Tag Archives: Banks

article 3 months old

Weekly Broker Wrap: Telematics, Media, Broadband, Wealth and Transport

-Telematics take up likely to be slow
-What's likely on media reform agenda?
-Broadband returns decline, mostly for Telstra
-What issues ahead for diversified financials?
-Picking the best in subdued transport sector
 

By Eva Brocklehurst

What is telematics? Morgan Stanley has a survey which shows that 20% of Australian motorists are ready to give telematics insurance a go. Telematics measures how, when and where you drive in order to price insurance more precisely for the individual. The insured connects a BlackBerry-sized device to the car and that connects with GPS and mobile networks. All cars made from 2000 onwards are capable of telematics. The device can track location, and driving behaviour such as accelerating and braking as well as swerving and lane-switching. An actuarial logarithm then translates this data into a behavioural risk score. Presto! You're measured for insurance.

Morgan Stanley observes that, unlike the UK where the market is three years old, Australia does not have widespread market pricing failures that would accelerate the adoption of telematics. Moreover, in the US and UK insurance combines bodily injury and motor, making the economics more compelling. Telematics has a 0.6% share of the UK market and in the US, where penetration is higher, it's estimated at 2-3%. So it's not likely to take off like a rocket.

Morgan Stanley thinks that once telematics gains initial acceptance here it will fuel its own growth as community rating systems break down. The insurer absorbs the costs of the device which could cost $100 but Morgan Stanley thinks the economics make sense on a policy over $900. Telematics calls for more underwriting and more data handling, including the cost of connecting to a mobile network. The potential to bundle with CTP green slips would make it even more attractive. The benefits for insurers include the fact that less risky drivers are likely to select telematics first, and there'll be higher retention of such customers once they're "connected". Morgan Stanley thinks, eventually, car manufacturers, or telcos for that matter, risk displacing direct motor insurers if they do not enter this market. While the analysts at Morgan Stanley think this option is inevitable it is unlikely to grow fast. They estimate the current market potential is around 7%, but expect this to rise as technology gets cheaper and major insurers get involved.

The change in the federal government has caused JP Morgan to put a spotlight on potential media regulation reform. Such reforms are more likely to occur in FY15. The potential list includes the scrapping of the 75% reach rule and a review of the 4.5% FTA licence fee. The scrapping of the 75% reach rule is likely to be a trigger for regional and metro consolidation in the industry. In June a parliamentary committee supported the removal of the rule. The committee was of the view that the rule was becoming redundant with the advent of the internet and converging media. JP Morgan considers the most likely beneficiaries of the scrapping of the rule would be Prime Media ((PRT)) and Southern Cross Media ((SXL)). In the case of the potential review of the Free-To-Air licence fee, JP Morgan rates a reduction as a one-in-three chance.

In a speech to parliament earlier this year the now Minister-elect for Communications/Broadband, Malcolm Turnbull, noted that Australian FTA fees were relatively high by global standards. Should these fees be reduced further, JP Morgan would expect further legislative requirements for FTA stations, such as increased Australian content obligations. Modelling for a 0.5% and 1% reduction scenario, the FY15 earnings estimate for Seven West Media ((SWM)) rises 2% and 4% respectively. For the Ten Network ((TEN)) it rises 6% and 12% respectively.

Australian telcos may have attractive dividend yields of 5.3% for FY14 forecasts but Morgan Stanley thinks the 10-year government bonds at 4% offer a justifiable alternative. Slowing Free Cash Flow growth and the decline that's expected in broadband industry returns underpin the broker's Underweight call on Telstra ((TLS)). In contrast, NBN-driven regional share gains should see increasing returns for the likes of iiNet ((IIN)) and the broker is Overweight on that stock. Profit taking has been dominant in the telco sector recently but Morgan Stanley still views iiNet, TPG Telecom ((TPM)) and Singapore Telecom ((SGT)) as attractive.

Why does Morgan Stanley think Telstra's returns will decline? Telstra's competitors have new mobile pricing plans which could see a potential change in market share and this is yet to be priced in by the market. Based on the broker's analysis these are not domestic price decreases, so a seven times EV/EBITDA multiple is still applied to Telstra's mobile business, in line with global peers. Changes to international roaming fees are one genuine change to the industry, which could inspire consumers to move away from Telstra. Morgan Stanley expects Telstra to gain 0.5 percentage points of mobile market share in FY14. 

What the broker finds a major problem with is the market pricing in declining returns for all players. Broadband industry returns are set to decline, yet smaller ISPs, such as iiNet are expected to increase returns and take regional market share. Hence, Telstra's price/earnings ratio should contract to 14 times from 15 times on slowing cash flow growth, in the broker's view. The company's 3-year FCF compound annual growth rate should slow to 7-8% from 12-15%. Historically this measure is a predictor of multiples expansion and, hence, a slowing rate means multiples compression.

Citi has changed some calls on the diversified financial sector in the wake of reporting season. The broker lifted ratings on Perpetual ((PPT)) to Neutral and dropped Henderson Group ((HGG)) and IOOF ((IFL)) to Neutral. The broker became significantly more positive on Challenger ((CGF)), lifting it to Buy, following the best annual result in a very long while.

