According to Commsec, a total of 138 ASX200 companies reported half year and 31 delivered full year results during February. For those delivering half year results, revenue rose in aggregate by 4.8% but this strength was offset by increases in expenses of 5.6%. As is usually the case, and the obvious risk of investing via index funds, the profits of BHP, Wesfarmer’s and CBA accounted for 40% of the headline 15.3% increase in profits that were reported, once removed the figure was a 5.5% fall. Special dividends were the order of the day with a number of businesses including Fortescue, Flight Centre and Wesfarmers, as well as many other mining companies offering special payouts to shareholders. The general theme however was one of increasing costs, both labour and energy, and reducing volume as consumer begin to deleverage and increase their savings rate in the midst of a property market slowdown.
According to Livewire Markets, some 40 companies who reported in February saw their share price move in excess of 10%, with at least 10 moving by more than 20% on the day of reporting their results. A summary of the movements by sector up to the end of February are shown in the table below.
For those who track ‘beats’ and ‘misses’ which we don’t find particularly useful, FN Arena reported 33.1% of companies beat expectations, 33.4% reported in line and 33.4% missed expectations. More concerningly was that broker downgrades numbered 93 for the season with only 31 upgrades.
Whilst analyst reports can be useful in predicting short-term earnings performance they generally provide little guide for the future of any given business. Most analyst we meet undertake too little in the way of in-depth research or stress test, nor critical questioning of management, preferring to focus on ratios and metrics rather than hard questioning of facts. A few of our preferred companies worth taking note of are as follows:
Commonwealth Bank of Australia (CBA): Much aligned CBA delivered a solid result in an increasingly difficult period, with cash profit up 1.7% on the first half of 2018, coming in at $4.676bn. However, signs of higher funding costs (due to global interest rate increases) meant their net interest margin fell 4 basis points to 2.10%; that makes the third consecutive half that this all important measure has fallen. CBA’s capital ratio remains strong, at 10.8% and set to benefit from the sale of their Colonial First State business. Operating expenses continued to fall, down 3.1%, with this remaining a key focus of the group, whilst in a bad sign for the future, 64% of their investment expenditure is now being directed to risk management and compliance rather than growth. The dividend was steady at $2.0 per share.
National Australia Bank (NAB): NAB provided a short quarterly update as part of their capital reporting, noting the December quarter remained difficult, as home loan competition increased, but managing to keep revenue at previous levels thanks to strong loan growth and increased lending to small businesses. Their cost cutting and transformation strategy remains ahead of the other majors, with a 3% drop in costs allowing the business to report $1.70nb in cash profit, a fall of just 3% in cash earnings against the previous quarter and an increase of 2% on 1H18. Capital remains solid at 10.0% with the potential sale of their MLC Wealth division likely to add to this in the future. The sale remains in process, with the first steps to internal separation underway and fee reductions across their major platforms aimed at ensuring they can retain customers. The biggest news of the month was the announcement that both the CEO and Chairman would step down following the revelations of the Royal Commission; yet this had little impact on the share price.
Rural Funds Group (RFF): This agricultural property trust delivered another solid result, driven by further acquisitions made during the 2018, in both cotton and cattle. Earnings increased 17% to 7.73 cents per unit (cpu) and the more important adjusted funds from operations (AFFO) were also up 7% to 6.4 cpu supporting a 4% increase in the distribution to 5.22 cpu. After the four property acquisitions, funded through debt and private placements, the fund has 49 individual properties with an average lease expiry of 11.4 years. Capital expenditure remains an increasing risk, forecast at $51.2m in FY20 and gearing remains within the target range at 33%; conservative by any means. One of the major highlights was the revaluation of the Kerarbury Almond property, which increased 10% following an independent review, taking the net asset value of the trust to $1.75, still some way below today’s share price. Management announced they would continue with the current payout ratio of around 82%, with FY19 forecast at 10.43cpu and FY20 10.85cpu. Following recent acquisitions the fund is heavily reliant on almonds (45%) and cattle (30%) by asset value.
