Tag Archives: Other Industrials

article 3 months old

Upside Emerging For Royal Wolf

Royal Wolf is showing signs of a turnaround as it benefits from diversifying exposure away from the oil & gas sector.

-Increasing stability in earnings and scope for growth
-Revenue uplift in FY16 driven by low margin container sales to freight sector
-Focus on re-deploying or selling $23.5m in idle assets


By Eva Brocklehurst

Royal Wolf Holdings ((RWH)) has worked hard to diversify its service contract exposure and brokers acknowledge the effort after the FY16 earnings report revealed increasing stability in the second half. The company is broadening its offering to the industrial, construction and infrastructure sectors and away from the mining sector. Around 90% of its mining camps have been decommissioned.

Lower depreciation and interest expenses provided a boost to earnings although, as expected, the negative impact of reduced resources camp activity meant earnings were well down on the prior year. Revenue was up 11.1%, with most of the uplift driven by low margin container sales to the freight sector.

The company's balance sheet and cash flow were both stronger than Credit Suisse expected. Despite the remaining challenges in the operating environment, Credit Suisse upgrades to Outperform from Neutral. The broker observes the business is no longer materially exposed to oil & gas and earnings are likely to be more stable going forward.

The broker believes the company now has a plausible path to growth and valuation is undemanding. The pace of re-deploying idle assets has been slow but Credit Suisse observes the outlook implies an improvement and New Zealand, in terms of re-building and heightened activity in Auckland, signals growth ahead in FY17. 

Royal Wolf is expected to make further recoveries from the Titan Energy receivers, having gained $2.5m in FY16, but the broker warns this does not represent recurring earnings. While there some potential risks to forecasts and the growth profile is modest, Credit Suisse welcomes the emerging areas of growth and believes the company is at the very least close to the low point in earnings.

The failure of Titan Energy was undoubtedly a negative, Ord Minnett concurs, but as the company’s ongoing exposure to the resources sector and single customers has reduced significantly, the broker believes the risk/reward are more definitely to the upside. Moreover, the company has a pool of assets that is very difficult to replicate in the Australian market.

The outlook is uncertain and some market share growth will be required as well as earnings growth into FY17, Deutsche Bank maintains. The main positive is the cash flow. The ability to re-deploy or sell surplus assets minimises capex requirements and also allows debt to be paid. Deutsche Bank expects FY17 capex requirements will remain subdued and a further reduction in debt around $12m will be incurred.

Given the fragmented nature of the industry, Deutsche Bank believes the business has scope for expansion. Nevertheless, the broker is cautious about potential incremental returns stemming from a focus on growing lease revenue through sector diversification.

Deutsche Bank notes there is $23.5min idle mining camp accommodation assets on the books and the company is pursuing opportunities to re-deploy or sell into other geographies, such as re-locating assets to the east coast from Western Australia.

Macquarie observes the sale, or re-deployment of the $23.5m in excess assets, is proving challenging. Sales would mean around $3m uplift to profit pre-tax and a reduction in gearing and thus be a key catalyst for the stock.

Macquarie also upgrades, to Outperform from Neutral, believing the company has almost cycled through its foray into the CSG sector. The market is expected to take time to regain confidence in the return to earnings growth that is forecast in FY17. Given the lack of liquidity the broker believes this is an opportunity to revisit the stock.

Macquarie expects General Finance Corp to maintain its 50% holding in the stock, despite speculation that the company, along with private equity, is exploring options in regard to Royal Wolf. Royal Wolf’s equity value is now less than half what it was in US dollar terms at the time of listing.

General Finance’s stretched balance sheet makes an acquisition less likely, in Macquarie’s view, while divestment of Royal Wolf would actually increase leverage, making this option even less likely.

There are four Buy ratings on FNArena’s database with a consensus target of $1.53, suggesting 15.1% upside to the last share price. This compares with $1.44 ahead of the results. The dividend yield on FY17 and FY18 forecasts is 4.5% and 5.0% respectively.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

SG Fleet Drives Growth Potential In UK

SG Fleet has raised its profile in the UK with the acquisition of a fleet business, expected to provide a platform for further growth.

-Adds scale and profitability to SG Fleet's existing UK product
-Significant synergies from integration and larger client base
-Risks continue to lie with any regulatory changes


By Eva Brocklehurst

Fleet management and novated leasing business SG Fleet ((SGF)) has added value and increased its profile in the UK with the purchase of a fleet business, which brokers believe should provide a platform for further growth.

