Rudi’s View: Goodman Group, CBA And Tyro Payments

This story features CENTURIA INDUSTRIAL REIT, and other companies. For more info SHARE ANALYSIS: CIP

In this week's  Weekly Insights:

-A Seismic Shift
-Conviction Calls

By Rudi Filapek-Vandyck, Editor FNArena 

A Seismic Shift

If you are like most share market investors, and you still read the newspapers in print, you most likely casually glance over the property section on your way to, say, yesterday's sport updates or the weekly cultural agenda.

But not properly paying attention this year means you are missing out on one of the most profound changes that is taking place in the valuation of financial assets.

It is the reason why some of Australia's owners of bricks and mortar have been among the best performers on the ASX in recent weeks, including Centuria Industrial REIT ((CIP)), Goodman Group ((GMG)) and Charter Hall ((CHC)) with share prices up circa 27% in all three cases in less than three months.

As always, there are multiple drivers in place but investors should not simply assume that a generally more relaxed attitude towards inflation, as also expressed through much less volatile bond markets, is the sole responsible factor for this remarkable bounce in share prices.

Quality industrial is the new black

An important clue of what is driving share prices of the property owners and developers mentioned can be found in the recent market update lodged by Centuria Industrial REIT to the ASX on June 1st.

In it, Australia's largest listed pure play owner of industrial assets revealed a general re-assessment of the asset portfolio had led to an 11% increase in like-for-like book values, in large part the result of the Weighted Average Capitalisation Rate falling by -42bp to 4.53%.

If this had been an announcement made by a producer of iron ore, gas, copper or even poultry or cattle, the news would have been splashed across the front pages of all major newspapers, with highlights on the evening news bulletins, but industrial property?

This by no means makes the announcement less important, see also the respective share price performances following the market update.

What we are experiencing is potentially a seismic shift in the valuation of highly sought-after bricks and mortar assets, driven by the fact that assets such as data centres and modern warehouses have a direct link to new megatrends such as e-commerce and the explosion in data usage, plus the fact that more traditional property assets, including offices and shopping malls, now carry a lot of question marks about their value and use-by date longer-term.

Investors in the share market might still be debating whether work-from-home is here to stay, and in what capacity and impact exactly, or how much more value depreciation lays ahead for shopping malls in CBDs and quiet neighbourhoods, it appears large investors in property markets have already made up their mind.

From the aforementioned Centuria statement: "Australia's industrial real estate market remains a highly sought-after sector attracting investment demand from domestic and international capital. Within the past six months the market has seen elevated transaction volumes with major asset and portfolio sales setting new benchmarks, which has resulted in significant compression of capitalisation rates compared to previous reporting periods. A substantial weight of capital continues to create competition for quality assets."

Lower cap rate means higher values

For those who are less familiar with the specific lingo used, Weighted Average Capitalisation Rate can simply be referred to as average cap rate and the cap rate is effectively the income from the property as a percentage of the total value ascribed.

If you pay $100 and the contractual income is $5 per annum then your cap rate is 5%.

But here's where strong demand and changing risk perceptions are starting to change property market values and dynamics.

A cap rate of 5% seemed pretty market conforming up until last year. In 2021, as also indicated by that ASX statement, the cap rate for a modern, quality industrial asset is trending towards 4.5%, and potentially closer to 4%.

What this means, in our example of an asset valued at $100, is that investors are now willing to purchase that same property for $110, bringing the cap rate down to 4.5%.

Were that cap rate to drop to 4% the same property would be worth $125.

FNArena already reported on this change taking place in April: https://www.fnarena.com/index.php/2021/04/21/significant-re-pricing-ahead-for-industrial-assets/

It has taken a little longer, but the share market is now genuinely paying attention. And so is the rest of the sector. No doubt, similar revaluation updates are being prepared at Goodman Group, Charter Hall and other listed owners of similar properties, including Charter Hall Long WALE REIT ((CLW)), Stockland ((SGP)), GPT Group ((GPT)), and Mirvac ((MGR)).

All have experienced firm share prices in recent months, though not necessarily in line with the three peers mentioned earlier. The real stand-out, however, is Mirvac whose share price has now rallied more than 30% since bottoming in February. Mirvac also brings along a firm leverage to domestic residential markets, as well as offices and commercial retail.

In similar vein to, for example, Charter Hall, Mirvac's porfolio also includes assets that might have to be devalued (office and retail), but investors are taking the view the positives from the industrial assets portfolio outweigh any negatives.

