Negative outlook for European building materials industry

Moody's Investors Service has revised its outlook for European building materials companies to ‘negative’ from ‘stable’ as a result of worsening economic conditions and a marked slowdown in the construction industry, the rating agency said in an update to its Industry Outlook report for the sector.
The negative outlook expresses Moody's expectations for the fundamental credit conditions in the industry over the next 12 to 18 months.
"In Q2 2008, volumes for aggregates, cement and other building materials in several major markets declined surprisingly sharply," said Matthias Hellstern, a Moody's Vice President — Senior Credit Officer and author of the report. The drop in volumes was largely due to a severe slump in residential construction in the US, Spain, Ireland and the U.K.
"Moody's therefore expects the environment in the second half of 2008 to deteriorate further, given ongoing tight credit conditions and the possibility of reduced economic growth in developed regions," Hellstern said.
Geographic diversification in Eastern Europe is no longer expected to fully compensate for weak construction markets in Western Europe or North America.
"While Eastern European and Asian markets are still robust, they have limited room for further improvement, given high inflation rates and the elevated profitability already achieved there. Thus, those regions may no longer compensate for the weakness in North America and in some Western European markets, contributing to an overall worsening earnings trend for the industry," Hellstern added.
In the report, Moody's said that the downturn in US residential construction is likely to last longer and be deeper than previously predicted. Most of the European building materials companies are exposed to the US market, to varying degrees, and thus are affected by a construction slump there. Furthermore, energy costs have soared in the past 12 months, which affects production costs for building materials producers. At the same time, markets have been weakening, removing some of the companies' pricing power, which in turn puts pressure on their margins and cash flow generation ability.
The number of mergers and acquisitions in the sector has been limited in the current year, given the constraints on financial flexibility of some companies. However, Moody's notes that external growth has always been a feature of the industry and, if opportunities arise, the number and size of acquisitions could increase again in the medium term.