The company has acquired UK contract hire and short-term rental and fleet management service, Fleet Hire, for an enterprise value of GBP25.7m. The company expects the acquisition to be accretive by 4.5% in the first full year of ownership. Fleet Hire manages around 6,500 vehicles, which adds to the company’s current 100,000 vehicle fleet.

Macquarie likes the deal, as settlement is immediate and SG Fleet will receive 11 months of earnings in FY17. Meanwhile, the company is continuing to benefit from a trend in outsourcing and has a multi-level growth strategy the broker likes. Citi also welcomes the acquisition, noting the further potential on offer in an under-penetrated UK market.

Morgan Stanley observes SG Fleet has been operating in the UK for 10 years with its Novalease salary sacrifice product, but lacked scale and was not yet profitable. This acquisition provides the means to address the situation, with a full product suite in fleet management, salary packaging and short-term leasing. The existing management team has been retained.

The broker expects synergies to come from integrating premises, systems and platforms and with procurement advantages. Short-term rental for corporates is a high-growth segment in the UK which the broker observes will continue to be pushed to clients.  Short-term rentals should provide protection in case of an economic downturn as corporates can use these rentals where long-term leases are harder to justify.

Morgan Stanley’s bull case incorporates further upside from state government outsourcing and greater realisation of synergies from the acquisition. Moreover, there are special dividend opportunities in being debt free. The risks lie with any adverse regulatory decisions, such as FBT (fringe benefit tax) changes and changes to import barriers, or an impact on finance or insurance commissions via increased regulation.

The acquisition should accelerate near-term growth prospects for the company’s salary sacrifice leasing in the UK and be underpinned by a much larger corporate client base, Goldman Sachs contends. This should also boost credibility when tendering for larger clients. Goldman Sachs, not one of the eight brokers monitored daily on the FNArena  database, has a Neutral rating and $4.32 target.

Along with the acquisition, the company has also revealed profit expectations for FY16 of around $51.2m. This is above most estimates and Morgan Stanley, in reflecting the update and the acquisition of Fleet Hire, raises its earnings estimates by 1.8% for FY16 and 6.1% for FY17.

The broker expects normalised earnings growth of 30.5% in FY17 and 11.9% in FY18 and maintains there is further opportunity for accretive acquisitions in both Australia and the UK, adding up to an attractive proposition.

Catalysts include further government fleet mandates, used vehicle prices and new car sales and further penetration of fleet and novated leasing products in car pools. Novated leasing is common in Australia, enabling a business to lease a vehicle for an employee with lease payments then made from pre-tax income.

FNArena’s database shows three Buy ratings for SG Fleet with a consensus target of $4.42, suggesting 1.1% downside to the last share price. This compares with $3.99 ahead of the update. Targets range from $4.07 (Citi) to $4.60 (Morgan Stanley).
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Further Re-Rating For Downer?

Several rail contracts are about to be awarded and success on any or all of the tenders could be a catalyst for re-rating Downer EDI, brokers note.

-Quality of DOW's FY16 result bodes well for FY17
-M&A opportunities and capital management potential
-Still facing decline in mining & construction earnings
-Expanding role in the defence supply chain


By Eva Brocklehurst

The outlook for Downer EDI ((DOW)) is firmly planted in the award of several large rail contracts, which promise to underpin a re-rating of the stock if won.  The company is a front runner on three rail contracts, likely to be awarded in the first half.

The strong second half of FY16 was supported by cash flow, which suggests to Ord Minnett the quality of the result is high and bodes well for FY17. The stock closed 8% higher after the report and the broker believes, given it is still trading at a discount to peers of 23% on FY17 multiples, there is room to run further.

Ord Minnett acknowledges a back flip in its recommendation, upgrading the stock to Buy from Lighten. The broker estimates Downer EDI could spend around $550m on acquisitions and still keep gearing below 20%.

The main risk to broker viewpoints is the fact the company is still facing a decline in mining and construction earnings, with LNG construction finishing up a year’s time. Ord Minnett forecasts earnings in FY18 to dip as well – FY17 is expected to be lower – before the company starts to grow again. With a declining earnings profile investors are not expected to rush back into the stock but the broker asserts the multiples appear too low, relative to peers.

Credit Suisse concurs, expecting further diversification should drive a re-rating of the stock. Yet, while envisaging value in the medium term, the broker suspects investors may prefer to wait for a bottoming of contract mining earnings before appropriately recognising the value.