Goodman Group and the 'value' debate

The above would in particular apply to Goodman Group and Charter Hall whose creating-value-for-shareholders strategies are closely intertwined with asset management and new project development.

Within this context, it is very telling sector analysts at JPMorgan recently discussed whether Goodman Group should now be treated as a high-quality growth stock on the ASX?

JPMorgan suggests the answer is 'yes'. On its assessment, current projects under development virtually guarantee 10-15% per annum in sustainable growth in Assets under Management (AUM) and management fees. The broker also believes that were margins and developments to come under pressure, the company's balance sheet can be used to support growth in earnings.

JPMorgan believes Goodman Group's strong growth profile will last for the next 3-4 years, with a projected 14% CAGR in earnings per share over the next three years. Ultimately, the broker acknowledges, annual growth in EPS will revert back to the old and familiar 6-8%, but few investors would be concerned about such slowing in today's context.

Years ago, Goodman Group used to be a staple for retirees seeking steady income from the share market. The re-rating of the stock that has occurred since has triggered many calls of over-valuation but it is not more than fair to conclude those calls were born in the rear view mirror and wrong, as the share price has continued to set new all-time record highs.

Goodman Group shares have now doubled in value since mid-2018. Clearly, sector analysts at JPMorgan don't think the share price has travelled far enough north just yet, as also indicated by the fact all seven stockbrokers in the FNArena universe who cover the stock still hold a positive view.

The upcoming asset revaluation update is simply yet another positive in support of a share price that is now trading on a forward multiple of 28x on FY22 consensus forecasts, for an implied dividend yield of 1.5%.

Mind the differences

For Charter Hall, which is a lot smaller than Top20 member Goodman Group, the numbers look slightly different with FY22 forecasts implying today's PE multiple is only 21.5x for a yield of 2.7%, but then investors should not assume the exact same dynamics apply equally to all companies in the sector.

Charter Hall combines two of Goodman Group's prime features -asset management and industrial project development- with offices, commercial retail and social infrastructure. Its EPS growth profile, judging from the years past, is also less steady and predictable.

Centuria Industrial REIT is yet again another few steps down from Charter Hall in terms of market capitalisation. Given its much less diversified scope, it is valued in more traditional REITs style; dividend yield relative to bond yields.

At the current share price, shareholders can look forward to circa 4.5% with the share price post strong rally probably due a pause, but nevertheless supported by strong industry dynamics.

The conclusion from all of the above is that we might be witnessing a major schism inside property market valuations driven by covid-19 and identifiable megatrends that will remain with us for many more years to come.

Assessing the exact impact and consequences won't be easy for investors, as no two assets are identical, while most REITs and asset owners have different portfolios, profit drivers and strategies.

But times they are a-changing and for the likes of Goodman Group, Charter Hall and Centuria Industrial REIT it is more than plausible this year's new dynamic will cement their profile as the better growth alternative among peers.

Conviction Calls

It had been a while since Morningstar last updated on its Best Stock Ideas and one glance over its selection of 15 stocks immediately shows why: none of these companies have been shooting the lights out recently. Their share price performances haven't either.

Since the last update, Avita Medical ((AVH)) has been removed, and not because its share price has rallied. Quite the contrary which just goes to show, once again, that a cheap looking share price is not by definition an opportunity. Plus specialists like Morningstar can be bamboozled too.

Morningstar clients and followers will be keeping their fingers crossed for better performances out of the remaining 15 as virtually all selected stocks share that one common characteristic: the index is near an all-time record high, but you wouldn't know if your focus had only been on these 15 share prices.

So here they are, the 15 stocks that have been largely neglected thus far, but do represent, in Morningstar's view, excellent opportunity:

-a2 Milk ((A2M))
-AGL Energy ((AGL))
-Brambles ((BXB))
-Challenger ((CGF))
-Cimic Group ((CIM))
-Computershare ((CPU))
-G8 Education ((GEM))
-InvoCare ((IVC))
-Link Administration ((LNK))
-Magellan Financial ((MFG))
-Spark Infrastructure ((SKI))
-Southern Cross Media ((SXL))
-Viva Energy Group ((VEA))
-Whitehaven Coal ((WHC))
-Woodside Petroleum ((WPL))

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Meanwhile, analysts at JPMorgan are continuing with their Mid-Year sector updates, including nominations of Top Pick and Least Preferred for each sector.

Combining transport and infrastructure, JPMorgan's Top Pick is Qantas ((QAN)), while Sydney Airport ((SYD)) sits at the bottom of the broker's sector preferences.

