Weekly Market Update (Issue 511) – 10th August 2018

Reporting season is finally upon us, and for the next few weeks it’s our intention to spend more time offering feedback on local company results and valuations than commentary on the global macro outlook.

Out of a heap of corporate results and news-flow this week, we will draw attention to the following few names – Magellan (MFG), IOOF (IFL), AMCOR (AMC), Transurban (TCL), SEEK (SEK), Crown Resorts (CWN), BWX (BWX) and Commonwealth Bank (CBA).

Magellan Financial (MFG) – a positive dividend surprise.

We were thrilled to see the MFG results this week. Profits surprised favorably, driven in large part by better-than-expected cost management, and the strength of returns from co-investment in underlying Magellan funds.

More appealing to us was the decision by MFG to raise their dividend payout ratio from 75-80% of profits to 90-95%, which led to the declaration of a final half dividend of 90c per share and well in advance of forecasts.

2019 and 2020 dividend forecasts have been raised to reflect the new ratio, meaning investors should expect $1.50 in 2019 dividends, well up on the previous forecasts of ~$1.20.

MFG is up over +20% since we recommended the share only 2mths ago, and at $28.20 the stock is still not expensively priced at around 16.5x 2019 earnings. With performance from the Magellan Global Fund now in excess of its benchmark on both a short and long-run basis, it is my expectation that we see analysts continue to raise performance fee forecasts as the year rolls on, taking the stock north of $30.

IOOF (IFL) – hard to fault them, and yet people keep trying.

Despite all of the headwinds it faced, IFL has again delivered an excellent set of profits for the 2018 year. Cost-control continued to be excellent and managed to sustain profitability against a backdrop of continued fee pressure.

As a guide for industry margin pressures, IFL grew gross revenues by only +1.8% during 2018 despite funds under administration, advice and management growing by +8.6%.

It is this margin pressure that is making many investors cautious on the share. Indeed, the level of short interest betting against IFL is now at a record high, and IFL shares are now at their lowest level relative to the ASX200 since 2012.

However, we think these concerns are grossly overdone, and that when you consider the significant cost-cutting potential likely to accrue in the coming 2 years following the $975m purchase of ANZ’s wealth and pension businesses, the stock looks incredibly attractive.

Following the payment of a 27c final dividend in 10 days, there is every chance IFL shares could be trading in the low  $8 range, and at those levels the stock would be trading on 13-14x 2019 earnings and with a 7%+ full-franked dividend yield, but with 10-20% earnings upside to follow from cost-cutting and a balance sheet that  could easily sustain a 10% share buyback by early FY2020.

Under $8.50 IFL is a table-thumping BUY for all concerned, and we will most definitely be looking to add to positions in our separately managed accounts (SMA).

AMCOR (AMC) – announce the long-awaited purchase of Bemis (BMS)

AMC shares fell on news that it had entered into an all scrip deal to merge with US flexible packaging manufacturer, Bemis (BMS).

The deal makes the combined AMC/BMS conglomerate the world’s largest plastic manufacturing group and raises AMC’s exposure to the US food packaging market significantly.

The deal had been long rumoured so ought not have been a major surprise to investors, however several analysts noted that AMC had ditched their long-held ground rules for acquisitions in this instance (lower hurdle for return on capital) and that they felt AMC had potentially overpaid. Despite that, the deal is still likely to be significantly earnings per share accretive, with AMC targeting US$180m in cost synergies by year 3 post-merger.

We think the stock will continue to grind higher, so this week we took advantage of the sell-off to add to our AMC positions in the PRIME Australian Equity SMA’s around $14.

Results from AMC are due in a fortnight.

Transurban (TCL) – dull.  No reason to be there still.

TCL results were ok and showed around 9% growth in underlying cashflows in 2018, but the guidance for 2019 dividends proved to be a little lighter than market forecasts, with a targeted 59c dividend a little under the 61c forecast by analysts.

The year ahead should clearly be better for TCL with $100m of additional cashflows earned largely on account of the rebound in Citylink volumes post roadwork completions. Nevertheless, the stock is pretty uninteresting at $12 with a middling 5% unfranked dividend yield, increased regulatory scrutiny and the prospect of more equity issuance in the event of a successful bid for the West Connex toll-road project in Sydney.

SEEK (SEK) – pre-announcement shows heavy investment

SEK pre-announced 2018 earnings numbers and gave early 2019 guidance, causing the shares to tumble around -10%, despite what was in large part a constructive corporate outlook.

SEK guided for 2018 results at the top-end of their previous guidance and then guided to excellent revenue growth of +16-20% in 2019, however 2019 underlying cashflow growth would not match revenues, and would instead rise by only +5-8%.

The disappointment again arose from SEK’s decision to continue to reinvest its growing cash-flows back into future growth and thus depriving shareholders from the benefit of this growth in the very near term. The company made precisely the same investment back into its business in 2018, but as evidence from the strong revenue growth not only achieved in the current year, but forecast in the coming year, this investment is definitely paying off.

We see no reason to concern ourselves with trying to time SEK profitability and instead remain extremely comfortable with the underlying revenue execution from SEK management in the rapidly developing Asian jobs market.

If SEK shares were to retrace back to nearer $19 we are sure we will be adding to positions in our Australian Equity SMA.