Over 55% of the company’s revenue is generated from servicing public infrastructure in Australia and New Zealand. This percentage is expected to increase as the business emphasis moves to transport, utilities and communications and away from mining. Credit Suisse also suggest recurring public infrastructure and maintenance work should warrant a higher multiple.

The broker believes FY16 results suggest the bear case scenario is unlikely to materialise and, besides contract mining, all divisions should deliver a modest improvement in FY17. The broker expects tight cost controls and strong operating cash flow will allow the balance sheet to return to a net cash position over the next 12 months. This will provide the opportunity for capital management and/or mergers & acquisitions, both potential catalysts.

The company is still not in the clear, Morgan Stanley contends. Mining and engineering represented around 48% of earnings in FY16 and the broker expects this segment to continue to pressure the earnings profile. Earnings from Fortescue Metals ((FMG)) will cease from September this year and margin pressure in contract mining is expected to increase. Work on Gorgon rolls off in FY18 and Wheatstone finishes in FY18-19.

The broker also maintains that should Downer fail to win the three rail projects, it could result in $25m in bid costs being expensed in FY17. Still, the outlook is better than Morgan Stanley previously perceived and the margin continues to surprise modestly to the upside. The broker’s base case is for a flat earnings outlook through to FY19 but the next six months is expected to be the litmus test for earnings, given the bidding profile.

The results confirmed for Macquarie that the company is the best in its sector. The guidance suggests the transition from resources to more infrastructure and services is bottoming out. For this to convert to growth now depends on the outcomes of the rail contracts.

The broker believes Downer EDI is best placed on the Sydney rail contracts, with $2bn in NSW InterCity contract awards expected in the September quarter and the $1bn suburban rail passenger contract to be known in November. The $3bn Victorian rail contract outcome is also expected this month.

Macquarie also notes Downer is seeking to expand its role in the defence supply chain and the company is one of the few Australian owned ASX100 engineering services which can play a significant role in delivering the investment in facilities planned by the Australian government.

Deutsche Bank likes the management team, the diversity of earnings, high cash conversion and strong balance sheet. While there are challenges in the resources sector the broker envisages growth opportunities in renewables, telecommunications and utilities.

Citi, too, is of the view that the exposure to public infrastructure investment means that the company is in a robust position in the medium term, notwithstanding the risks in the rail contracts and the large oil & gas projects. The broker contends the 20% jump in the share since late June has anticipated this outlook to some extent but the stock remains one of the best placed options in the sector.

FNArena’s database shows four Buy ratings and two Hold. The consensus target is $4.67, suggesting 0.6% upside to the last share price. This compares with $3.66 ahead of the results. The dividend yield on FY17 and FY18 forecasts is 5.1% and 5.0% respectively.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Brokers Lukewarm On Navitas

Education services provider Navitas received a lukewarm reception from brokers after its FY16 results as its growth outlook appears subdued.

-Navitas share price premium difficult to reconcile
-Downside risk remains and outperformance unlikely
-Continued weakness in UK and Asian enrolments expected


By Eva Brocklehurst

Education services provider Navitas ((NVT)) received a lukewarm reception from brokers after its FY16 results. The company expects earnings will remain broadly in line in FY17, featuring organic revenue growth across all businesses offset by the impact of closing University Program (UP) colleges.

Results were slightly ahead of Macquarie’s estimates, with UP earnings down 2%, largely on the cessation of the Macquarie University contract. Overall, global enrolments fell 8%, affected by the significant, and in the broker’s view ongoing, regulatory headwinds in the UK.

Navitas has renewed all five of its maturing UP agreements in FY16 and the broker believes this should go some way towards allaying fears about the company’s ability to retain contracts. The flat growth outlook reflects the high level of downside risk associated with contract losses and, while recognising underlying growth from ongoing operations, Macquarie finds it difficult to envisage support for the stock at an above-average price/earnings ratio of 23x.

Moelis cannot reconcile how Navitas can trade at a material premium to the market yet deliver below-market growth, with no growth in FY17 on the broker’s estimates. Admittedly, the shock of the Macquarie University contract loss will be most evident in the first half.

The broker incorporates the renewal of three large contracts maturing in the next 3-9 months in its estimates but notes the risk remains if university partners bring pathway programs in house. The broker, not one of the eight monitored daily on the FNArena database, maintains a Sell rating and $5.09 target.

