Jonathan Moreland
Jonathan Moreland

Inside the Markets: Insiders Weigh in on Construction

Five tactics show you how.

January 19, 2010
by Jonathan Moreland

[DISCLOSURE: Readers should assume that all stocks mentioned in this column are owned by the author and/or his firm unless otherwise noted. Readers should note that the opinions expressed in this column are solely of the author’s and do not necessarily reflect the views of the AICPA or the AICPA CPA Insider™ e-newsletter.]

Shares of Shaw Group (Shaw) have been good to me in the past. I made a quick 9.6 percent on the stock in the four months leading up to January 2003. For the 25 weeks ending in February 2007, they delivered a solid 20-percent return. I’m hoping for an even better win this time around.
Shaw is an engineering and construction firm that operates in five segments: Energy & Chemicals; Environmental & Infrastructure; Fabrication & Manufacturing, Maintenance and; Fossil, Renewables & Nuclear.

Lumpy earnings and messy quarters are the realities investors have had to deal with for years. As many CPA Insider™ readers may not know, Shaw’s purchase of 20 percent of Westinghouse in October 2006 only made their financial results more complicated. With that unit prone to large noncash charges, Shaw treated the investment as a separate operating segment and included the majority of its financial effects below the operating-income line. Shaw also presented various versions of financial statements to compare its results both with and without Westinghouse.

Shaw’s results for its fiscal 2009 (ended August 31) are a good example of the noise with which investors have to deal. Judged by consolidated, diluted EPS, fiscal 2009 was a disastrous year for Shaw. That metric fell from $1.67 in 2008, to a mere $0.18 this year. Excluding Westinghouse, however, EPS only declined 11 percent, to $2.02. Rightfully or not, the ex-Westinghouse EPS is what most investors are hanging a multiple on.

Buying the Dip

Into this dip came Chairman and Founder James Bernhard, with a $6.4 million purchase of Shaw at an average price of $25.70 on November 4. Later that month, Director David Hoyle decided to exercise 3,000 incentive options and hold onto them all.

Bernhard’s buy attracted much press. This was his first open-market purchase of Shaw in over five years. After selling shares for most of that time, his purchase increased his direct holdings by over 90 percent.

By comparison, Hoyle’s transaction seemed a footnote. He has been an active and smart trader and his latest opting into this stock increased his holdings by over nine percent. His buy counts in our bullish calculus since it means there are two insider bulls instead of just one.

Quick Out of the Gate

So far, so good. Shaw’s shares spiked when results for its first quarter of fiscal 2010 (ended November 30) were released in early January. With the same sort of messy caveats as Q4 results relayed, Shaw beat Q1 EPS expectations by nearly 27 percent, as ex-Westinghouse EPS came in at 57 cents. Though well below last year’s comparable number of 75 cents, this quarter’s expectations were a mere 45 cents. Providing another positive takeaway, Bernhard, stated: “I think that we’re going to see the activity increase in all of our business segments from this quarter.”

In reaction to the good quarter, many analysts raised their price target for the firm by about 10 percent. But the resultant range of target prices is telling. On the low end, Goldman Sachs’ new target is $30, while Stifel Nicolaus (a subsidiary of Stifel Financial Corp, a St. Louis, MS-based a full-service regional brokerage and investment banking firm) has the highest target, at $43.

Despite the beat, some analysts obviously believe Shaw is fairly valued at best right now, while others believe the stock is 30 percent undervalued. Reasonable minds are differing and what they are differing about is the prospect of Shaw continuing to beat expectations.

More curmudgeonly analysts are quick to point out that Shaw has run into problems in the recent past with cost overruns in projects, which have hurt profitability. So all this talk of new business and lots of outstanding proposals is great, but whether new business turns out to be a boon or blight to EPS is somewhat unknown until the project is completed.

Your clients should realize that a valid point and cost overruns remain a major risk to this stock. But all stocks have risks and Shaw’s appear more under management’s control than the risks affecting so many other names. I find solace in knowing that Shaw has its fingers in a range of industries that I believe are likely to experience a great amount of investment in coming years, including: nuclear, environmental, oil and gas, carbon sequestration and power grid upgrades, among others.

While Shaw’s EPS growth in fiscal 2011 is unclear (as indicated by the large range of analysts’ estimates of $2.40 to $2.90), its shares don’t even seem overpriced based on a 13 forward multiple on the lowest of 2011 expectations. Given the bullish tone of the firm’s Q1 results and management’s comments, I think EPS for both this year and next are more likely to come in closer to the average estimates at worst.

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Jonathan Moreland is the director of research at New York-based InsiderInsights.com. Readers should note that the opinions expressed in this column are solely of the author’s and does not necessarily reflect the views of the AICPA or the AICPA CPA Insider™ e-newsletter.