UPDATE 2-Galliford says cash boost from Bovis is key to housing deal

* Company posts 27% drop in annual profit

* Losses in construction unit more than doubled

* Sees 2% margin growth in construction

* Shares rise 3.5% (Recasts, adds CEO comments, background on sale offer of housing business)

By Yadarisa Shabong and Noor Zainab Hussain

Sept 11 (Reuters) - Galliford Try aims to focus on a smaller, more profitable construction business, which will be easier with the cash boost from a proposed sale of its housing businesses to Bovis Homes, its CEO said on Wednesday.

Galliford, like others in the residential housing market, has been hit by a downturn in the UK housing market. It restarted talks to sell its housing businesses to Bovis on Tuesday after a previous proposed offer was improved to 1.08 billion pounds ($1.33 billion) including a cash component.

Under the new proposal, Galliford shareholders would get 0.57406 Bovis shares for each Galliford share they own, implying a value of 675 million pounds, and 300 million pounds in cash.

"The change is that we now have, yes a better value proposition, but critically also what Bovis is doing to raise cash and put 300 million pounds (in the business), plus taking on the ... debt," Chief Executive Graham Prothero told Reuters.

"(This) will be a well financed stand-alone construction business and the whole thing works very well," he added.

Prothero spoke to Reuters after Galliford posted a 27% drop in pretax profit on Wednesday as its construction business took a hit from contract write-downs and restructuring costs.

Prothero said the business to emerge from any sale will focus on regional building, including education, defence, justice, health, highways and water contracts.

"We are much happier with a slightly smaller but profitable business than a larger business that drops the ball from time to time," he added.

The talks with Bovis mark a turnaround in fortunes since 2017 when Bovis rejected a bid approach from Galliford.

FTSE 250 company Galliford reported a pretax profit of 104.7 million pounds ($129 million) from 143.7 million pounds a year earlier. Pre-exceptional pretax profit fell to 155.5 million pounds from 188.7 million pounds a year earlier.

The company took a 50.8 million pound hit this year, chiefly due to additional costs to complete the Aberdeen Western Peripheral Route contract, one of Scotland's biggest motorway projects, following the high-profile collapse of Carillion.

Galliford has been reducing the size of its construction business, where losses more than doubled to 61.5 million pounds in 2019, to focus on more profitable sectors under Prothero.

Galliford expects construction revenue between 1.3 billion pounds and 1.5 billion pounds in the short and medium term, with margins growth of 2%, Prothero said.

Shares in the company rose 3.5% to 687.5 pence as of 1024 GMT.

"We continue to see upside in Galliford Try's shares as the current share price... reflects less than a 150 million pound valuation of the rump business and is ignoring the potential upside to Bovis or synergies." Liberum said in a note. ($1 = 0.8091 pounds) (Reporting by Yadarisa Shabong in Bengaluru; editing by Arun Koyyur and Elaine Hardcastle)