Rudi’s View: Ansell, Mach7, Nitro Software, ResMed And Santos

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In this week's Weekly Insights:

-Managing Risk In Earnings
-All-Weather Model Portfolio
-Conviction Calls
-Research To Download

By Rudi Filapek-Vandyck, Editor FNArena

Managing Risk In Earnings

If you thought global supply chain bottlenecks remain on investors' radar because the outlook for inflation depends on it, you'd be half correct.

One of the market narratives that has grown popular recently is that many of those bottlenecks are finding relief, which not only means inflation pressures should start to subside, but bond markets will have to retreat from their uber-aggressive pricing of central bank rate hikes, which can only be good news for share markets.

Relief from bottlenecks also means corporate margins might not come as much under pressure as feared, so that makes for a double positive.

Enter the strong rally we have been witnessing in US equities since late September (apparently also supported through short-covering by those who had positioned themselves for a bigger fall previously).

The upshot is most experts and commentators have seemingly resigned to the fact this bull market continues to showcase its ability to surprise positively.

On my observation, most on the cautious side of the market who have been preparing for a much greater fall for equities are now prepared to accept any share market correction might not arrive until next year.

Regardless, those experts say, headwinds are building on the back of ongoing severe energy shortages across Europe, repeated set-backs in adjustments to life with covid, decelerating growth in China, and ongoing inflation challenges in the US (eating into household spending).

As the end-of-year holidays are just around the corner, many companies will likely still be struggling to get products on the shelves, meaning consumers are faced with limited supply and higher prices.

And so, it seems, the calendar year of 2021 will come to an end while holding a basket of numerous contradictory narratives, and with markets showing a penchant for positive surprise.

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In Australia, the risk is very much concentrated in corporate market updates and financial results.

As I reported last week, forecast EPS growth for the year ahead for the ASX200 has halved to some 6.5%, but one can make the argument the bulk of the decline in expectations over the past 2.5 months is due to the fall in the price of iron ore, and various other commodities, plus a non-exciting reporting season from the banks.

If we take guidance from the financial reporting season post-September, on Monday the FNArena Corporate Results Monitor shows of all reporting companies, 54.2% have beaten expectations, with both "meets" and "misses" in balance for the remaining 55.8%.

Admittedly, the tally stands at 35 companies only, and most of the disappointments recently have come through AGM addresses and quarterly market updates.

Also, those numbers hide the fact that analysts have actually been very busy making major amendments to their forecasts as the likes of Orica ((ORI)), GrainCorp ((GNC)), Megaport ((MP1)) and 29Metals ((29M)) surprised to the upside, but with the likes of Xero ((XRO)), Tyro Payments ((TYR)), James Hardie ((JHX)), Ramsay Health Care ((RHC)) and Ansell ((ANN)) triggering downgrades.

See also FNArena's weekly update (available every Monday morning): https://www.fnarena.com/index.php/2021/11/15/weekly-ratings-targets-forecast-changes-12-11-21/

In recent editions of Weekly Insights, I singled out the risk of individual corporate profit disappointment as one of the key risks for the Australian share market. However, for those among us who run a diversified portfolio, it is not easy to protect against such risk.

Should we abandon the small-cap, loss-making technology disruptor trading on elevated multiples or is it the cheaply valued covid-victim that nobody pays any attention to that has now become the riskiest holding?

What about all companies in between?

The problem with this type of risk is that it is always much easier to identify in hindsight. Companies on a roll can just as easily miss expectations as companies under operational pressure can finally beat lowly benchmarked expectations. But there never is any certainty until we get to know the details.

Which is why the real task for investors is to assess the outlook and implications post the latest market update.

One company whose challenge post-2020 has surprised me is Ansell. In hindsight, I underestimated how much of a boost last year's global pandemic, lockdowns and hospitalisations meant for the company's bottom line.

The difference between last year and 2021 can be easily read from the share price graph: last year the share price rallied as high as $42-plus, it is now languishing above $31.