What has Citi deduced from the results overall? Equity market performance is still key to the sector performance with Henderson, IOOF and Perpertual earnings strongly leveraged to markets. ASX ((ASX)) and Computershare ((CPU)) are positively leveraged to trading and corporate actions. Citi maintains Computershare is the most leveraged it has ever been to short-dated interest rates. Despite the low interest rates, annuity sales momentum also looked strong in June and continued into July and August. While not out of the woods, the broker suspects funds management may be past a turning point.

IOOF has revenue pressures, including platform margin pressure, but cost control is a mitigating factor for Citi, even if IOOF is unsuccessful in its bid for Trust Co ((TRU)). Counter bidder Perpetual is relatively expensive, but Trust is seen as a worthwhile accretive acquisition. Meanwhile, ASX is considered relatively safe but unexciting. There is little sign of IPO or secondary capital raisings picking up materially, and new initiatives such as collateral management and OTC clearing are not expected to make a substantial difference for some time. Derivatives volumes did rise in FY13 but, in Citi's opinion, if interest rates are more stable then these too may subside.

Soft economic conditions and slowing resources activity meant a challenging end to FY13 for the transport industry. CIMB notes growth was below that recorded in the first half for all stocks except Toll Holdings ((TOL)) and Qantas ((QAN)). Toll was cycling a weak result in the second half of 2012, while Qantas benefited from an accounting estimates change. Overall, the airlines were hit the hardest as a combination of excess capacity in the domestic market and weak demand affected yields. Logistics operators, such as Toll, Brambles ((BXB)) and Qube Logistics ((QUB)) faced sluggish consumer demand, while Asciano ((AIO)) and Aurizon ((AZJ)) faced a softening coal market. All this is expected to persist in FY14, making earnings growth a challenge in the year ahead.

Qantas and Virgin Australia ((VAH)) have the most risk going forward because of excess capacity in the market and soft demand, according to CIMB. Toll and Qube also have risks, given the continued weakness in the broader economy and their exposure to the resources industry. Less risky are Asciano, Aurizon and Brambles. Brambles was re-rated Outperform at the FY13 result as CIMB thinks valuation multiples are now more reasonable. The broker's other key picks are Asciano, for its double-digit earnings growth profile combined with attractive valuation multiples, and Qantas, where there's an opportunity to add some cyclical risk to the portfolio with limited downside. CIMB finds downside risks continue for Virgin Australia while Toll and Qube are starting to trade above fair fundamental valuation.
 

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article 3 months old

Treasure Chest: Special Dividend From Suncorp?

By Greg Peel

Suncorp Group ((SUN)) had pre-announced its profit result before the actual August 21 release so there were no surprises to be had. Brokers agreed the insurer had come through its difficult transformation and had now de-risked, but there was also agreement there was not a lot of organic growth opportunity ahead in FY14. And ongoing industry-wide structural issues with life insurance will provide a drag.

Insurance Group Australia ((IAG)) posted an absolute cracker of a result – so good in fact, that brokers were inclined to think it could never be repeated, albeit this result was also pre-hinted at. This does not mean brokers no longer like the stock, it just means that IAG’s performance from here won’t be quite so spectacular. At least IAG is not exposed to life insurance drag.

Post results, Suncorp attracted four Buys to one Sell from eight FNArena database brokers while IAG attracted four Sells and no Buys. An investor might assume from the commentary above IAG was the better prospect, but the problem is the market priced IAG as if it were going to have an FY13 result every year.

Positive feeling for Suncorp, despite a subdued outlook, lends a lot to the company’s excess capital and management hints regarding further capital returns. Capital was a good enough reason for Citi to upgrade to Buy post-result. One way to return excess capital is to issue a special dividend, and CIMB insurance analysts have today issued a report suggesting another special will be forthcoming in the second half of FY14.

Suncorp boasted excess CET1 capital of $804m at the end of FY13, notes CIMB, and given the insurance business has been de-risked the analysts feel that all of management, APRA and the ratings agencies would have no qualms if the excess capital level was closer to $500m. That leaves around $300m for a special. And CIMB forecasts excess capital of $1.1bn by end-FY14.

Even if Suncorp were to increase its CET1 target to 8.5%, which is Bank of Queensland’s longer term target, the company would still be rolling in excess, CIMB points out.

On the other hand, despite IAG’s fabulous result its capital situation is a lot tighter. CIMB does not see a special from IAG before FY16 and believes the company will pay out in the middle of its 50-70% range in the interim. CIMB thus prefers SUN to IAG.

Macquarie is also expecting an FY14 special from Suncorp, and has pencilled in 15c. Yet the broker has just undertaken a detailed review of the reserving adequacy of both insurers and in this case IAG comes out the better. IAG’s reinsurance protection and zero exposure to life insurance mean that for Macquarie, IAG trumps SUN. The broker has upgraded IAG to Buy.
 

