28th Nov 2022 16:54
(Alliance News) - Persimmon PLC faces a squeeze on margins as house prices fall, according to UBS, as it downgraded the stock to 'sell' from 'neutral' on Monday.
"We think Persimmon faces further downside risk as margins and returns start to revert to the sector mean over time," UBS maintained.
The Swiss bank noted the York, England-based housebuilder's shares trade at a premium to the wider sector at 1.3 times price to net asset value ratio on 2022 forecasts, compared to the sector at 0.95 times. For 2023, they trade at 1.2 times, compared to 0.87 times for the sector.
"We think that premium could narrow as margins and returns start to mean revert, in addition to the absolute downdraft expected from falling volumes and prices in 2023/2024," UBS explained.
The lender maintained the shares still benefit from "historically superior" return on capital employed, but is concerned that "as this premium fades, so could the shares".
Persimmon shares fell 3.4% to 1,284.00 pence on Monday afternoon in London.
UBS trimmed its price target for the stock to 1,230p from 1,290p previously, which reflected the GBP275 million extra the firm has put away as a fire safety provision.
This was a "disappointment" to UBS, which said the provision "acts as a call on cash in the coming years".
Earlier this month, Persimmon also revealed sales were slowing. In the four months and a week from July 1 to November 7, the firm reported forward sales reserved beyond the current year of GBP770 million, down from GBP1.15 billion a year prior.
In the six weeks to November 7, the average net private weekly sales rate per outlet fell to 0.48, which UBS thinks equates to around a 40% fall year-on-year.
"The trend has sequentially still deteriorated. We expect sales rates to pick up to 0.60 in 2023 as mortgage rates reduce but this still means completions could be down 30% in 2023," it predicted.
"Despite the slow sales rates, management does not envisage higher sites, reflecting a combination of planning delays but also reluctance to invest given market uncertainty," UBS said.
The increased market uncertainty had also prompted Persimmon to announce an overhaul to its capital return programme
At the beginning of the month, it said it will replace its current programme with a new, forward-looking capital allocation policy.
"Ordinary dividends will be set at a level that is well covered by post-tax profits, thereby balancing capital retained for investment in the business with those dividends. Any excess capital will be distributed to shareholders from time to time, through a share buyback or special dividend," it had explained.
The change came in light of "increased uncertainty" in the political and macroeconomic backdrop, as well as higher corporation tax and residential property developer tax.
UBS expects an initial cover of 3 times, to decline to 1.5 times, before normalising at 2 times.
"This implies a substantially reduced dividend in the coming years as earnings decline," UBS said.
UBS forecasts Persimmon's margin to decline to 22% in 2023, compared to 27% in 2022, "reflecting some price erosion and fixed cost leverage".
It then expects margins to see a sharp fall to 16% in 2024 as price declines fully hit, before normalising at 22% "in the medium term".
UBS expects house prices to start falling "more materially" into 2023, predicting a 10% decline over the next 12 months. This would put pressure on margins over time, it noted.
"The risk to our call is that the overall UK housing market will recover quicker than we currently expect and house prices remain more resilient. That is mostly a function of the interest rate path, in our view," UBS said.
However, as it stands, UK homes are currently selling for 3% below their asking price in recent weeks, according to new figures from Zoopla.
The most important factor cited by home buyers is the outlook for mortgage rates.
Looking ahead, Zoopla expects sales volumes to drop back to one million over 2023, from 1.3 million in 2022, with house price falls of up to 5%, concentrated in the markets most sensitive to higher borrowing costs.
By Elizabeth Winter; [email protected]
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