Weekly Recommendation, Target Price, Earnings Forecast Changes

This story features PERSEUS MINING LIMITED, and other companies. For more info SHARE ANALYSIS: PRU

Guide:

The FNArena database tabulates the views of eight major Australian and international stock brokers: BA-Merrill Lynch, CIMB, Citi, Credit Suisse, Deutsche Bank, JP Morgan, Macquarie and UBS.

For the purpose of broker rating correlation, Outperform and Overweight ratings are grouped as Buy, Neutral is grouped with Hold and Underperform and Underweight are grouped as Sell to provide a Buy/Hold/Sell (B/H/S) ratio.

Ratings, consensus target price and forecast earnings tables are published at the bottom of this report.

Summary

Period: Monday July 15 to Friday July 19

Total Upgrades: 12
Total Downgrades: 27

Net Ratings Breakdown: Buy 40.87%; Hold 43.11%; Sell 16.02%

Downgrades are back and the come-back has been one with remarkable gusto. Last week saw 27 rating downgrades significantly outnumber 12 upgrades for the week.

The wave of downgrades is carried by three major themes: resources stocks are experiencing yet another downgrade cycle (investors will be hoping this is the final wash-out), then there are the stand out performers that are believed to be becoming too expensive and then there are the expected knee-jerk responses to companies issuing profit downgrades.

On the upgrade side, the main theme appears to be that certain stocks have become too cheaply priced and yes, that also includes resources and mining services providers.

The two stocks that had the worst week were gold and copper miners Perseus Mining ((PRU)) and Sandfire Resources ((SFR)). Both stocks were slapped with three downgrades apiece on the back of disappointing market updates.

Upgrades

ALS Limited ((ALQ)) upgraded to Neutral from Underperform by Credit Suisse. B/H/S: 1/3/4

The broker liked the acquisitions of Reservoir Group and Earth Data, as they expand the company’s presence in the oil and gas market. ALQ paid $605m, partly funded by a rights issue. The company also provided 1HFY14 guidance, predicting a 26% decline in underlying net profit on the back of further deterioration in minerals exploration and coal markets. FY14 EPS was trimmed by 5%, with minor changes made in FY15/16.

See also ALQ downgrade.

Atlas Iron ((AGO)) upgraded to Buy from Neutral by Credit Suisse. B/H/S: 5/3/0

A recent fall in the share price saw Citi upgrade its call to Buy as part of a sector review. Fortescue otherwise ((FMG)) remained Citi's top pick in the space.

Billabong ((BBG)) upgraded to Hold from Sell by Deutsche Bank and to Buy, High Risk from Neutral by Citi. B/H/S: 1/5/1

Billabong has been thrown a lifeline in Deutsche Bank's view. The company has secured a financing deal that will enable it to repay the new owners of its $289m syndicated debt facility as well as provide working capital. Altamont will buy Dakine for $70m and provide a bridge facility of US$294m until the end of the year. The deal could lead to significant dilution for existing equity holders, but Deutsche Bank said it is a positive outcome, as it provides debt reprieve and shows Altamont's faith in the value of the brands. The dilution will only come if the stock trades above current levels. Ultimately, the recommendation was been upgraded given refinance risk has dissipated.

Citi also sighed a breath of relief, noting insolvency has been avoided, but at a cost. Existing shareholders will be diluted from 100% to as low as 60% of the new register, says Citi. On the other hand, a dire risk is removed and the company will survive. Citi reported that Billabong had secured $458m in new debt facilities, although interest rates run as high as 12%. The broker predicted a small loss in EPS for FY14 and a positive, if minor result in FY15. Citi also warned a turnaround will take patience. But given Billabong’s brands remain intact and less debt pressure, Citi thinks profit margins could recover.

Bluescope Steel ((BSL)) upgraded to Buy from Neutral by BA-Merrill Lynch. B/H/S: 5/1/0

The broker said it sees plenty of upside from the falling AUD, noting every 1c drop adds $12m to operating earnings. With nothing in the way of earnings expected in FY13, the news adds significant support to FY14 estimates and the valuation. The improved confidence and higher FY14 earnings added up to an upgrade.

