Construction Stocks Are Expected To Gain More Than 20% As Inflation Pressures Subside

In response to the cooling of inflation, Goldman Sachs predicts that Vulcan Materials' shares will perform better in the year ahead.

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As a result of the analyst's upgrade to buy from neutral, Jerry Revich expects the construction stock to rally 23.6% from Friday's close to $212, implying a 23.6% gain for investors.

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Revich said in a note Monday that they were encouraged by the multi-year compounded unit profitability of 9% over the past decade, the reduction in consensus estimates, and the attractive risk reward that comes with a business that has achieved compounded unit profitability on a 9% CAGR over a 10-year period."

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As a result of the decline in sales, the stock’s value has fallen by about 20% over the past 15 months, compared with 11% performance in Revich’s coverage region. That underperformance can be attributed to lower estimates due to a poor price-to-cost dynamic and the slow down in cooling volume, mostly in the residential market.

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As a result of the rapid increase in short-cycle input costs, Vulcan's aggregate margins have been squeezed. Conversely, Vulcan's long-cycle margins have been squeezed as committed prices for contracts have failed to keep up with the rapid increase in inflation.

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In spite of this, Revich reports that the price-to-cost is showing an acceleration now in the fourth quarter, and the company has already been tipped for a price increase in the first quarter. This, in addition to unit profitability, which is considered a key stock price driver as inflation stabilizes, but prices remain high.

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As a result of the U.S. banking system's influence on private construction spending, he said aggregate volumes for the period are around 10% lower than a year ago. Considering that Vulcan's volumes typically decline between 10% and 15% in a typical recession, it's likely that they haven't been as severely hit as they have in prior periods of economic downturn. In 2009, volumes dropped 30%.

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As pent up demand from the Covid years turns into contracts, he predicted that public construction spending will be strong. The residential business should also help stabilize as demand stabilizes as a result of rising office vacancies, as well as reshoring and electrification trends.

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Having reviewed the acquisition volumes over the past two decades, Revich raised his mid-cycle EBITDA estimate from $1.752 billion to $2.01 billion based on the fact that volumes should come in higher compared to what he previously estimated.