The release of the Australia Bureau of Statistics' (ABS) Building Approval figures for January provides further evidence for investors of the cyclical upswing occurring in the building materials sector. Month-on-month (seasonally adjusted) approvals rose 6.8%. Year-on-year the gain is an impressive 34.6%, with the total monthly approval standing at 17,514 dwellings – the highest single month in over 11 years!
The January reading marks an important point in the housing cycle. As the Housing Industry Association (HIA) commented in the wake of the ABS figures – "Over the past twelve months, approvals have totalled over 182,000, the highest twelve-month total since 2004."
Adding further support that the outlook for the building materials sector is rosy was the following comment by Governor Glenn Stevens from The Reserve Bank of Australia (RBA) in his statement on the board's March monetary policy decision: "Recent information suggests slightly firmer consumer demand foreshadows a solid expansion in housing construction." The other important point to note was the RBA's decision to keep interest rates at their record low level of 2.5% which is conducive to housing construction.
This combination of factors should set the scene for a significant boost in building activity in the coming months and should have investors seeking out ways to profit from the housing boom.
The positive data and comments sent a number of building material stocks higher on the day with Fletcher Building Limited (ASX: FBU), CSR Limited (ASX: CSR) and Boral Limited (ASX: BLD) all registering gains. To understand the cyclical nature of the industry and the leverage these stocks enjoy to higher levels of building activity it is interesting to compare the returns from 10 years ago with those today.
In financial year (FY) 2004, Boral reported sales revenue of $4.15 billion, an underlying profit after tax of $370 million and a return on funds employed (ROFE) of 18.2%. Based on the recent interim result, Boral will likely report revenues around $5.9 billion, a profit of approximately $180 million, and ROFE near 6% for the FY ending 30 June 2014.
Foolish takeaway
Based on the approvals data there appears to be a very healthy pipeline of work ahead for companies exposed to housing construction such as Boral.
As Boral's results in 2004 show, the company is much more profitable during boom times. Unlike 2004 which marked the top of the cycle, the latest building cycle still has some way to go. Based on past history, Boral's earnings and ROFE should expand significantly from this point.
While investors will need to decide for themselves just how much of this growth is already priced into the stock, the industry tailwind could drive the stock higher.
