The Wrap: Budget 2021, BNPL, Online, Mining & Infrastructure

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Weekly Broker Wrap: Budget 2021 broadly equity market friendly, BNPL’s US eclipse, online moderating, Mining & Infrastructure run-up

-Absence of fiscal (budget) repair may put upward pressure on interest rates
-Average US BNPL company growing over 10% quarter-on-quarter
-Mining & Infrastructure Services companies have 2-3 years to reach peak
-Consensus Data revenue for mining services forecast to increase 17% by FY23

By Mark Story

Budget: Good for growth and good for jobs

Given that it includes ample near-term stimulus, no tax hikes and plenty of medium-term spending initiatives, Wilsons suspects the government has clearly framed the Budget 2021 with an eye to the next election.

What may have potentially influenced the scope and timing of further stimulus, adds Morgan Stanley, is the government's negative position in recent election polling. The broker also notes marginal seat skew makes NSW and Victoria a likely focus for Opposition policies.

While there is only a marginal increase in infrastructure spending in full year 2022, Morgan Stanley also notes most of the capital budget is spent via direct capital investments. The broker also observes the budget included $10bn of measures that were allocated but have not yet been announced.

Wilsons expects the degree of stimulus to be broadly equity market friendly. However, the broker believes the complete absence of any attempt at fiscal repair may put some upward pressure on interest rates and bring forward assumptions on RBA tapering and cash rate hike timing – with the board still guiding to 2024 for the first hike.

Despite the breadth of spending and the emphasis on social welfare programs, Wilsons doesn’t believe there are too many clear sector winners from a share-market perspective.

Broadly, the broker sees the consumer sector as the winner given the extension of near-term tax rebates for low and middle incomes alongside the generally positive fiscal thrust of the budget.

But by virtue of the extension in the assumed international border closure (to mid-22) and only limited additional assistance in the budget, Wilsons suspects major sectoral losers appears to be firms linked to the international travel and inbound tourism sectors.

Wilsons expects the extension of business tax incentives to spur a further revival in business investment, much of which could flow into retail spending from small and mid-sized firms.

Wilsons expects the instant asset write-off extension of one year to FY23, to be positive for Eagers Automotive ((APE)), ARB Corp ((ARB)), Autosports Group ((ASG)), MotorCycle Holdings ((MTO)), and PWR Holdings ((PWH)). The broker also expects this extension to have positive impacts for hard line goods retailers Harvey Norman ((HVN)), JB Hi-FI ((JBH)), and Wesfarmers ((WES)).

While aged care spending should be moderately positive for Estia Health ((EHE)), Japara  Healthcare ((JHC)), and Regis Healthcare ((REG)), Wilsons expects infrastructure spending to be moderately positive for Adbri ((ABC)), Boral ((BLD)), Cimic ((CIM)), Downer EDI ((DOW)), and Seven Group ((SVW)).

Meantime, the broker believes the budget measure to reduce the cost for child care for 250,000 families will be moderately positive for G8 Education ((GEM)), and Think Childcare ((TNK)).

Further afield, Wilsons’ suspects Costa Group ((CGC)) is well placed to benefit from biosecurity measures to help the sector grow to $100bn, while excise tax relief should benefit both Lark Distilling Co ((LRK)) and TopShelf International ((TSI)).

Preventative measures for minimising disasters should provide some marginal benefit for Insurance Australia Group ((IAG)), QBE Insurance Group ((QBE)) and Suncorp Group ((SUN)).

Then there are budget provisions for hydrogen hubs, carbon capture, new emissions technologies, which Wilsons suspects could potentially marginally benefit (long dated) Fortescue Metals Group ((FMG)), Origin Energy ((ORG)), Santos ((STO)),  Worley ((WOR)), and Woodside Petroleum ((WPL)).

BNPL: US growth eclipsing the OZ experience

The US adoption rate of the buy now pay later (BNPL) sector is materially outpacing the Aussie experience, with Shaw and Partners data revealing the average US BNPL company growing over 10% quarter-on-quarter in third quarter 2021. Total customers listed in US BNPL-wide were 33 million-plus in third quarter 2021.