G8 Education ((GEM)) upgraded to Buy from Neutral by Citi. B/H/S: 1/0/0

Citi noted GEM plans to diversify its funding via a $30m unsecured corporate note at 7.35% – 7.75%. The move will provide fixed funding for up to 6 years. Citi said the company has moved away from traditional bank funding, the shift providing more flexibility for acquisitions given the lack of a security pool on the notes. CY13 and beyond forecasts were lifted by around 3% on the back of management guiding to a 1H13 result that was ahead of forecasts on better than expected organic growth from the portfolio. Citing the ongoing strong operating performance of the portfolio and the increase in acquisition firepower, the recommendation was upgraded.

Iluka Resources ((ILU)) upgraded to Outperform from Neutral by CIMB and to Neutral from Underperform by Credit Suisse. B/H/S: 4/3/1

Zircon appears to have turned the corner CIMB suggested, noting Iluka had increased sales by 143% in the first half over last year's first half. Rutile and syn-rutile sales were weak, but on a net basis the broker lifted its forecast earnings by 56% and 31% for 2013-14. Zircon prices have risen slightly, while rutile continues to fall. There is likely also more downside for TiO2 prices, but Iluka and fellow producer Rio ((RIO)) are reducing production, the broker noted. The earnings upgrades increased the target to $12.65 from $10.45, which lead to a rating upgrade.

The day before the update, Credit Suisse said it was concerned that zircon sales may have weakened. After strong demand was reported early in the second quarter, the broker said there have been no reports of price increases since early May. CS is concerned that easing housing sales in China, combined with falls in social financing, may be affecting demand and output. There is a risk that zircon price forecasts for the second half of 2013 may be over optimistic and the broker said it will be watching the commentary. Credit Suisse maintained its view that demand for titanium feedstocks will remain weak until late in the year as de-stocking downstream in the pigment market continues.

See also ILU downgrade.

IOOF Holdings ((IFL)) upgraded to Buy from Neutral by Citi. B/H/S: 3/2/1

Mark to market revisions saw FY13 EPS trimmed by 1%, pulling the price target a little lower as well. Still, with shares trading under $8.00, there's still plenty of upside, said Citi.

Pacific Brands ((PBG)) upgraded to Buy from Underperform by BA-Merrill Lynch. B/H/S: 3/3/1

BA-Merrill Lynch increased its FY13 and FY14 earnings estimates by 9% and 18% respectively. The strategic direction of the company has been re-set and the broker said the strengths of the brands should now materialise. The past three to four years have been about cutting the cost base and opportunities now exist to grow sales through investment in key brands and acquisitions. Hence, the rating was upgraded to Buy and the price target raised to $1.05 from 40c.

Resmed ((RMD)) upgraded to Outperform from Neutral by Macquarie. B/H/S: 3/5/0

The broker reviewed its case for ResMed and while Macquarie admitted the risks around competitive bidding are not to be sneezed at, the ultimate impact will arrive much later than most expect and it probably won’t be as big as most fear. In the meantime, Macquarie said that operational and currency generated margin tailwinds, as well as strong end-user demand for sleep products, should continue to deliver positive earnings surprises.

Treasury Wine Estates ((TWE)) upgraded to Outperform from Neutral by Macquarie. B/H/S: 2/0/6

Treasury Wine announced $160m in provisions in the FY13 result. Macquarie was not surprised, anticipating another year where growth eludes the company. Treasury Wine attributed the blame for the write down to distributor business models, but Macquarie suspected it was more to do with underlying demand. The broker does not believe the current business unit strategy is creating value for shareholders. The current business is too big and complicated to be successful. Despite this, Macquarie has upgraded the rating, reflecting a view around value creation from The Penfolds Wine Company – Treasury Wine's most successful brand.

Downgrades

AGL Energy ((AGK)) downgraded to Neutral from Buy by Citi. B/H/S: 4/3/0

The broker noted the company is buying a 19.9% stake in Australian Power & Gas and has announced an off-market takeover offer for the remaining shares outstanding. Citi pointed out that after a four week period of due diligence, the company has agreed to a transaction in the neighbourhood of $200m. The broker noted this will increase the customer base by 10% and will be funded via existing cash and debt. In a separate note, the broker reviewed its assumptions for the Aus energy sector, which saw slight cuts to forecasts, a lower price target and a downgrade on valuation grounds. Citi noted there has of yet been no material pick up in wholesale electricity prices and while gas prices are rising, there is still significant uncertainty about carbon and some aggressive discounting still going on in the retail end of the market.