AMP Ltd (AMP): Amid the constant media coverage around governance and the Royal Commission, AMP reported a reasonable set of results, with most business units performing well but underlying profit falling heavily from $1,040m in 2017 to $680m in 2018 due to previously announced write downs and remediation costs. More interestingly, the Australian wealth management division earnings fell only 7.2% to $363m, with AMP Capital (+7.1%) and AMP Bank (+5.7%) partially offsetting the weakness. The Wealth Management division still represents around 50% of earnings but is spread across platforms, advice and My Super product lines. AMP Capital was a particular highlight, as the direct asset focused manager of choice for global pension funds, reported that 68% of assets under management exceeded benchmarks over the year, flying in the face of the passive vs. active debate. The new CEO has announced his intention to reshape their advice model and streamline the operating process, suggesting technology and staff cuts lie ahead. On a positive note, the sale of AMP’s insurance division is appearing to be a stroke of genius following the final recommendations from the Royal Commission.
Telstra Corporation Ltd (TLS): TLS reported in line with guidance, with a 15% decline in EBITDA to $4.676bn in the first half. Management also guided to a further reduction in EBITDA for the full financial year, down to between $8.7 and $9.44bn. Net profit also fell by 28% in the first half, to $1.233bn as their fixed copper network continued to shut down as more customers moved to the NBN. As highlighted previously, TLS remains a winner out of NBN installations, which was reflected in the 28% growth in recurring NBN revenue. Political pressure continues to increase on the NBN itself, with an increasingly likelihood that exorbitant connection fees will be reduced. TLS surprised the market announcing a 239k increase in mobile customers, well above expectations and something that bodes well for the upcoming expansion into 5G. Unfortunately, the dividend was lower than forecast at 8cps rather than 8.5.
Sydney Airports (SYD): Sydney Airport reported slowing bottom line growth, caused by total passenger numbers slowing. Total passenger growth was just 2.5% for the year, 4.7% from international but just 1.2% from domestic, as it appears the weaker property market and deleveraging consumer is having an impact. Revenue increased 6.8% on 2017, with regulated aeronautical fees up 7.6%, however, both regulators and politicians are now seeking a cap on any further aeronautical fee increases, meaning SYD will need to focus on costs going forward. The result was a weaker than expected dividend up 4%, rather than the 9% announced in 2017.
Lend Lease (LLC): LLC disappointed the market once again, announced that it had slashed its dividend from 34 cents to just 12 cents as the after math of write downs in the engineering hit the other business lines. Earnings fell to just $16m from $426m in 2017 and seem to be struggling in one of the best markets for infrastructure companies in a decade. Management announced they are proceeding with an exit from the engineering division only a few months after indicating the competitive advantages it provides to their other businesses. The market was shocked by the estimated $500m cost of this closure, as it appears the issues may have spread to further projects within their portfolio. Apartment settlements were slower than expected placing further pressure on their bottom line. The growing asset management business added a further 20% in assets, to $34bn due to revaluations, however, we question whether the $106m in revaluation gains are sustainable in an increasing interest rate environment.
Orora Ltd (ORA): ORA’s first half report was below analyst expectations, but overall a solid result from a growing global business. Revenue increased 9.9% to $2.306m, supporting a 5.9% increase in EBIT to $175.1m and a 7.6% increase in net profit to $113.7m. The US retail business slowed in the first half, with sales revenue (+7.2%) of $882m, delivering a slight 1.1% decrease in EBIT to $46.5m. Whilst this may be a sign that organic growth from their acquisition spree may be slowing, we believe it is simply a blip on the radar following a number of weak US economic reports in the final quarter that have since shown signs of recovery. The Australian business delivered both volume and margin gains and benefitted from further operating leverage at the Botany papermill after extensive refurbishments in recent years. The company continued to benefit from market share growth in the core fibre, can and glass packaging and delivered a dividend of 6.5cps an increase of 8.3% on the previous year.
Qube Holdings Ltd (QUB): QUB delivered a revenue increase of 5% to $837m, which supported 11.7% growth in earnings to $93.6m and a stunning 20.3% improvement in net profit to $64.6m. Each major division added to the result, with the primary operating business, seeing revenue increase 5.6%, benefitting from the MCS acquisition. The Ports business saw solid energy, forestry and fertilizer volumes, with new contract wins across each sector offsetting weakness in steel, vehicle imports and scrap metals volumes. Bulk volumes were strong across most commodities, but particularly lithium and manganese as Australian companies seek to expand into the batter storage space. The division also benefited from the commencement of stevedoring operations to Whyalla in July 2018. The Infrastructure and property division, which included the under construction Moorebank terminal, reported a revenue increase of 10.4% and resultant profit increase of 36.7% as payments for leases and construction commence. At the time of the report some 150,000m2 of land has been finalised under lease with reservation fee income to begin in 2H19. Management expect Moorebank rail to be operational in the 3rd quarter of this year with the Target warehouse to be completed just prior. Such was the strength of the result that the dividend was increased 3.7% to 2.8c with a special dividend of 1cps also announced.