That's a Big Ouch for loyal shareholders, and I am one of them.

From a broader picture perspective, Ansell's problems this year are the direct result of the unusually positive circumstances experienced in 2020 and the fact most analysis and assessments in the share market are conducted on a twelve month comparison.

The Devil's Advocate might say Ansell has simply joined the likes of Marley Spoon ((MMM)), Redbubble ((RBL)), Kogan ((KGN)) and numerous others but I disagree on the basis that Ansell has been a wonderful performer over the past decade, and there is no tangible indication that positive growth trajectory has now ended.

On that basis, I remain confident Ansell will separate itself from the lesser quality comparables that have equally found it difficult to continue performing this year, though potential for more disappointment remains.

A big and well-deserved shout out goes to the analysts at Macquarie whose analysis pointed to faster-than-expected price declines in some categories of protective gloves, which has surprised management at the company.

The likes of Metcash ((MTS)), Coles ((COL)) and Woolworths ((WOW)) were equally among last year's covid-winners, but their hurdle to surpass this year has clearly been less of an operational mountain.

A weaker share price does not necessarily compensate for the fact that risk remains for more disappointment from Ansell when the half-year financials are due in February. The All-Weather Model Portfolio has therefore reduced its exposure to the company.

Our assessment is probably best summarised by Ord Minnett, who on Friday, after cutting forecasts in preparation for ongoing tough times operationally, concluded with the statement Ansell shares offer "attractive value given our confidence the company will emerge from the pandemic with greater market share and sustainably higher earnings".

It just won't happen soon. Shareholders will have to be patient.

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Ramsay Health Care, on the other hand, showed once again that emerging as a beneficiary from post-pandemic restrictions is equally easier said than done.

Many a forecaster has identified this company as one of the obvious beneficiaries on the ASX, but reality keeps presenting barriers and limitations, as per last week's market update.

Once again, shareholders will have to be patient for longer.

Investors with less patience might be less inclined to stick with a company whose share price is unlikely to display much positive momentum leading into the new calendar year.

Which is why Wilsons' strategists responsible for the Focus List have sold out of ResMed ((RMD)) on the assessment most of next year's upside seems to be priced in already.

It has to be noted though, plenty of experts disagree, in particular since competitor Philips Respironics is still battling headwinds to please the FDA and get its competing products back in the market.

Wilsons' Focus List sold more than half of its exposure to Westpac ((WBC)) shares post disappointing FY21 result. Sector-wise, Wilsons has moved Underweight Australian banks which can serve as an indication of what the view is on the broader outlook for the sector in the year ahead.

Instead, the Focus List has added freshly listed Judo Capital ((JDO)), a disruptor for the local banking sector targeting business lending, the most profitable area of core banking. Plus the Focus List increased weightings for Aristocrat Leisure ((ALL)), Macquarie Group ((MQG)), and Goodman Group ((GMG)).

With earnings momentum rolling over for Australian companies, Wilsons' preference sides with companies whose earnings momentum is likely to remain positive throughout 2022.

Within this context, I can also report the two largest exposures on the List are CSL ((CSL)) and BHP Group ((BHP)), while Santos ((STO)) and Insurance Australia Group ((IAG)) stand equally above the field.

Among the smaller cap inclusions, we find EML Payments ((EML)), Silk Laser Australia ((SLA)) and Telix Pharmaceuticals ((TLX)), as well as newly listed Healthco Healthcare and Wellness Reit ((HCW)).

ResMed remains proudly held in the FNArena/Vested Equities All-Weather Model Portfolio, which also includes Ansell and Ramsay Health Care.