ALS Limited ((ALQ)) downgraded to Underperform from Neutral by Macquarie. B/H/S: 1/3/4

Macquarie noted the company is looking to buy global oil and gas services company Reservoir Group for US$533m.Funding will be via a combination of debt and equity. It’s a good price and in line with stated strategy, so Macquarie said it had no issues with the deal. FY14-15 EPS accretion was pegged at 2% and 5%. ALQ also provided a trading update, with 1H14 underlying net profit expected to be $95-105m versus consensus at $107m. Macquarie called it a 16% downgrade. FY14-15 EPS was cut by 14% and 12%, which would have been worse if not for some offset from the acquisition. Challenging market conditions otherwise prevail and this will likely see the stock Underperform in the near term. Thus, the recommendation was cut to Underperform.

See also ALQ upgrade.

Alumina ((AWC)) downgraded to Underperform from Neutral by Macquarie. B/H/S: 2/3/3

Macquarie reviewed the outlook for aluminium prices. Lower price forecasts arrived on the back of the downside risk from the potential changes to LME warehouse load-out rates. This is expected to affect physical premiums and underlying aluminium and alumina prices in the near term. The broker downgraded the stock on the potential for the LME, currently an aluminium purchaser, to become a competitor. This would put pressure on earnings.

Ansell ((ANN)) downgraded to Underweight from Neutral by JP Morgan. B/H/S: 1/5/2

JP Morgan previewed FY13 and said the stock has performed surprisingly well. With the stock up 26% since the interim result and 20% above the price target, the recommendation was downgraded, largely on valuation grounds. The broker suspected that mixed production data, the inclusion of low quality property sales and a lacklustre performance from acquisitions could force a reality check on investors that have bought into the macro theme.

APA Group ((APA)) downgraded to Neutral from Outperform by Macquarie. B/H/S: 1/4/3

APA is looking at stitching together a merger with Envestra ((ENV)) for 0.1678 APA shares and a $0.03 dividend in August. It adds up to a bid price of $1.10 at the time of the offer. APA already owns around 33% of ENV, with CKI owning around 20%. The broker didin’t like the look of the deal, first because it doesn’t need to be done given the company already has 33% stake and second because it already manages to company’s assets, therefore skimming much of the cream. The recommendation was cut, the broker noting the company is again using scrip for a dilutive takeover.

Ardent Leisure ((AAD)) downgraded to Neutral from Overweight by JP Morgan. B/H/S: 0/5/0

The broker cited near-term headwinds including the risk of underperforming on FY13 expectations. Theme parks and marinas are most at risk of underperforming. In the longer term, the broker continued to like the growth potential of Main Event and health clubs.

Energy Resources of Australia ((ERA)) downgraded to Underweight from Neutral by JP Morgan. B/H/S: 3/0/1

ERA has been a strong performer in recent months, but while the stock is the default exposure to uranium prices for domestic investors, it now trades well above the broker's risk-weighted net present value. Development plans are on track. It's just JP Morgan has seen no material and specific news in the last three months to justify the price move. The rating was downgraded and the price target was reduced to $1.35 from $1.40.

Iluka Resources ((ILU)) downgraded to Neutral from Buy by Citi. B/H/S: 4/3/1

The broker noted both a price and volume recovery are both already in the price, making Iluka look less attractive than other stocks in the sector that may have underperformed significantly in 2013.

See also ILU upgrades.

Insurance Australia Group ((IAG)) downgraded to Underweight from Neutral by JP Morgan. B/H/S: 0/5/3

Insurance Australia updated on insurance margins for FY13. Given the sharp rally in recent weeks and the good result that is expected for FY13, JP Morgan moved the stock to Underweight. The price target was also reduced to $5.65 from $5.80. The broker said it does not believe Insurance Australia is as attractive on valuation grounds as it once was, trading at around 15 times FY14 earnings estimates on a dividend yield of 4.1% and with consensus margins at 13.5% for FY14 ahead of this update. Expectations are considered quite demanding.

Karoon Gas ((KAR)) downgraded to Neutral from Outperform by Credit Suisse. B/H/S: 3/2/0

At the recent analyst day management said it is looking to raise around $200m in cash and 2-3 years of capex carry by farming-out a portion of its interests in all basins in the next 6-12 months. Unfortunately, the broker said there was no update on the Proteus-1 well or permeability for Bilby-1. With shares up 18% in the past month, the recommendation was pulled back to Neutral.