Balance sheet repair and a stronger domestic market positioning are behind the positive view on Qantas, while Sydney Airport is much more dependent on international travelers; it might have to start paying tax in 2024 and that extra airport in Western Sydney will start having an impact post 2026, predict the analysts.

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JPMorgan's Mid-Year updates also included the banks and here the preference remains with Macquarie Group ((MQG)), not a real bank per se but equally not too highly priced in light of the kind of growth numbers that can be achieved from smart asset management, in the view of JPMorgan.

Least Preferred is CommBank ((CBA)), because it always trades at a sizeable sector premium and JPMorgan is of the view that were the current premium to widen even further, this would, at some stage, set up the stock for a heavy fall.

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Another sector that has passed the Mid-Year review concerns the diversified financials with IOOF Holdings ((IFL)) nominated as Top Pick and Netwealth ((NWL)) as Least Preferred.

Readers might remember JPMorgan doesn't much like Hub24 ((HUB)) either and its dislike for Netweatlth has a common feature: increasing competition among platform operators will put pressure on margins, and high valuations will be punished for it.

By choosing IOOF Holdings, the analysts are backing a cheaper valuation and the potential for synergies out of merging the core businesses with ANZ Bank's wealth operations and National Australia Bank's MLC business. IOOF Holdings is now the largest financial advice business in the country.

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Among technology stocks, Hub24 (there you have that same name again) is Least Preferred with JPMorgan taking a firm liking of cloud centre infrastructure provider NextDC ((NXT)), arguing the sector's Top Pick is simply not expensively priced when measured against its superior growth profile vis a vis international peers such as Equinix Data Centres.

And no, reaffirms JPMorgan, investors should not worry about capacity outstripping demand in either Sydney or Melbourne, even though every company in the sector continues to build additional capacity.

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Outside of the Mid-Year sector reviews, JPMorgan's preference among emerging companies in Australia now lays with Tyro Payments ((TYR)) as Top Pick, while Flight Centre ((FLT)) is the bottom pick. The latter's share price simply requires a growth path that seems unrealistic, argue the selectors.

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In an attempt to make sure JPMorgan would be well-represented in this week's Weekly Insights, we suspect, the broker also repeated its Dividend Super Seven in Australia, which remain: ANZ Bank ((ANZ)), BHP Group ((BHP)), Fortescue Metals ((FMG)), National Australia Bank ((NAB)), Rio Tinto ((RIO)), Super Retail ((SUL)), and Vicinity Centres ((VCX)).

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Ord Minnett equities strategist Sze Chuah lined up her favourite sectors to prepare for central bank tapering in the months ahead; industrials, energy, financials, and materials.

At the specific equity levels for each of those sectors, Ord Minnett nominates:

-Among banks (covering financials); Macquarie Group, ANZ Bank ((ANZ)), and National Australia Bank
-Among industrials; Downer EDI ((DOW)), Qube Holdings ((QUB)), Cleanaway Waste Management ((CWY)), Service Stream ((SSM)), and Transurban ((TCL))
-In the energy sector; Origin Energy ((ORG)) and Santos ((STO))
-In the materials sector; Alumina Ltd ((AWC)), Amcor ((AMC)), Galaxy Resources ((GXY)), James Hardie ((JHX)), and Rio Tinto ((RIO))

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Finally, stock pickers at stockbroker Morgans made a few changes to their list of Best Ideas for the twelve months ahead. Last week's update revealed the removal of Baby Bunting ((BBN)) and Universal Store ((UNI)); both due to strong share price appreciation. Clearly, a different style from Morningstar rules at Morgans.

Have been added to the list: ANZ Bank, Sonic Healthcare ((SHL)), Reliance Worldwide ((RWC)), Tyro Payments, and Whitehaven Coal ((WHC)).

Morgans' Best Ideas contain no fewer than 39 ASX-listed stocks with large overlap with the choices mentioned earlier.

Companies that may not necessarily enjoy similar favouritism elsewhere are TPG Telecom ((TPG)), Frontier Digital Ventures ((FDV)), Booktopia Group ((BKG)), Bega Cheese ((BGA)), Mach7 Technologies ((M7T)), and HomeCo Daily Needs REIT ((HDN)).

(This story was written on Monday 7th June, 2021. It was published on the day in the form of an email to paying subscribers, and again on Thursday as a story on the website).

In addition, since FNArena runs a Model Portfolio based upon my research on All-Weather Performers it is more than likely that stocks mentioned are included in this Model Portfolio. For all questions about this: info@fnarena.com or via the direct messaging system on the website).

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