Highlights for sector growth were led by Paypal at 36%, and Zip Co Ltd ((Z1P))/Sezzle ((SZL)) both at 16%, representing best sector leverage to growth.

Given the size of the US market (over 220 million adult Americans), plus a significant online penetration and material tailwinds towards adoption of new forms of payment and credit, Shaw believes the depth and nature of the opportunity in the US (and internationally) cannot be understated.

In Shaw’s view, conditions remain extremely supportive for solid fourth quarter 2021 sector performance post the recent large pullback in stocks and valuations.

The sector both listed and unlisted of the major BNPL companies currently sits at over US$70bn, having risen by 75% since June 2020.

US: A blue ocean on volume & opportunity

Shaw estimates that over 10% of Americans have utilised a BNPL product, with the average spend running between 30-40% above Australia at a similar period of time. The US adoption is ahead of Shaw and the consensus expectations, and the broker expects penetration to rise materially and over 70 million active Americans within two years.

Shaw believes the US-based BNPL market remains a blue ocean on volumes and opportunity, with plenty of easy growth still to come. With structural tailwinds towards BNPL and digital payment options remaining significantly above e-commerce rates and covid, the broker doesn’t expect earnings comparisons to last year to be a problem for the sector.

Equally pleasing, the broker notes while revenue yields held up and in some cases grew quarter-on-quarter and versus the previous period, competition has not resulted in margin degradation.

Shaw also expects to see a notable pick-up in offline programs by US BNPL companies where offerings have either recently launched or just begun, far behind their Aussie counterparts. For example, while ANZ Bank's ((ANZ)) BNPL now generates around 30% of total volumes via offline means, Shaw estimates total volumes via offline means in the US at around 5%.

While competition in regard to product launches is heating up, the reality, notes Shaw, is that in the short term this has done little to dent demand and sector growth rates. Year-on-year growth rates remain buoyant with Quadpay (Zip Co subsidiary) enjoying the fastest growth at 240% (YoY) in third quarter 2021, followed by Sezzle and Afterpay ((APT)).

Significant growth in-store

Shaw notes, two largest ASX listed BNPL companies are forecast to grow 60% two years out (on 80%-plus growth in FY21). Given that this is off a significantly larger base, the broker believes this should be viewed in the context of consensus expectations having been continuously beaten.

Shaw expects all sector participants to grow in fourth quarter 2021 on third quarter 2021 and grow into FY22 de-levering headline multiples. But in Shaw’s view Zip Co, which remains favourable on all metrics – including valuation, add rates and various KPI’s – and with gross margins, yields and book efficiency likely increasing, is the broker’s favoured play for large and established US BNPL.

While not truly comparable, the broker estimates Zip Co to be currently trading at a -65-70% discount to Afterpay and trading below long term average support. But the broker expects sector growth (up to 150%) over the next two years to provide support to valuations irrespective of yield curve changes.

Online: Trends moderating & return to stores

A notably strong result given the cycling of peak-covid, SimilarWeb online traffic data grew 25% year-on-year (YoY) in April. While trends moderated, it was at an improving rate versus March (three months to April up 26%).

While household goods (-15% YoY), department stores (-9% YoY) and grocery (-6% YoY) recorded the most material declines, as panic buying is cycled, travel, fashion and outdoor performed best.

BCF ((SUL)), City Chic ((CCX)) and Universal Store’s ((UNI)) April traffic were up 61%, 134%, and 68% (YoY) respectively; while Webjet Ltd ((WEB)) was up 245% after being down around -40% over the past 12 months.

Looking at recent trends, Jarden notes in-house categories are beginning to slow at the expense of outdoor. The broker believes the moderation in part also reflects a return to stores.

ShopperTrak reported a 9% week-on-week lift in traffic for the week ending April 26th (YoY up 222%) and Bunnings ((WES)) witnessing slowing in traffic to -9% YoY, with online sales falling to -3% in first half 2021.

April traffic results were negative for pure-plays (ex-Amazon), grocers, electronics and department stores. But Jarden notes they were most positive for Nick Scali ((NCK)), Coles ((COL)), Premier Investments ((PMV)), Flight Centre ((FLT)) and Webjet ((/WEB)), Beacon Lighting ((BLX)) and Super Retail Group ((SUL)), and Shopping Centres Australasia Property Group ((SCA)).