Recent editions of Weekly Insights

Three Risks Into Year-End:

https://www.fnarena.com/index.php/2021/11/11/rudis-view-three-risks-into-year-end/

Bonds Versus Earnings:

https://www.fnarena.com/index.php/2021/11/04/rudis-view-bonds-versus-earnings/

Australia's Share Market Sweet Spot:

https://www.fnarena.com/index.php/2021/10/28/rudis-view-australias-share-market-sweet-spot/

-All-Weather Model Portfolio

The Portfolio's monthly review for October:

https://www.fnarena.com/downloadfile.php?p=w&n=4BA408AC-AF35-78F5-F42D94A2CF808BF1

Conviction Calls

Guardians of the Shaw and Partners Large Cap Portfolio have decided it's best to adopt a more cautious view on global growth and inflation.

They have expressed an attraction to companies with pricing power and/or inflation-linked revenue streams. Changes made to the portfolio recently are designed to provide a greater hedge against inflation.

-Have been added: Amcor ((AMC)) and Brambles ((BXB)).

-Increased exposures: Macquarie Group ((MQG)), Santos ((STO)) and Woodside Petroleum ((WPL)) with Shaw and Partners still preferring oil & gas exposure over your typical mining company.

-No longer in the portfolio: Downer EDI ((DOW)), Suncorp Group ((SUN)), and Westpac. The latter has been dumped post what is described as a "poor" FY21 result with the shares now seen as ex-catalyst for the medium term.

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The (self-declared) software sector fanatics at the same firm, i.e. Shaw and Partners, have now removed Nitro Software ((NTO)) as a Top Pick.

In Nitro's place comes Mach 7 Technologies ((M7T)) which, judging from stockbroker Morgans' updates, seems very much undervalued by the market.

Shaw analysts agree with that assessment, of course, commenting [Mach7] "appears to have fallen through the cracks and is now too cheap for its attractive fundamentals".

The stock has been elevated to sector Top Pick, with Whispir ((WSP)) and Gentrack Group ((GTK)) in Top Pick positions two and three.

Nitro Software is still a relatively unknown software services provider which only listed on the ASX in December last year with a non-profitable business model, but full of potential, of course!

Post the initial lukewarm reception as a publicly listed entity, investors have shown their appreciation relatively quickly with the share rallying since April from near $1 to $3.75.

Shaw's decision to remove Nitro as a sector Top Pick seems logical after such a strong move upwards, but the acquisition of Connective, based in Belgium and the third largest e-sign business globally, has further fueled general optimism and enthusiasm for the stock among analysts elsewhere.

Evans & Partners analysts Julian Mulcahy and Kieran Harris, for example, are talking about a "transformational acquisition" that has significantly improved their conviction in Nitro's high growth outlook. Especially considering Connective operates from within the most stringently regulated market that is the EU.

The broker believes Connective will allow Nitro to truly compete with DocuSign and Adobe, with Nitro post acquisition offering comparable products, cheaper prices and plenty of reference sites in a still nascent market segment that should facilitate plenty of growth ahead.

Evans & Partners' valuation is $6.06 – still well above Nitro's share price.

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The Conviction List at Wilsons has seen the inclusion of clinical stage ASX-listed biopharma hopeful Immutep ((IMM)).

That decision has since been followed up by a sharp sell-down, then a partial recovery in the share price as the company updated on its Phase III clinical trials for Efti.

Backing up Wilsons' judgment were, among others, analysts at CLSA who quickly issued a research report in which they made it clear they did not understand why the share price response to the data had been so savagely negative.

CLSA responded by increasing its price target to $1.33 from $1.19, while retaining a Buy recommendation.

Before the market reaction, Wilsons' decision had been motivated by a seeming disconnect between Immutep's opportunities and a languishing share price.

Other stocks included in the Conviction List are ARB Corp ((ARB)), Collins Foods ((CKF)), Aroa Biosurgery ((ARX)), ReadyTech ((RDY)), and Plenti ((PLT)).

Research To Download

RaaS on K2Fly ((K2F)):

https://www.fnarena.com/downloadfile.php?p=w&n=554D7837-0575-EBB3-54393CCF3FACAB5D

(This story was written on Monday 15th November, 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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