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article 3 months old

Overwhelming Relief At McMillan Shakespeare

-Some hangover likely in FY14
-Ramp up to profitable growth expected
-Heightened sensitivity to remain
 

By Eva Brocklehurst

The federal election is over and leasing and salary packaging consultant, McMillan Shakespeare ((MMS)), is breathing a sigh of relief. The former Labor government had intended to take the razor to the fringe benefits scheme, which would have substantially affected individual salary packaging and novated leasing. These items form a large part of McMillan Shakespeare's business. There was a rush to downgrade the stock among analysts. Then, as the Labor government increasingly looked a lost cause, the views started to improve. The incoming Coalition had stated those changes to the Fringe Benefits Tax would not be made.

Citi has reviewed the stock after the election and the company's update and finds there will be a some hangover in FY14 as a result of the uncertainty created by the former government's intentions. The broker retains a Buy rating. Credit Suisse, another broker covering the stock on the FNArena database, re-rated the stock back to Neutral from Underperform in the wake of the August financial results and the increasing likelihood of a Coalition victory. BA-Merrill Lynch slashed forecasts, downgrading to Underperform from Buy, in the wake of the Labor plans and is yet to update on the stock. The company had imposed a ban on communications with analysts, shareholders and the press until after the election when its position would become clearer.

McMillan Shakespeare could not sell new employer novated leasing contracts after July 16 or implement some of those won prior to that date until the quantum of planned changes, or abandonment thereof, was known. Business should now be returning to normal but there will be a ramp up. Corporate clients that shut down their programs may need to agree to re-start and individual clients need to be reassured. Citi observes, even with business as usual, there is a 42-day novated lease cycle.

Outside of this, the company expects ongoing profitable growth in remuneration services through new contracts and participation growth. McMillan Shakespeare is also confident about the UK joint venture, where it has secured a GBP15m credit line to help fund its 50% stake.

Goldman Sachs believes it is too early to say whether the recent regulatory uncertainty for novated leasing may have put off potential customers, or has actually raised awareness of novated leasing. This is where there may be some upside for the stock. Some customers terminated novated leases and their return may therefore take some time. The broker estimates vehicle re-marketing profits fell to 9% from 12% of group earnings in FY13. A pick up in FY14 is expected with more vehicles coming off lease, bolstered by vehicles where the lease conclusions were deferred from FY13 because of the weak economic environment.

Goldman has reduced FY14 earnings estimates by 7%, reflecting a slower ramp up in novated leases, but has increased FY15/16 estimates by 5% reflecting lower funding costs and a pick up in vehicle re-sale profits, because more vehicles will come off lease in FY14. Citi has no doubt the first half of FY14 will be volatile. FY14 profit is expected to fall 22% to $48.5m. This assumes no business is written in new sales or renewals for the first four months of FY14, approximating the time between the Labor government's FBT policy announcement and the election, and the length of a novated lease cycle.

The issue has also raised the sensitivity bar of the stock. Any future review of taxation conducted by the incoming government means a light will also be cast in McMillan Shakespeare's direction, in Goldman's view. Citi also notes, being a small cap stock which is highly leveraged to one theme, ie government incentivised benefits, this remains a key risk. It has a number of positive traits including strong operating cash flows, solid debt covenant coverage, and medium-term visibility because of the long-term nature of the contracts. Citi observes there is also a concentration risk, with one client, the Queensland government, representing over 30% of total packages.

In Citi's summation, given the entire industry was subjected to the regulatory volatility, McMillan Shakespeare should be well placed to regain previous momentum in due course, although any profits generated may reflect less of a price/earnings premium given the potential to view the stock as not impervious to regulatory risk.
 

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article 3 months old

Macquarie Group Upside

By Michael Gable 

There’s a lot of chatter at the moment over the election result and what it means for the market. We already covered off on that idea in our report on 20 August so we will now move on to other ideas. With the potential for action in Syria, we are seeing gyrations in the price of oil and gold. While energy stocks still generally look good from a medium-longer term perspective, the gold trade is just a short term one in our view. We looked at Newcrest Mining ((NCM)) two weeks ago and that is once again shaping up as a good short term trade, but our advice to investors is to not ride it for too long. More trade data out of China has once again provided a short term lift for resources in general and some are saying that Japan winning the Olympics will provide a boost for resources companies. But you would think that someone had to win the Olympic bid and start building stadiums anyway, so we fail to see how that can be a factor in a resources rally.

In today’s report we have looked at a couple of stocks which are classified as “high beta” and which should do very well if the market continues to push higher over the course of the year. In Macquarie Group ((MQG)) and Leighton Holdings ((LEI)), we have two stocks which investors should seriously consider adding to their portfolios if they are looking to start rotating out of overpriced stocks and into those which can outperform the market.

Macquarie Group

We looked at MQG in our “Charting” section a couple of weeks ago. We looked at the very exciting price action continuing to develop on MQG which suggests that we are close to seeing significant upside. For the last few months, and especially in the last several weeks, we can see the share price of MQG start to converge to a point around $44. This symmetrical triangle is like a compressed spring and once it breaks out, we can get a very impulsive move. Since MQG has been trending up, the likely breakout will be to the upside. The last couple of days have seen MQG knocking on the door of a breakout to the upside. If that were to occur, we could expect to see MQG rally up towards the mid $50s.
 

Content included in this article is not by association necessarily the view of FNArena (see our disclaimer).
 
