Kreate extensive report: Pursuing goals on new tracks

This report is a summary translation of the report “Pursuing goals on new tracks” published on 10/1/2024 at 7:00 am EEST.

Infrastructure builder Kreate has been one of the strongest growing and most profitable companies in its sector. Kreate's above-market growth has been driven by its expertise in demanding infrastructure construction projects and the company's success in executing these projects has given it a good market position in its field. Unprecedented cost increases in the industry took their toll on profitability in 2022-2023, but the earnings trend is now showing clear signs of improvement from the bottom of the cycle. Valuation is moderate relative to earnings normalization, and the expected return is supported by a strong 6% dividend. We reiterate our Accumulate recommendation, revising our target price to EUR 9.00 (was EUR 8.50).

Leading Finnish infrastructure builder

Kreate is a company specializing in demanding infrastructure construction, with services divided between transport infrastructure construction and structural engineering. Transport infrastructure construction includes road, street and railway construction. Structural engineering consists of bridge construction and various types of foundation construction. Furthermore, Kreate offers services related to the circular economy. Kreate's revenue has grown strongly over the last five years. Annual growth has averaged 14% (2017-23 CAGR-%), a much stronger performance than the zero growth of the market and competitors. Kreate's profitability deteriorated in 2022-2023 due to an unprecedented increase in the cost of construction materials, but the earnings trend has been successfully reversed at the end of 2023 and during 2024. Moreover, the EBITA margin has nevertheless averaged 4.0% over the last five years, which is a good performance in the industry. The profitability of the business is also reflected in the return on capital employed, which has averaged 16% over the last five years (2019-23).

Strategy focused on improving profitability

Kreate grew above its targets during the previous strategy period but has only reached its profitability target of over 5% (EBITA-%) in 2019. The strategy now aims for more moderate growth (5-10% per year) and focuses on improving efficiency and production to reach profitability targets. Growth will be sought in the more profitable but smaller Swedish operations and in the active rail construction sector. The profitability improvement will come from better management of costs, an increase in the Swedish share (business mix) and project selectivity in a recovering market (less pressure from price competition). In 2025-26, we expect growth to reach the lower end of the target range (2025-26e avg. growth-%: 5.3%) thanks to a recovering Finnish market and strong growth orientation in Sweden. We expect Kreate’s profitability to return to more normal levels in the coming years (EBITA-% 2025-26e avg.: 3.8%) simply through the completion of projects hit by cost increases, but we believe that progress towards the targets will require a revival in the private infrastructure market, improved project margins, lower cost levels and some operational leverage from growth.

Expected return supported by upside in valuation and dividend

We forecast an increase in Kreate's earnings in 2024, but the stock is starting to be valued at a challenging level relative to that (2024e: EV/EBIT: 11x, P/E: 17x). In our forecasts, Kreate's result will return closer to normal in 2025, bringing the valuation down to a more attractive level (2025e: EV/EBIT: 10x, P/E: 12x). Compared to our acceptable valuation (EV/EBIT, P/E: 10- 12), the stock would have some upside potential. In addition, the dividend yield of around 6% generated by the strong cash flow increases the expected return. The neutral scenario of the DCF calculation is significantly higher (EUR 10.7), too, which supports our positive recommendation.