Digital marketing lifts

Having taken a deep dive into digital marketing spend across categories, Jarden is beginning to see some retailers, particularly online-only, lifting investment in paid search / banner ads. Paid searches have materially stepped up across majority of retailers relative to April 2019 with Kogan.com ((KGN)) up over 2,100bps, Temple & Webster ((TPW)) & Catch up around 700bps – particularly marketplace operators.

While Coles was the most notable change, with paid searches up over 3x since January 2021, fashion retailers such as Glue ((AX1)) and Universal Store ((UNI)) are also leading paid search growth over the last two years  – more notably recently as apparel sales momentum has recovered.

Jarden is observing digital spend increasing across majority of retailers, particularly marketplace operators, as new entrants enter the market – like Klarna ((CBA)) and Afterpay ((APT)) – and Amazon continues building its Australian capabilities. While Amazon is the only player to have decreased its paid search share, by around -700bps, Jarden attributes this to its growing Prime membership base allowing direct marketing versus traditional channels.

Meantime, Jarden expects investment via increased opex and capex to materialise in the next 12 months, particularly as competition increases and covid is cycled.

The broker believe the retailers most at risk are those with underdeveloped online offers, particularly around use of data/customer insight, and those with the most exposure to not just Amazon but other tier 1 marketplaces as competition grows.

In Jarden’s view, JB Hi-Fi and Super Retail Group fall into these categories, with the former most exposed from a category/data perspective, and the latter primarily from category exposure.

The broker sees category killers such as Temple & Webster, Adairs ((ADH)), Wesfarmers and Beacon Lighting as the most defensive to these threats.

Mining & Infrastructure: Early stage run-up

Having taken a 'pre-peak' view on the mining cycle in forecasts from FY21 through to FY23, Jarden thinks elevated commodity prices and activity can be sustained over this period.

With commodity prices testing new highs, (iron ore and copper), exploration activity -34% below prior peak, and equity raising activity at elevated levels the broker believes the sector is still in the earlier stages of the run-up to peak.

Equally encouraging, adds Jarden, are consensus revenue and earnings (EBITDA) forecasts which still have strong growth (3-year CAGR 5%). As a result the broker estimates Mining & Infrastructure Services companies still have 2-3 years to run.

In light of this positive industry view, Jarden has initiated coverage on five companies within the Mining & Infrastructure Services sector. For pure play mining cycle exposures, Jarden thinks Emeco Holdings ((EHL)) – Buy, target price $1.55), and MacMahon Holdings ((MAH)) – Buy, TP $0.35 – provide the best risk/reward for investors.

For those balancing cyclical exposure with quality, Jarden thinks ALS Limited ((ALQ)) – Buy, target price $11.90 – provides the best cyclical earnings leverage, especially as the sector remains more in the 'pre-peak phase' of the mining cycle.

Jarden is also positive on the outlook for Monadelphous Group ((MND)) – Overweight, target price $13.55. But given the company’s earnings mix towards Maintenance & Industrial, the broker thinks Monadelphous is more likely to be a later-stage beneficiary should the mining cycle roll over.

While new contract wins are needed to increase confidence in the revenue outlook, and cost offsets, Jarden also believes NRW Holdings ((NWH)) – Overweight, target price $3.40 – is well placed to capitalise on strong industry activity.

Overall, the broker calculates that combined Visible Alpha Consensus Data revenue for mining services will increase from $4.4bn in FY20 to $5.1bn by FY23E, an increase of 17%. Similarly, expectations are for industry earnings to continue to rise; with Visible Alpha Consensus Data EBITDA is jumping from $544m in FY20 to $675m by FY23.

Jarden urges investors to consider 'pure-play' exposure or 'cycle-leveraged' diversified earners. The broker has made segmented investment decisions for the Mining & Infrastructure Services companies between 'pure plays' Emeco Holdings, MacMahon Holdings, and NRW Holdings; and 'cycle-leveraged' diversified earners ALS Limited and Monadelphous Group.

Jarden views ALS Limited and Monadelphous Group as the quality ways for investors to get exposure to the mining cycle given their less volatile earnings drivers, better quality earnings and  cash flows, and strong balance sheets.

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