Michael Gable is managing Director of  Fairmont Equities (www.fairmontequities.com)

After leaving Macquarie Bank's Securities Group in 2008 after many years of service, Michael has gained a highly regarded reputation in the financial services industry. As a Private Client Adviser with Novus Capital, Michael has become a popular live commentator and analyst for Sky News Business Channel’s “Your Money, Your Call” program. He is also the author of the weekly stock market report “The Dynamic Investor”.

Michael assists investors to achieve their goals by providing advice ranging from short term trading to longer term portfolio management.

Michael deals in all ASX listed securities and specialises in covered call writing to help long term investors protect their share portfolios and generate additional income.

Michael is RG146 Accredited and holds the following formal qualifications:

• Bachelor of Engineering, Hons. (University of Sydney) 
• Bachelor of Commerce (University of Sydney) 
• Diploma of Mortgage Lending (Finsia) 
• Diploma of Financial Services [Financial Planning] (Finsia) 
• Completion of ASX Accredited Derivatives Adviser Levels 1 & 2

Disclaimer

Michael Gable is an Authorised Representative (No. 376892) and Fairmont Equities Pty Ltd is a Corporate Authorised Representative (No. 444397) of Novus Capital Limited (AFS Licence No. 238168). The information contained in this report is general information only and is copy write to Fairmont Equities. Fairmont Equities reserves all intellectual property rights. This report should not be interpreted as one that provides personal financial or investment advice. Any examples presented are for illustration purposes only. Past performance is not a reliable indicator of future performance. No person, persons or organisation should invest monies or take action on the reliance of the material contained in this report, but instead should satisfy themselves independently (whether by expert advice or others) of the appropriateness of any such action. Fairmont Equities, it directors and/or officers accept no responsibility for the accuracy, completeness or timeliness of the information contained in the report.

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article 3 months old

Austbrokers Lays Firm Foundation For FY14

-Brokers find guidance conservative
-Firm FY14 expected
-More acquisition potential exists
 

By Eva Brocklehurst

Austbrokers ((AUB)) revealed growth in commission and fee income in FY13. A key difference in the results, compared with Macquarie's forecasts, was the greater contribution from profit commissions paid by underwriters, although the broker cautions about reading too much into this as these commissions can be volatile. Commission and fee income in the broking network rose 6.2% with premium rate increases largely confined to property classes with liability rates that were either flat or slightly lower.

It was business as usual for most brokers but, despite the firm results, Credit Suisse decided to downgraded the stock to Underperform from Neutral, expecting minimal organic growth in FY14 and some headwinds for near-term earnings. FY13 benefited from a period of higher interest rates, favourable profit commissions and rising premium rates but Credit Suisse sees all three potentially pulling back in FY14. This aside, the broker still thinks FY14 will show a profit rise of 11.7% on FY13, slightly above management's guidance.

UBS has raised profit estimates by 2.9% in FY14 and 2.4% in FY15, given operating leverage, as efficiency initiatives flow through, combined with recent acquisitions. The broker noes the stock was carrying higher costs into a softer interest rate market but thinks this should normalise in FY14. Austbrokers continues to capitalise on enterprise software such as iClose, as well as its business pricing and quote system. UBS believes the economic outlook for the small and medium enterprise sector will be the key driver of earnings ahead. Acquisition opportunities may still abound, but the broker recommends patience. Longer term, the relationship with IBNA, which collectively controls over $900m of business, should provide further acquisition opportunities, in UBS' view.

Macquarie hailed the results, driven by good growth in the insurance broking and underwriting agency businesses, which more than offset an increase in corporate costs. FY13 produced heightened acquisition activity and the broker suspects this may continue into FY14, albeit not at the same level. Macquarie is comfortable with forecasts, at the top of the company's guidance range for 5-10% adjusted profit growth.

For Goldman Sachs this growth outlook is conservative. The majority of the FY13 growth was organic but the broker expect acquisitions to contribute half of the 16% profit growth it forecasts for FY14. Management noted that premium rate growth is moderating slightly to 3-4% versus the 5% witnessed over the last two years. Hence, Goldman has erred on the cautious side and downgraded FY14 and FY15 earnings forecasts by 4% and 3% respectively, to reflect higher corporate costs and slightly lower premium rate increases. A Buy rating is retained. The stock is trading on an FY14 estimated price/earnings of 17.7 times, a 13% premium to the Small Industrials. This is a small premium for a business with strong organic growth, meaningful acquisition opportunities and relatively low economic sensitivity in Goldman's view.

 Macquarie estimates the full year's contribution of recent acquisitions, including InterRisk (77.1%), Lawson and Guardian Underwriting agencies (90%), and the 50% stake acquired in WRI brokers for $4.5m on July 1, will contribute over 5% to FY14 earnings growth. Premium funding increased 19% over FY13 reflecting a flow-through impact of acquisitions undertaken previously, coupled with the benefits arising from the deal with Hunter Premium which commenced in July 2012. Of FY13's acquisitions, InterRISK increases the company's presence in the mid market and corporate sector and should help increase the operating leverage going forward. InterRISK is anticipated to be around 3% accretive in FY14. Lawsons and Guardian are expected to be 2.3% accretive in FY14.

