Building materials firms to lead construction recovery

Singapore

BUILDING materials companies will lead the construction sector's recovery on the back of accelerated infrastructure spending as economies gradually reopen, according to market watchers. This comes as the construction sector is expected to take a hard hit from the Covid-19 outbreak in the face of labour constraints and supply chain disruptions.

According to forecasts by Fitch Solutions, Singapore's construction sector will contract sharply by 10.3 per cent this year in real terms.

The sector was already experiencing a decline in the first quarter of 2020, contracting 4 per cent year on year (yoy). It had grown 4.3 per cent in the fourth quarter of last year, according to data from the Ministry of Trade and Industry.

But a recovery is under way as the economy gradually reopens.

Many key infrastructure projects have only been deferred. The attractiveness of building materials companies is therefore unchanged, according to Paul Chew, head of research at Phillip Securities Research.

Key projects include time-sensitive ones such as the Mass Rapid Transit and Deep Tunnel Sewerage System tunnelling projects that will take priority in the resumption of construction of activities.

Historically, there had been instances of higher or accelerated infrastructure spending to boost economic recovery after downturns, according to a UOB report.

Beijing's stimulus programme in 2008, for instance, drove China's economic growth following the financial crisis, with massive government capital spending led by infrastructure investment.

Against such a backdrop, Phillip Securities' Mr Chew is bullish on building materials companies such as BRC Asia and Pan-United Corporation as "investors can ride on the overall increase in construction spend".

CGS-CIMB has also reiterated its "add" call on BRC Asia with a lower target price of S$1.55 on the back of its dominant market share position in the reinforced steel industry, which makes it a good proxy for construction-sector recovery in the medium term.

Meanwhile, real estate solutions provider Boustead Projects is favoured for its cheap valuation and its potential Reit launch.

Having said that, CGS-CIMB analyst Ong Khang Chuen said that they are "underweight" on the general construction sector.

Among construction stocks covered by CGS-CIMB, Yongnam Holdings has been downgraded to "reduce" from "hold" given the near-term risk on the firm's cash flow from the suspension of construction work.

The long stop-work order during the "circuit breaker" will inevitably hurt the income of construction companies in the second quarter, and smaller companies will bear the brunt of the impact.

Said Mukund Sridhar, partner at McKinsey & Company: "Smaller contractors with concentrated or smaller order books will be the worst hit, given construction works on very low margins of error and a healthy order book executed without interruptions is critical for growth and sustainability."

Even with support from the government, the sector still faces near-term challenges that will further tighten cash flow and elevate credit risks. "While policies rolled out by the government could help offset some labour costs and relieve concerns over the timely fulfilment of contractual obligations, we still see significant earnings impact for the quarter, given construction companies' large fixed cost base," said Mr Ong.