Kingsgate Consolidated ((KCN)) downgraded to Neutral from Buy by Citi. B/H/S: 0/2/1

The broker pushed through some lower gold price assumptions and it resulted in lower earnings and price targets across the sector. Kingsgate was also the odd man out, being the only stock downgraded as part of the process. FY13-14 EPS was cut by 13% and 125%, pulling the price target lower.

Leighton Holdings ((LEI)) downgraded to Sell from Hold by Deutsche Bank. B/H/S: 0/4/4

Deutsche Bank analysed Leighton's revenue profile and opportunities for growth and said it expects revenue declines of 12% in FY13 and 9% in FY14. Revenue expectations were lowered for Australian infrastructure, contract mining, resources and Indonesian mining and Gulf construction markets. Revenue expectations for the Hong Kong/Macau and Indian markets were increased. As the conditions in most of the company's markets remain challenging, the broker downgraded the recommendation, with the price target reduced to $16.56 from $20.86.

Lynas Corp ((LYC)) downgraded to Sell from Hold by Deutsche Bank. B/H/S: 1/2/1

Deutsche Bank reviewed the rare earth market to determine whether demand growth is strong enough to support a 30% increase in available supply. The finding was that 2011 prices have disappeared with global economic uncertainty. Lynas was seen as being in a tough situation with sales uncertainty and possible capital issues ahead of any market recovery. Deutsche Bank lowered earnings forecasts by around 150% from FY14 to FY16 and said it does not expect Lynas to have positive earnings until FY17.

McMillan Shakespeare ((MMS)) downgraded to Underperform from Neutral by Credit Suisse and to Neutral from Buy by Citi. B/H/S: 1/1/1

CS noted the government has announced tax reform aimed at ensuring fringe benefits tax exemptions for cars is targeted at actual business use. The company has entered a trading halt, believing that if implemented, the changes will have a material impact. Credit Suisse noted a wide range of possible outcomes. The federal election may also play a role. Earnings forecasts were not changed pending further detail from the company, but the rating was downgraded and the price target was reduced to $12.10 from $15.50.

Citi also noted the Australian Federal Government wouldn’t be moving the carbon tax price from a fixed to a floating price a year earlier than previously planned given the move would impact the Federal budget by around $3.8bn. Instead, the plan is to try to offset the revenue gap by doing things like eliminating the flat 20% fringe benefit rate now used as way of claiming fringe benefits on cars. In no uncertain words, the broker says this outcome will fundamentally change the future growth potential and profitability of the company. Forecasts weren’t changed, but the valuation is cut and the recommendation was lowered.

National Australia Bank ((NAB)) downgraded to Neutral from Overweight by JP Morgan. B/H/S: 2/5/1

Conditions are improving in the UK, which should be good for asset valuations. Nevertheless, JP Morgan noted the bank's non-core CRE exposures reside elsewhere, where valuations have stalled at 15-25% below peak levels. In the case of regional shopping centres this is as much as 35% below peak. A near-term surprise is not considered likely and the broker has downgraded the stock, prepared for a slow grind.

Origin Energy ((ORG)) downgraded to Neutral from Buy by Citi. B/H/S: 4/3/0

The broker noted Origin may well be doing good work in remaining short energy in an environment of low energy prices, but the upside continues to be eroded by poor risk management and energy supply hedging. Citi noted that subdued wholesale prices are impacting on Eraring, while uncertainty around carbon costs and some aggressive competition out in the market are leading to higher costs. FY13-14 EPS was trimmed by 2.5% and 4.5%, the price target was lowered and the recommendation taken down a peg.

Perseus Mining ((PRU)) downgraded to Neutral from Outperform by CIMB and Macquarie and to Sell from Buy by Citi. B/H/S: 2/4/1

Perseus' cost inflation came as a bit of a shock to the broker and is clearly not helping when gold prices are down the drain. PRU's decision to put Tengrela on hold along with Sissinuge is a good one, the broker suggested, with Edikan guidance clear over 18 months, but vague thereafter. The broker cut FY14-15 earnings forecasts by 76% and also reduced its target to 50c from $1.20.