The stock has three Buy ratings and one Sell on the FNArena database. The consensus target price is $11.34, which compares with $10.98 ahead of the results and suggests 4.4% upside to the last share price.
 

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article 3 months old

Limited Upside For AMP

Bottom Line 23/08/13

Daily Trend: Up
Weekly Trend: Down
Monthly Trend: Flat

Technical Discussion

AMP ((AMP)) is pretty much where we left it during our last review with price immediately breaking to the downside only to rally over the past couple of weeks.  In regard to our analysis nothing changes as we continue to expect the typical retracement zone to be tagged in the not too distant future.  And that target area is an integral part of the larger degree patterns making it a region to keep a very close eye on.  I’d need to see the 61.8% retracement level overcome before getting confident that the zone of resistance is going to be the next port of call though the stock needs to prove itself pretty much immediately.  On the flip side, it would take a break beneath the low of wave-b to move us to a more bearish stance though in reality I think the risk at the moment is to the upside, albeit over the short term.  This hasn’t been the best company to trade longer term as price action has been very choppy in nature from the March 2009 lows.  In other words it’s been range bound and until either the upper or lower boundaries are overcome we have to be cognizant that more of the same sideways chop is going to be the way forward.  To gain confidence that a longer term trend is going to develop we’d actually need to see $7.00 overcome which isn’t looking likely anytime soon. 

One of our focal points last time was on a possible pennant that appeared to be unfolding though it subsequently failed to evolve.  It could well be that another one is in the midst of developing though ideally it will take a few more days to conclude.  These types of patterns usually break in the direction of the prior trend which in this instance is up, albeit only over the short term.  Should the upper trend line be penetrated the 50.0% - 61.8% retracement level should be tagged sooner rather than later.  As already mentioned unless the upper boundary of the target is exceeded we have to be open to the possibility that further weakness is going to unfold a little later down the track.  The one aspect of the chart that we have liked over the past few reviews is the massive increase in volume which coincided with the late June lows.  A very good signal that the smart money was taking an interest which of course in hindsight has resulted in a decent show of resilience.  The rally should continue over the coming weeks before the make or break point is tested.

Trading Strategy

Nimble short term traders could buy following a break out of the pennant although just be cognizant to the possibility that rejection could be seen at the typical retracement zone which means the risk/reward isn’t overly enticing.  At the end of the day there are much stronger trending stocks out there than AMP at the moment which is enough reason for me personally to look elsewhere.  There will be swing trades available down the line though it’s difficult to envisage the stock embarking on a longer term sustainable trend with the information at hand.  We’ll keep it on the radar is it’s a popular stock though upside looks reasonably limited for now.
 

Re-published with permission of the publisher. www.thechartist.com.au All copyright remains with the publisher. The above views expressed are not FNArena's (see our disclaimer).

Risk Disclosure Statement

THE RISK OF LOSS IN TRADING SECURITIES AND LEVERAGED INSTRUMENTS I.E. DERIVATIVES, SUCH AS FUTURES, OPTIONS AND CONTRACTS FOR DIFFERENCE CAN BE SUBSTANTIAL. YOU SHOULD THEREFORE CAREFULLY CONSIDER YOUR OBJECTIVES, FINANCIAL SITUATION, NEEDS AND ANY OTHER RELEVANT PERSONAL CIRCUMSTANCES TO DETERMINE WHETHER SUCH TRADING IS SUITABLE FOR YOU. THE HIGH DEGREE OF LEVERAGE THAT IS OFTEN OBTAINABLE IN FUTURES, OPTIONS AND CONTRACTS FOR DIFFERENCE TRADING CAN WORK AGAINST YOU AS WELL AS FOR YOU. THE USE OF LEVERAGE CAN LEAD TO LARGE LOSSES AS WELL AS GAINS. THIS BRIEF STATEMENT CANNOT DISCLOSE ALL OF THE RISKS AND OTHER SIGNIFICANT ASPECTS OF SECURITIES AND DERIVATIVES MARKETS. THEREFORE, YOU SHOULD CONSULT YOUR FINANCIAL ADVISOR OR ACCOUNTANT TO DETERMINE WHETHER TRADING IN SECURITES AND DERIVATIVES PRODUCTS IS APPROPRIATE FOR YOU IN LIGHT OF YOUR FINANCIAL CIRCUMSTANCES.

Technical limitations If you are reading this story through a third party distribution channel and you cannot see charts included, we apologise, but technical limitations are to blame.

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article 3 months old

Suncorp Negotiates The Bend On A Bumpy Road

-More special dividends expected
-Gross written premium slows
-Growth target a challenge
-Margin gains may be sacrificed


By Eva Brocklehurst

Suncorp Group ((SUN)) is at a crossroads. The finance and insurance company has negotiated some potholes in FY13 and simplified its business but the road taken may still throw up plenty of challenges.

The FY13 results delivered few surprises, given the company pre-released the thrust of the report some weeks back. Highlights included the extent of the capital surplus, a core bank net interest margin above the target range and a further small improvement in the underlying general insurance margin. Of some concern was the gross written premium (GWP), which slowed to 5.5% in Australia in the second half, down from 9.3% in the first half. For Credit Suisse, this highlights the pressure the company is under with its growth target of 7-9% for FY14.