CSL Ltd (CSL): CSL announced that it was tracking at the top end of their previous guidance, which unfortunately wasn’t enough to see the share price increase on the day; analysts seemed to want more. Management reported net profit of $1.16bn up 6.8% on the previous year on the back of 8.6% higher revenue. The major disappointment was a slightly weaker EBITDA margin of 38.2% on the back of higher costs, specifically the marketing of a number of new products and expansion of the plasma collection centres. Sequris, the vaccine business, is tracking better than expected, with guidance for $1.88 to $1.95bn in profit in FY19. The company is in the process of commercialising five products that were brought to market in the last 2 years, which is both time and cost consuming, but will further solidify their market position. Importantly the company remains focused on its four key sectors, where many competitors seek to operate in every market where a profit is available. The CSL 112 product now has 1,000 people signed up for testing and analysts continue to value this business at up to $60 per share.
Boral Ltd (BLD): BLD flagged its third consecutive downgrade before reporting season, as a result there was little in the way of further surprises outside of Mike Kane effectively announcing his intention to leave the business in 2 years’ time. As flagged EBITDA fell 3% to $485m, and net profit 6% to $200m, whilst the dividend increased 4% to 13 cents per share. The business remains well positioned to take advantage of the infrastructure boom, with 38% of Australian revenue coming from this sector and 4% growth in the market alone expected. Total housing starts are expected to fall 6% on the previous year, but at just 25% and not holding underlying assets like LLC management were not concerned. Interestingly, Mike Kane suggested the housing decline would not be historic as many experts are suggesting. Unfortunately, adverse weather in the US impacted key markets as did energy price increases. The company executed non-binding term sheets to explore an expanded Asian plasterboard venture.
Coles Group (COL): Delivered its inaugural result as a standalone company, and it was a bit of a shocker with sales growth disappearing in 2019, printing at just 1.5% down from 5.1% in the previous three months. The company appears to be losing market share in NSW, as its now ageing stores and lack of investment are becoming apparent. Anecdotally, this writer sees a substantial difference between Woolworths and Coles stores today, suggesting the resurgence has come to an end, and Woolworths is back on top. COL’s lacklustre online sales channel has also impacted returns, as did higher wage and energy costs. Management announced a full strategic refresh as expected, with a commitment to improving their online platform, refurbishing more stores and investing in supply chain efficiencies. We believe this will result in lower dividends as COL seeks to rein in WOW’s cost advantage.
Westpac Banking Corporation (WBC): The company unexpectedly provided a quarterly update to the market, something it hasn’t done since 2012. They reported an profit of $1.95bn for the December quarter, which was in line with the quarterly average of 2018. They announced $281m in remediation provisions for potentially poor financial advice, but were able to see their net interest margin improve through cost cutting. Their CET 1 ratio fell to 10.4% from 10.6% due primarily to the payment of their dividend. As has been the trend, interest only lending was down to 32% of their mortgage book, and mortgage delinquencies exceeding 90 days remained historically low at 0.76% of loans. In a sign that the wealth affect may be hitting lenders, unsecured consumer debt delinquencies began to increase during the quarter.
Brambles (BXB): Logistics stalwart Brambles reported a 25% decline in profit but retained its dividend at previous levels. Sales growth recovered following a period of investment, adding 3% and 7% in constant currency terms. The company recently invested some 15m in new pallets in preparation for Brexit, as the changes to custom rules may strand parts of their asset pool. After the announcement management reported the successful sale of the reusable plastic container business, IFCO, for $3.5bn. They indicated around $1.65bn will be allocated to an off-market buy back and $300m in capital simply returned to investors. The sale allows management to focus on their core business which showed signs of weakening after a slowdown in trade and a substantial tax hit during the quarter.