Crown Resorts (CWN) – a positive share price reaction

CWN shareholders were pleased to see the group end 2018 with a bang, however the profit surprise was driven by lower quality VIP gaming revenues, and not the consistent, predictable main floor gambling done in Melbourne and Perth.

We won’t make much ado about CWN here because in spite of the jump, we feel nothing has changed insofar as our view on the stock.

There is no doubt CWN are now through the worst of their James Packer/China VIP volume/Chinese legal issues, however at current levels near $14 it is very hard to get excited by the stock given it is trading on 20-22x earnings and with still significant revenue uncertainty in relation to the buildout of its Barangaroo Sydney Casino project.

We are very comfortable with our decision to sell down positions at $13.80 in February and for those of you yet to do so, we would encourage you to take advantage of the price and SELL your remaining position.

BWX (BWX) – another miss makes for an interesting scenario

Here is a small-cap holding we have a very close eye on.

BWX are the manufacturer of Sukin skin and haircare products, a leading boutique purveyor of natural beauty products globally and one of Australia’s fastest growing consumer brands.

BWX are currently the subject of a rather controversial proposed management buy-out offer by US private equity group Bain Capital at $6.60 a share, but due to various legal issues relating to management disclosures, and this week’s disappointing 2018 profit guidance, the shares are now trading under $5.00 and ~25% under the proposed bid.

We have no real insight into how the bid proposal resolves itself in the months to come, but we do have a strong confidence in the underlying growth of natural beauty products and the BWX brands addressing these markets. For that reason, the further BWX shares fall below the $6.60 proposed bid price, the more we become interested in potentially recommending the shares.

For now, the uncertainty still remains too high. Earnings forecasts continue to fall and the legal issues surrounding the CEO and CFO’s behaviour in relation to the management buyout remain clouded, but should the shares fall further into the mid-$4’s there becomes increasing reward on offer to compensate for these risks.

This is one to watch.

Commonwealth Bank (CBA) – not as bad as feared

Last but not least, CBA results were a nice surprise to the market, and involved a core set of profits and dividend payments that matched or beat analyst downbeat expectations.

Revenue growth remains hard to come by, be it from lending margins, fees or trading activity, but outside of elevated compliance or reparation costs, the core CBA earnings report looked reasonably sound. Credit quality remains as yet unimpacted by the slowing housing market, albeit consumer arrears are definitely rising across both housing and personal loan categories and will continue to do so.

The stock and sector bounced with relief following the results, but on 13-14x P/E and with precious little revenue growth and still unresolved housing market risks, I see no reason to change what has been a pretty consistently cautious view on the major Australian retail banks that we have held for the past 3-4 years.

It is still way too early to be buyers.

Best Regards,

Jono, Guy and Jordan

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Australian Market Index

Friday 10am values

All Ordinaries6382+55+0.9%
S&P / ASX 2006297+57+0.9%
Property Trust Index1458+36+2.5%
Utilities Index7951-101-1.3%
Financials Index6365+84+1.3%
Materials Index12068-7-0.1%
Energy Index12315+287+2.4%

Key Dates: Australian Companies

Mon 13th AugustEarnings – Aurizon (AZJ), Bluescope (BSL), Domain (DHG), JB Hi-Fi (JBH) 


Tue 14th AugustEarnings – Challenger (CGF), Cochlear (COH), Dominos (DMP) 

Trading Statement – ANZ (ANZ), National Australia (NAB)

Div Ex Date – Magellan (MFG)

Div Pay Date – Sydney Airport (SYD)

Wed 15th AugustEarnings – Computershare (CPU), CSL (CSL), Insurance Australia (IAG), SEEK (SEK), Wesfarmers (WES), Woodside (WPL) 

Div  Ex Date – Commonwealth Bank (CBA), Genworth (GMA), RESMED (RMD), Suncorp (SUN), Tabcorp (TAH)

Thu 16th AugustEarnings – ASX (ASX), Downer (DOW), Origin (ORG), Sonic Healthcare (SHL), Telstra (TLS), Treasury Wine (TWE)
Fri 17th AugustN/A

Thursday Closing Values 
International Market Index

U.S. S&P 5002853+26+0.9%
London’s FTSE7741+165+2.2%
Japan’s Nikkei22598+86+0.4%
Hang Seng28606+892+3.2%
China’s Shanghai2794+26+0.9%

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Disclaimer: This information has been prepared by Primestock Securities Limited ABN 67 089 676 068, AFSL 239180 (“Prime”). Prime accepts no obligation to correct or update the information or opinions in it. This information does not take into account your objectives, financial situation or needs. Before acting on this information, you should consider whether it is appropriate to your situation. It is recommended that you obtain financial, legal and taxation advice before making any financial investment decision. Prime is bound by the Australian Privacy Principles for the handling of personal information.

This information has been prepared by Primestock Securities Limited ABN 67 089 676 068, AFSL 239180 (“Prime”). Prime accepts no obligation to correct or update the information or opinions in it. This information does not take into account your objectives, financial situation or needs. Before acting on this information, you should consider whether it is appropriate to your situation. It is recommended that you obtain financial, legal and taxation advice before making any financial investment decision. Prime is bound by the Australian Privacy Principles for the handling of personal information.


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