Citi also thinks the growth target will be a challenge although has erred in the company's favour on this one, noting Suncorp appears confident it can pull the right levers to achieve it. Credit Suisse concedes the underlying insurance margin improvement in the second half, to 13.6% from 13.4% in the first half, was an impressive result in the context of a drag of more than 1% from lower investment income. The broker also believes the current general insurance margins can be maintained in the near term but believes GWP growth is likely to slow significantly. Citi was less convinced on the impressive nature of the second half margin improvement but expects Suncorp will become more aggressive on the margin versus growth trade-off, albeit gains will be relatively modest. The broker notes the result was delivered without significant reserve releases. Releases were $4m below the longer-term target.

Cost growth outpaced revenue growth, leading to a modest deterioration in the cost-to-income ratio. This was a negative for Credit Suisse. The company also mentioned an ongoing preference for fee-free banking and increased loan commissions being paid on the back of volume growth. Also not positive. Additionally, there were mark-to-market losses on financial instruments within non-interest income. Credit Suisse did like the non-housing balance sheet momentum and market share gains in the agricultural business. Net interest margin expansion was applauded, with underlying net interest spreads expanding. Impairments as a percentage of gross loans were stable over the second half. Nonetheless, overall, there was not enough in the story to change Credit Suisse's Underperform recommendation.

Citi was more upbeat and the stock remains the broker's top pick in the insurance sector. More special dividends are likely and the potential was welcomed by Citi and Macquarie. Suncorp had $847m of total capital in excess of operating targets at 30 June, after allowing for payment of dividends. With diversification benefits potentially being added this year, Citi has lifted the FY14 special dividend forecast to 20c. Macquarie factors in a 15c special to second half FY14 forecasts.

The banking division is in a transition year in FY14 and Citi thinks it should look better by FY15. The life business was again impacted by experience losses and the lapse assumption change could lower planned margins by around 25% in FY14, according to the company. Further to this, with no change to the claims assumption, the claims experiences losses are likely to continue. Citi is reticent about giving Suncorp too much benefit of the doubt in life insurance, but still allows for superannuation to improve and does not expect a recurrence of the $6m process change costs. Suncorp may have challenges but should still deliver reasonable profit growth, and then there's that potential special dividend pay-out. Accordingly, with the uncertainties surrounding the FY13 result alleviated, a strong capital position maintained and reasonable valuation Citi has returning to a Buy call.

While the capital surplus should support further returns and underpin the stock's yield appeal, Deutsche Bank thinks the growth and return on equity story is less convincing. General insurance growth targets are ambitious and the broker suspects it may require sacrifice of recent margin gains. Core bank returns are slipping and life insurance continues to deliver returns well below the cost of capital. All up, a very mixed outlook in Deutsche Bank's opinion. The yield may be attractive on a 12-month view but the broker thinks forecast compound annual earnings growth rates of 4.6%, while solid, are not spectacular. Hence, Deutsche Bank finds greater value upside in QBE Insurance ((QBE)) and that's its top pick among Australian general insurers.

Suncorp's consensus target price is $12.94 on the FNArena database, suggesting 2.9% upside to the last share price. The dividend yield is 6.4% on consensus FY14 and FY15 earnings forecasts. There are four Buy ratings, three Hold and one Sell.
 

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article 3 months old

The Good News Keeps Coming From Flexigroup

-Visibility high on outlook
-Commitment to diversity, innovation
-Credit cards to provide more growth
 

By Eva Brocklehurst

A strong FY13 report and the good reviews keep coming for Flexigroup ((FXL)), with the company also providing a rare untrammelled outlook. The diversified finance and leasing operator is on track with plans to be a full service finance provider to retailers and small-medium enterprises. Flexigroup has posted its fourth year of double digit earnings growth.

FY14 is looking healthy and, with the company's track record of delivering, brokers see the stock's premium as justified. Non-solar growth is solid and while the Certegy slowdown is occurring sooner than expected, as solar volumes are declining with rebate reductions, factors such as higher electricity prices are likely to keep the growth curve positive. There's also a high level of repeat business. Credit Suisse notes profitability in Flexi Commercial provides scope for lower margins and there was another large account win in the interest-free segment. Synergy and efficiency gains lead the broker to expect benefits from Flexigroup's winning mix will continue, despite worsening overall credit quality based on macro expectations.

Certegy was again the star performer with 13% volume growth and 18% receivables growth in FY13. Key contributors were solar and the retail and home owner sectors. The absence of government subsidies for solar panels was missed in the second half, with new volumes falling by $37m half-on-half. Non-solar volumes increased 11% and the VIP program also provided an offset. Macquarie expects Certegy growth rates will slow going forward as the lumpier solar contracts provide tougher comparatives. Despite this, only 13% of Australian households have solar panels and significant penetration is possible over time. The Certegy business signed 847 new merchants, predominantly in the outdoor living, and home-owner segments as well as a new relationship with Rebel Sport. Rental bonds have also been flagged as a new area of focus. Certegy profit increased 26% for the year to $27.5m.

