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Wednesday, November 12, 1997
Fluor Corp.
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Phone: 714-975-2000
Website: http://www.fluor.com
Price (11/11/97): $35 1/4
HOW DID IT FIND TROUBLE?
This construction and engineering firm found trouble through an overly aggressive expansion of its business. In 1994 the company set forth on a plan to grow earnings at a 20% per year clip. New offices were opened. New lines of business were obtained, and all looked well. In the January annual report Chairman Leslie McCraw said, "Your company just completed the best year in its history." He got a nice raise and a big bonus to boot.
Fewer than three weeks later the company reported first quarter earnings that missed estimates badly. The villain was cost overruns at two power plant projects. In addition, it was apparent that costs were out of control and that business expansion had led to excessive overhead. The company then announced a redirection of the business. The stock dropped 17% in one day.
It turns out that the global expansion was a failure. Much of the business generated was low-margin work. Many of the new offices sat idle. The company had ventured into businesses that simply were not working. Layoffs were announced. Offices were closed, and a restructuring began.
Bad news kept coming in the form of analyst downgrades and continued indications that the company was retrenching. On Nov. 3 the other shoe dropped when Fluor announced that there was going to be a substantial earnings shortfall in FY98. In addition, the August earnings report was notable for a sharp decline in margins from 3.2% to 2.1%.
An overly aggressive business expansion has spelled trouble for Fluor.
BUSINESS DESCRIPTION
Fluor is considered the world's #1 engineering and construction company. Through its subsidiary, Fluor Daniel, the company conducts engineering and construction projects around the globe. These projects include power plants, oil refineries, and pipelines. It builds BIG stuff.
Fluor Daniel, which accounts for 90% of Fluor's profits, has 57 offices around the world and has a project backlog of almost $15 billion. A subsidiary, A. T. Massey Coal, is one of the top five coal mining concerns in the U.S. A.T. Massey has been rumored to be "on the block" as part of Fluor's restructuring effort.
During its expansion the company also opened businesses in equipment leasing, temporary employment, and environmental clean-up. These business lines have been or will be shed. The company intends to refocus on its three principal businesses: industrial process operations, mining, and petro-chemical operations.
FINANCIAL FACTS
Income Statement
12-month sales: $13624 million
12-month income: $137 million*
12-month EPS: $1.62*
Profit Margin: 1.0%
Market Cap: $2973.2 million
(*Includes charges)
Balance Sheet
Cash: $198.3 million
Current Assets: $2006 million
Current Liabilities: $1806 million
Long-term Debt: $300 million
Ratios
Price-to-earnings: 21
Price-to-sales: 0.22
HOW COULD YOU HAVE SEEN IT COMING?
The first quarter earnings shortfall caught everyone by surprise. By all appearances, the company was in great shape. A contrarian might have guessed that the rapid pace of business expansion at Fluor might have led to problems of inefficiency, but there was nothing on the surface to indicate the trouble ahead.
Once the February announcement came, there was ample time to get out of the stock before the subsequent continued drop. In reviewing news reports throughout the year it was very clear that analysts were uncertain about the company's downsizing efforts. Even a positive earnings surprise in August was, on closer analysis, built on non-operating, one-time events. Fluor has been struggling all year, and a savvy investor would have stood aside.
Major negative earnings surprises, such as the one recorded in February, are often the harbinger of bad times to come.
WHERE TO FROM HERE?
Is it the darkness before the dawn or the beginning of a long night for Fluor Corp.? At this point it is difficult to know. One thing is certain, 1998 is not going to be a great year. Even in the company's announcement of a $100 million anticipated shortfall includes assumptions that 40% of earnings will come from as yet uncontracted business. This is in line with historic contracting rates and is below the 50% estimate the company had used in the past year. However, with the weakness in Asian economies, a large source of business for Fluor, contracting could conceivably be below historical levels.
Earnings estimates for FY 1998 have dropped to $2.76 a share. The company now trades at 12.7 times that projection. The company is estimated to grow earnings at a 13% annual clip over the next five years, in line with industry growth rates.
At the current price, the company is selling at a mere 0.22 times sales. With cutbacks in the business, I would expect sales to drop a bit going forward, so the price-to-sales ratio (PSR) may well rise. That said, this PSR is at the low end historically for the company.
In late October, Fluor was named by Fortune magazine as the most admired public company in the construction and engineering business worldwide. This company is not going away.
Some stories like this have a good ending. A quick look at Samsonite Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SAMC)") else Response.Write("(Nasdaq: SAMC)") end if %> and MotivePower Industries <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MOPO)") else Response.Write("(Nasdaq: MOPO)") end if %> shows that companies in the doldrums can, after restructuring, be great fodder for a double. Keep an eye on those quarterly reports and pay special attention to profit margins. If margins start to move up, that may spell opportunity for an enterprising, bottom-fishing Fool.
--Mark Weaver, MD
([email protected])
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