crest Nicholson’s business strategy is already evolving in this direction, which we welcome.

Ask a question about our investment in Crest Nicholson

Fund exposure
Income Focus Fund 3.71%
Equity Income Fund 1.56%

As at 28 February 2019

Segmentation
Geography United Kingdom
Industry Consumer Goods
Themes UK domestic exposure

Source: Woodford

Share Price

Market Quotes by TradingView

Commentary

Profit warning

Crest Nicholson has this morning reduced profit guidance as it approaches its financial year end. The market environment for new homes in London and at higher price points in the South of England is more difficult than it had previously anticipated. Sales have not picked up during the traditionally stronger early Autumn selling season and reservation levels at Crest’s London sites have slowed significantly. There has also been some downward pressure on pricing in areas where affordability is most stretched. The company now sees profit before tax for the year to 31st October 2018 in the £170-190m range (forecasts were previously at c. £200m), subject to the timing of completion of some individually significant transactions. Margins for the current financial year will now be lower than the previous guidance of 18%.

In response to these challenges, Crest is pausing its growth ambitions, slowing down build rates and reducing land expenditure. Its new strategy will focus on shareholder returns by prioritising cashflow and dividends, maximising value in the land and development portfolio and improving operational efficiencies. It remains committed to paying 33p in dividends this year and, subject to no material deterioration in current market conditions, will maintain the dividend at this level next year too. The board has asked Stephen Stone, Executive Chairman, to lead the business in the implementation of the new strategy, supported by Patrick Bergin, Chief Executive. Robert Allen, Chief Financial Officer, will leave the company after a short handover period.

Today’s news is disappointing but not entirely surprising and was, in our view, already more than discounted in a very depressed share price. The dividend commitment represents an 11% yield and the new profit guidance equates to 53-59p of earnings, putting the shares on a price/earnings ratio (PE) of 5.2-5.8x, which compares to a current PE for the sector of 7.5x for 2018. In other words, this is a very cheap stock in a very cheap sector.

Stephen Lamacraft
17 October 2018

Strong growth but pressure on margins

Crest Nicholson has delivered strong growth in revenues and housing unit numbers in today’s trading update, covering the first six months of its current financial year. Its private rental sector business has been particularly strong. However, generally flat pricing against a backdrop of continuing build cost inflation at c. 3-4%, has weighed on margins, which are now expected to be at the bottom end of the 18-20% guided range.

On a more positive note, forward sales for the current financial year (including year-to-date completions) are 11% ahead of the same period last year. Crest is guiding to revenue growth of more than 15% this year and is actively seeking to lower its average selling price by focusing its land investments towards areas where prevailing prices are lower.

Overall, however, this is slightly disappointing update which will likely lead to modest downgrades. Nevertheless, the balance sheet remains strong and, with the stock now yielding more than 7%, a P/E of less than 7x and a 1.1x book value, despite a 28% return on average capital employed, this is a very cheap asset which is already pricing in material house price declines. That is not a scenario that we expect to prevail but there is a considerable margin of safety in the current share price.

Stephen Lamacraft
16 May 2018

Woodford Investment Management Ltd is authorised and regulated by the Financial Conduct Authority (firm reference number 745433). Incorporated in England and Wales, company number 10118169. Registered address 9400 Garsington Road, Oxford OX4 2HN.

Woodford Patient Capital Trust plc is incorporated in England and Wales, company number 09405653. Registered as an investment company under section 833 of the Companies Act 2006. Registered address Beaufort House, 51 New North Road, Exeter, EX4 4EP.

© 2019 Woodford Investment Management Ltd.
All rights reserved.

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