The stock may not be as cheap as it used to be but UBS likes the visibility and commitment to product innovation. As Flexigroup is trading on 15.3 times FY15 earnings forecasts, UBS sees opportunistic acquisitions as the likely catalyst. Flexigroup has re-rated to a market premium valuation, but the broker argues earnings quality is higher than it has ever been. There's also the embedded nature of Flexigroup finance products with retailers, OEMs and distributors. Another aspect brokers like is the nimble nature of Flexigroup, which has acted quickly to support successful initiatives and just as quickly to limit losses on those that weren't such a good idea. A return on equity that's over 20% is also testament to management's considered use of capital, in UBS' view.

Profitability has exceeded Deutsche Bank's expectations in all key divisions, while impairments, new retail partnerships and cost control were all positive. This provides a high degree of visibility for FY14. Deutsche Bank expects credit cards will underpin FY14 growth. The broker is confident enough to put FY14 forecasts ahead of the guidance range by 3-6%, expecting profit around $89m.  Macquarie expects the credit card initiative to leverage the core infrastructure as well as provide another leg to growth in coming years. The company is also accelerating the online business to provide additional services to retailers.

Flexigroup has four Buy ratings on the FNArena database from four covering brokers. The consensus target price of $5.01, suggesting 16.6% upside to the last share price, has risen from $4.65 ahead of the results. Price targets range from $4.81 to $5.25 and there is a 3.8% dividend yield on FY14 consensus earnings estimates and 4.2% for FY15.

The value in the stock is summed up by UBS in that the skills in credit scoring, collections and funding can all be applied to a variety of finance products and further acquisitions can be added with genuine leverage to receivables growth. This also adds up to barriers to entry in terms of competition.  There must be risks. Yes, one relevant to all credit providers. Arrears rates on receivables present a risk to earnings and this could be driven higher by increasing unemployment. There's also product price deflation or poor execution but these do not seem major points of contention for Flexigroup.

See also, Why Flexigroup Equals Flexi-Buy on February 12 2013
 

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article 3 months old

Treasure Chest: Westpac Upgraded Against Commonwealth Bank

By Greg Peel

The Buy, Hold and Sell or equivalent recommendations set by brokers are in almost all cases with reference to “the index”, which may be the ASX 200 or some other variation thereupon (See: Recommendations Explained). JP Morgan differs, however, by setting recommendations relative to the sector in which a stock resides, rather than the broad market. Hence the JP Morgan analysts’ Overweight, Neutral and Underweight ratings are to be taken in a sector context, and JP Morgan’s equity strategists then apply recommendations to each sector relative to the market.

JP Morgan downgraded Westpac ((WBC)) to Underweight, relative to its peers, back in October last year ahead of the bank’s FY12 result. The broker upgraded Commonwealth Bank ((CBA)) to Overweight in May this year, after Westpac, ANZ Bank ((ANZ)) and National Bank ((NAB)) reported their interim FY13 results. Westpac, ANZ and NAB operate on an end-September financial year while CBA operates on a more standard end-June financial year.

The broker downgraded Westpac in October because it was concerned over the bank’s intention to lift its dividend payout in the face of a subdued earnings outlook. In May, Westpac went one better and offered up a special dividend while ANZ surprised the market with a payout increase. At the time, CBA offered a trading update but no dividend news, meaning investors would have to wait until August to learn what dividend surprise this bank might have in store. CBA reports on August 14.

JP Morgan has been recommending Underweight WBC and Overweight CBA since May, with the former having made its dividend announcement and the latter yet to do so. Sure enough, Westpac has underperformed the bank index over the period by 5% and underperformed CBA by 7%. History suggests that while CBA has long maintained a premium over the other Big Four banks, the relative spread between the Big Two of CBA and Westpac never gets too far out of whack for too long.

JP Morgan believes the time is nigh for the spread to revert, and also believes sufficient CBA dividend anticipation is now built into the CBA share price. Hence today the broker has upgraded Westpac to Overweight from Underweight and downgraded CBA to Underweight from Overweight.

Again it must be appreciated: this is a bank sector call not a market-relative call. Indeed, in the longer term, JP Morgan is concerned over the capacity for Westpac to grow earnings on a relative basis when its mortgage rates are higher than the other three banks’. The broker also notes tax benefits accruing from the St George consolidation will run out after FY14. But in the shorter term, Westpac’s tier one capital ratio is higher than the other three banks’ and at 8.7%, higher even than WBC’s own 8.5% top-end target. Thus, suggests JPM, another special dividend could well be on the cards come November.

Macquarie also upgraded Westpac, last week, and in doing so also cited the bank’s recent relative underperformance against peers. Macquarie suggests that given WBC’s aforementioned high mortgage rates that the market is now assuming the bank would start trimming margins in order to win back mortgage business. But Macquarie does not subscribe to this view, suggesting management will likely take its time on balancing out its business mix.

Westpac is now showing three Buy or equivalent ratings in the FNArena database, two Holds and one Sell. By contrast, CBA now shows one Buy rating, two Holds and five Sells.
 

