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How you can profit from mining services shares

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Shares in Watpac Limited (ASX: WTP) got slammed today following a shock profit warning that sent shares in the construction and civil & mining services group crashing to a near four-year low.

The stock is trading nearly 11% lower at 55 cents during afternoon trade after management warned that its underlying profit will be breakeven for FY17, compared with the $8.5 million pre-tax profit it reported in the previous financial year.

The reported net profit is likely to be much worse as management is anticipating it will have to make write-downs in the carrying value of its assets due to the weaker-than-anticipated trading performance.

The magnitude of the write-down is yet to be determined, as it is yet to complete its comprehensive assessment on the carrying value of its plant & equipment and associated inventory.

Watpac’s construction division appears to be the main culprit for the bad news with management blaming rising cost pressures and “other unforeseen market factors” that have persisted longer than anticipated for the downgrade.

The company has tried to point out the silver lining by stating that it still expected the construction and civil & mining divisions to make a positive contribution to underlying profits for the current financial year, and re-iterated its forecasts for two troublesome projects – 333 George Street and ANSTO nuclear medical facility at Lucas Heights. Watpac had to write down $22 million on both projects late last year.

But that’s little comfort for investors as today’s bad news still leaves open a lot of questions about the outlook for the group going forward.

While Watpac’s issues seem to be company specific, a number of other mining services and construction companies have also suffered a sell-off.  Worleyparsons Limited (ASX: WOR) crashed 3.6% while Monadelphous Group Limited (ASX: MND) tumbled 4.5% and CSR Limited (ASX: CSR) declined 1.6%.

In contrast, the S&P/ASX 200 (Index: ^AXJO) (ASX: XJO) is tracking around 1% lower.

Should you avoid the construction and mining services stocks?

Australia seems to be coming off a building boom and falling commodity prices do not bode well for companies who service the resources sector.

It’s a question of sticking to quality. I would be unforgiving to companies in this space that disappoint, but I think it is still worth being exposed to the higher quality names like Downer EDI Limited (ASX: DOW) despite its poorly communicated strategy to buy Spotless Group Holdings (ASX: SPO), and Lendlease Group (ASX: LLC).

But remember it’s often a bad idea to bargain hunt in sectors with a downbeat or cloudy outlook.

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Motley Fool contributor Brendon Lau has no position in any stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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