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Stock: Lend Lease Corp Ltd
Code: LLC
Market Cap: $2.8bn
Recommendation: None

Evidence of stronger activity in the domestic first home buyers market has triggered a fresh bout of interest in our local property players. Inspired by recent boosts to the Federal Government’s first home buyers grant, does this renewed optimism signal a turnaround in the local housing market?

Deciphering the false dawns from actual cyclical lows is notoriously difficult, but you can be sure that share prices of sector leaders such as Lend Lease will be amongst the first to lift when the tide does turn. Laying claim as Australia’s first listed property stgeloper, Lend Lease has witnessed its fair share of industry cycles.

The company was founded in 1958 as a shareholder funded vehicle to finance and control the building projects of construction entrepreneur G.J. Dusseldorp. The company would make loans to Dusseldorp’s construction firm, Civil & Civic, to fund projects through the stgelopment stages. Upon completion it would assume ownership and be charged with finding tenants and leasing unsold portions. Hence the name, ‘Lend Lease’.

Rather than simply being a property investor, the company soon entered the construction side of project stgelopment, acquiring its original partner, Civil & Civic. Lend Lease became a household name in February 1959, when it was contracted to build stage one of the Sydney Opera House. An increasing focus on construction and stgelopment saw the company ‘spin off’ its property portfolio into a separately listed real estate trust known as General Property Trust (GPT) in 1971. The 1980’s saw Lend Lease pursue diversification in financial services, acquiring fund manager, MLC.

While history is littered with examples of companies becoming worse off after buying into unrelated industries, Lend Leases foray into the world of finance proved fruitful. The finance division provided a steady source of income that grew to make up half of after tax profits by 1991, while helping to fuel 25 years of consecutive profit growth until 2001. This strong track record saw the company gain ‘darling’ status in the late 1990’s and trade at a premium valuation. However at the turn of the millennium, perceptions and performance changed when the company turned its focus back towards property stgelopment and construction.

In 1999 Lend Lease purchased construction and project management business, Bovis from P&O for A$710m. The acquisition was followed by the divestment of its financial services arm, MLC to National Australia Bank for $4.56bn in 2000. The impact? Gone was the relatively steady income that MLC provided and investors had come to love. With greater exposure to the cyclical property stgelopment industry, the company’s risk profile had increased, and as a result its valuation (on a PE basis) has contracted ever since.

These days the Bovis construction arm is Lend Leases biggest revenue and profit generator. Bovis has building projects around the world, including the Sydney 2000 and London 2012 Olympics, and last year contributed 28% of Lend Leases operating profits. However Bovis is not the company’s most profitable business. Margins are very slim at 1-2%, so there is not much room for error. Lend Leases other divisions focused on shopping centre and residential stgelopments make lower contributions at higher margins, however like Bovis their earnings are cyclical by nature. All up, these ‘cyclical’ divisions accounted for 60% of operating profit in 2008. The balance of earnings was generated by the company’s government partnered project arm, and its investment management division, which we suspect are more insulated from the economic downturns.

With the current downturn in world wide property markets being very steep, investors should be asking whether this sticky income will provide enough sustenance to ride out the cycle? For FY09 the company is set to post its first loss in its 50 year history. The loss has been driven by falls in property values across its far reaching portfolio, which required write downs to the tune of $800m in the first half of the financial year.     

Fortunately the company appears to be less encumbered by the debt woes facing many in the property sector. Borrowings total $1.8bn, but account for only 20% of tangible assets, which is in line with the average of global construction companies. But despite a relatively strong balance sheet and it’s earliest debt repayment of £350m not due until November 2010, Lend Lease has featured amongst the growing chorus of companies lining up to raise additional capital. In February the company raised $300m from institutions at $6.05/share.

The raising suggests that the ‘good ship’ Lend Lease has been taking on some water amid the global economic storms. But in what form? Are management simply being prudent and taking on reserves in case conditions sour? Or are the funds needed to plug more sinister holes in a leaking ship? The company’s transformation over the last decade suggests that sailing may not be as smooth as yesteryear, and so we recently addressed the issue to members in our ASX200 newsletter.

Tim Morris is an analyst at wise-owl.com, one of Australia’s leading independent stockmarket research houses. Click here for your complimentary report.


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