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article 3 months old

Fair Weather Prevails For General Insurers

-General insurer margins recover well
-Balance sheets strengthen
-Dividends should be the reward
-Life insurance the most unsettled
 

By Eva Brocklehurst

Insurers are complex entities and free cash flow is an increasingly important metric for insurance investors. Cash is a way to compare insurers across regions and accounting regimes. Citi expects a greater correlation between cash flow and stock valuations going forward in the US and Europe and increasing focus on this topic in Asia. The broker is voting for more transparency and believes those companies focused on cash will benefit.

The most comparable measure globally is free cash flow (FCF) and currently Europeans deliver the greatest disclosure while Asia is patchier. Citi estimates an average global insurer holding company free cash flow yield of 7%, based on 2014 estimates, and found the highest yields are in Europe. Insurers are generating a healthy level of capital, with FCF of around 60% of net income globally. In addition, most companies have high cash flow coverage of dividends, supporting dividend growth.

It seems it's calm and clear on the domestic front. Insurance Australia ((IAG)) and Suncorp ((SUN)) have seen insurance margins recover to near all-time highs, benefiting from a lack of natural peril claims, positive investment markets and, most importantly, further improvement in underlying margins. While Credit Suisse expects a slowdown in premium rate increases in 2013, insurance margins are not expected to decline. One of the main headwinds facing insurers in 2012, declining investment income, has stabilised with the recovery in bond yields, and all three listed general insurers - IAG, Suncorp and QBE Insurance ((QBE)) boast significantly stronger balance sheets.

Credit Suisse has recently moved Suncorp and QBE back to a Neutral rating and maintains a Neutral rating on IAG. For the August reporting season, the broker expects there is upside risk to IAG and QBE results and downside risk to Suncorp. On a one to two year view there's upside risk for all three and the key downside risk is a decline in bond yields. QBE remains the broker's preferred pick in the sector. Underlying earnings improvement is expected, driven by the exit from poor performing portfolios, premium rate increases and expense savings. In addition, QBE has significant upside from the recent increase in bond yields, with any increases flowing through immediately to earnings compared with a delayed effect for most of its peers. Citi finds QBE solid and conservative and further capital initiatives should also improve the balance sheet. QBE may be in turnaround mode but the broker is looking for a cheaper access point.

Domestic general insurers should reward investors with dividends, in Citi's view. The dividend forecast for IAG in FY13 of 36c implies 25c for the second half. On Citi's estimates this would only equate to around 64% of cash earnings, well inside the target 50% to 70% pay-out range. While IAG faces the prospect of a slowdown in premium rate increases, the broker expects further insurance margin improvement in the second half  and FY14. In addition to underlying improvement, with a comprehensive reinsurance cover in place and a more conservative natural peril allowance, Citi thinks IAG has the most leverage to favourable general insurance conditions and less downside risk, justifying a price/earnings premium to its peers. IAG's FY14 guidance should reflect further underlying margin improvements. 

Citi expects expect growth in Suncorp's core earnings to be mid-single-digit in the near term, with potential upside to earnings and capital management from further cost cutting and balance sheet efficiencies. Suncorp continues to have a more aggressive natural peril allowance than IAG and QBE which presents earnings risk in the broker's view, in addition to around 15% of base earnings coming from the life insurance book. Citi forecasts a 42c second half pay-out for Suncorp. Although Suncorp is likely to report only a small second half profit, given losses on disposal of the non-core bank, its surplus capital position should still support a sizeable dividend. The broker has a Buy call on the stock.

First quarter Australian life insurance statistics show that steady growth in the life insurance segment has continued. Total in-force annual premiums increased by $216m over the quarter to $11.5bn, up 10.2% on the previous corresponding period. At an industry level new business growth declined, down 18.2% and down 20.4% quarter on quarter. The trends in lapses did improve over the last quarter. Lapses have been a key focal point for BA-Merrill Lynch, the trend being driven by a combination of product design, adviser churn and the economic backdrop.

Of the listed life companies, AMP ((AMP)) continues to lead the pack with a market share of 15.3% and Merrills is forecasting Australian life insurance earnings to represent around 20% of group-wide underlying earnings. With the recent downgrade, the wealth protection segment is now expected to deliver a $54m first half profit including $32m in experience losses. Half of the adverse claims experience relates to income protection and half to term products. For Suncorp, Merrills forecasts life insurance earnings to be around 7-8% of future divisional profits. In June, Suncorp agreed to pay $23m for breaches. including failing to disclose policy upgrades to life insurance customers, which may present some drag to the annual results.

One of the more unsettling items for life insurers has been the magnitude of claims. Reinsurance Group of America has announced an increase in the after-tax charge to increased claims liabilities in Australia. There appears to be a number of environmental factors in the current Australian market leading to a significant rise in claim levels, according to RGA. While AMP is increasing its focus on the drivers of elevated claims, as the largest life insurer in Australia it cannot but be affected by industry trends. Reinsurance is unlikely to be a material offset to these issues, in Macquarie's view.

The structural issues in the life sector that the industry is trying to address include product design - specifically around mental health in income protection, lapse rates, claims management, increased propensity to claim. and pricing structures where some premiums increase as policy holders age. Macquarie has downgraded AMP to Underperform on the basis of the RGA report, noting that the underlying problems of increased life claims are structural and not easily fixed.
 

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