Buy DSI stock, hold fire on Arabtec, say analysts

A strong balance sheet is a key criterion for analysts' favour.

RELATED ARTICLES: The GCC stock stars | Drake & Scull nears first Saudi acquisition | Arabtec profile: Rising from the Ashes

Analysts at Bank of America Merrill Lynch have endorsed the balance sheet and acquisition strength of Drake & Scull International with a ‘buy’ rating, though are cooler on Arabtec, as the MENA region’s construction growth remains intact overall.

The Wall Street firm has confidence in the region’s construction sector though emphasised the need for firms seeking growth to diversify away from Dubai in the midst of a “wait-and-see attitude from clients, private and government alike” due to a lack of visibility in the macroeconomic outlook.

Specialist contractors and companies with a strong balance sheet are best positioned to survive the near-term market pressures, the bank wrote, and gave stock pickers a special recommendation to DSI, the MEP giant that has made a number of acquisitions, set up a construction arm in Saudi Arabia, and won contracts from Oman to Syria worth more than US $2 billion this year.

Story continues below

Advertisement

FEATURED COMMENT Please click here to comment on this article

Last week the company announced it has signed a Letter of Intent regarding the acquisition of one of two-Saudi-based targets, yet unnamed.

By contrast, the bank gave a ‘neutral’ rating on Arabtec shares due to an expected slowdown in projects and money inflows and near-term growth prospects.

“Despite our positive medium-term outlook on the US$2 trillion MENA construction and infrastructure sectors, we expect a continued slowdown in Arabtec’s geographical diversification as delays in receivables collection and new awards impede management’s expansion plans. Margin contraction risk and a scaling-down or cancellation of the Okhta Centre project is largely priced in, in our view.

“The lack of a clear timeframe for positive catalysts drive our Neutral rating on what we think is otherwise a solid franchise.”

Working capital management remains the chief cause of near-term risk, according to the bank. It is a subject to which Arabtec’s chief financial officer has highlighted as vital.

“Working capital is rarely a top priority for operating managers, but at times like these, it should be a high priority on the corporate agenda,” Ziad Makhzoumi told CW earlier this year.

Analysts expect Arabtec’s revenue and net income to decline by 6% and 5% per annum, respectively, in 2009-14, owing to client-driven project delays, project cancellations or suspensions, a lack of new awards and a regional expansion that will be “gradual rather than aggressive”. BofA Merrill Lynch has set a price objective for the stock of AED2.2 per share, which closed up last Thursday to AED2.02 per share, rising 22% since the beginning of September.

Meanwhile, analysts add that Dubai-focused civil contractors face particular difficulties in cracking the Saudi Arabia market and “will lag peers that adopt a more aggressive M&A [merger and acquisition] or JV [joint venture] strategy”.