June quarter production may well have been in line with Macquarie, but what was really concerning were costs and profitability, with the former well above expectations and the latter falling short on what turned out to be an unprofitable effort from Edikan. The company also lowered FY14 expectations given the currently low gold price, with the processing of lower grades at Edikan for the next 18 months seeing the broker cut its forecasts. FY13 EPS was cut by down 5.8% on the higher costs, while FY14-15 were down 98.6% and 93.7% on the lower grades at Edikan and news Sissingue has been put on hold. The recommendation was also lowered, Macquarie saying while it does see some valuation upside, the high cost nature of the Edikan combined with uncertainty in the gold price makes a Buy untenable.

Citi noted 2H production came in at the bottom of the guidance range, with costs higher and FY14 guidance coming in well below Citi’s previous estimates. To make matters worse, the Sissingue project was placed in a holding pattern. FY13-14 EPS was cut by 33% and 142% in response. The revisions pulled the price target lower, which saw the recommendation cut.

Qantas ((QAN)) downgraded to Neutral from Outperform by Credit Suisse. B/H/S: 5/3/0

Credit Suisse reviewed Australian domestic aviation and now has a preference for Virgin Australia ((VAH)) over Qantas, despite the fall in Qantas' share price recently. The broker said it believes the integration of Tiger Australia and the rollout of Virgin's three brand strategy will likely result in a far more efficient and highly segmented Australian corporate and leisure market.

Regional Express ((REX)) downgraded to Neutral from Outperform by CIMB. B/H/S: 0/1/0

The broker undertook a reality check to account for still tough conditions and now forecasts a 45% drop in FY net profit. Increased costs and a weak pricing environment were held to blame. The broker also said it expects that ongoing weakness in traffic data and the falling AUD will continue to make things tougher. A disappointment at the FY result now looks certain, said CIMB, which saw the recommendation downgraded. On the flipside, post a sell-down the broker expects, it said there should emerge a good buying opportunity.

Sandfire Resources ((SFR)) downgraded to Sell from Buy by Citi, to Underweight from Neutral by JP Morgan and to Underperform from Neutral by Credit Suisse. B/H/S: 2/3/3

FY13 production was broadly in line with guidance, but Citi noted cash costs were higher than expected. FY14 guidance of 65-75kt was also below Citi’s previous estimates, which saw earnings forecasts downgraded. The broker said it also expects higher capex once we see a more detailed mine development plan. The lower production estimates and increased development capex were offset a little by lower cash costs, but not enough to keep Citi from cutting its call .

June quarter production was largely as JP Morgan expected. C1 cost data was actually better than expected. Nevertheless, near-term production downgrades led to significant downgrades to FY14/15 earnings forecasts. The broker acknowledged Sandfire is one of the few resources companies that will generate positive cash flow on an all-in basis in FY14, but said it also believes the shares are expensive.

June quarter production was pretty much in line with Credit Suisse as well. The big problem was that FY14 capex came in well above prior guidance, adding up to $82m or more in FY15. The broker was expecting to see something like $25m a year. The FY14 production guidance also fell well short of the broker given lower average grade and lower recovery rates. At least mine life and reserves were maintained, said CS. Earnings, the target price and the rating were lowered, with much due to with admittedly conservative house assumptions for near term copper and gold prices, although the higher capex also took a bite. CS continues to see significant upside potential via resource growth as exploration continues, which in turn could drive further mine life extensions and thus valuation upside.

Treasury Wine Estates ((TWE)) downgraded to Neutral from Outperform by Credit Suisse. B/H/S: 2/0/6

CIMB lowered its call and price target after the company announced it would take $160m in provisions for its business. CIMB suspected volume and margin pressure would still continue. Volume in the Americas business was expected to decline by 11.5% in FY14. The underlying cause appeared to be a lack of demand at current price points. Competitor Constellation Brands has indicated it will increase its direct marketing expenditure and CIMB said Treasury Wine will need to do the same, adding to margin pressure in FY15 and FY16.

Western Areas ((WSA)) downgraded to Neutral from Buy by Citi. B/H/S: 4/3/0

The broker downgraded copper price forecasts by around 5% and nickel prices by around 15% across the medium-term. This resulted in updates across the mining sector, with Sandfire ((SFR)) remaining the broker’s preferred copper exposure. For WSA, on the other hand, this exercise amounted to a downgrade, the broker noting lower nickel prices combined with a recovery in the share price are the culprits.

Significant consensus target price and earnings forecast changes tabled below.
 

Total Recommendations	Recommendation Changes
Broker Recommendation Breakup

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