The stock is trading slightly above its historical average premium to the market and UBS remains below guidance in its estimates, expecting continued weakness in student enrolments in the UK and Asia.

The broker acknowledges the stock has attractive attributes such as a high return on capital, low gearing and strong cash flow conversion. Nevertheless, the downside risk to FY17 and lack of earnings growth suggests further outperformance is unlikely.

The results were in line with Deutsche Bank’s forecasts. University Program enrolments were down in the second semester, primarily affected by the end of the Macquarie contract.

The SAE division performance is of some concern to the broker, with a second half decline affected by slower volume growth in the US and Europe amid reforms by the Australian government to vocational education funding. Still, this is a relatively small division, the broker notes, and the company has guided to some growth in FY17.

Deutsche Bank understands the company is still considering its options in relation to the UK VAT case, where SAE UK has been deemed to be not exempt. Leave to appeal has been granted and a hearing is expected in the next 10 months. The company previously disclosed the maximum liability to June 30, 2015 as $5.2m.

Morgan Stanley found few surprises in the results and believes the company is on the road to a better performance, reminding the market that FY17 is the final year of negative earnings impact from the loss of the Macquarie University contract and growth should return to earnings in FY18.

FNArena’s database shows four Hold ratings and one Sell (Macquarie). The consensus target is $5.35, suggesting 6.7% in downside to the last share price.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Is A Supply Issue Emerging In Child Care?

Canaccord Genuity considers the increase in new child care places is unlikely to threaten the established businesses of the listed child care operators.

-Pockets of under supply still exist despite increase in new centres
-Location of new centres largely reflecting greatest demand
-Little impact envisaged on G8 Education, Think Childcare 


By Eva Brocklehurst

Is there a supply issue emerging in child care places? In the June quarter 54 new child care centres were opened compared with 70 in the March quarter.  The number opened in the first half of 2016 rises to 124, versus the 111 that were opened in the prior comparable half.

Canaccord Genuity estimates the market requires around 200 new centres to meet the overall increase in child care usage and based on recent data, estimates more than 250 new centres will be opened in 2016.

Hence, there appears to be an excess of new supply versus demand, but while there is potential for over supply, the broker expects this to be limited to specific areas. Moreover, anecdotal evidence suggests that in areas where there is a supply shortage the appropriate needs analysis is being conducted and the new centres largely reflect these demographics. All up, the broker suggests pockets of under supply will also continue to exist.

Drilling down through the data shows Victoria represented 37% of the new centres opened in the June quarter, while NSW and Victoria combined at 70%. New centres are observed to be getting larger, driven by the cost of land and the scalability of a larger centre.  NSW is the exception, particularly in Sydney where centres are generally smaller because of the cost of land in the inner city suburbs as well as being dependent on land availability.

The ratio of centres to population suggests that in the majority of cases the new places are in areas to reflect the need. Around 54% of the new centres in the June quarter were in areas where the ratio of the population of 0-4 year olds to licensed child care places (P2P) was greater than three times.

Therefore, Canaccord Genuity does not envisage the new centres are a major risk to occupancy for either G8 Education ((GEM)) or Think Childcare ((TNK)). Of the 54 centres opened in the June quarter, six were within two kilometres of a G8 Education centre and none within the same vicinity of a Think Childcare centre. Of the six within the 2km reach of the G8 centres, these were in areas where the P2P ratio is greater than 2.5.

The broker, not one of the eight stockbrokers monitored daily on the FNArena database, retains a Buy rating for both stocks. The G8 Education target is $4.94 and Think Childcare $1.56. FNArena's database has three Buy ratings and one Hold for G8 Education with a consensus target of $4.11, suggesting 9.1% upside to the last share price. Morgans retains an Add rating and $1.63 target for Think Childcare.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Treasure Chest: Is Computershare A Value Trap?

By Eva Brocklehurst

Computershare ((CPU)) is a value trap in Bell Potter's opinion. Risks are emerging in both the structural and cyclical underpinnings of the business and a preference is maintained for exposure elsewhere in the global software and services sector.

The broker believes the stock should be trading on a lower price/earnings multiple given a changing business mix as Computershare moves into mortgage processing, as well as headwinds for the core share registry and services.

The company is also expanding its UK business at a time when the British currency is moving against it and the full impact of the decision to exit the EU is unknown. Bell Potter envisages Computershare relying more on lower quality mortgage processing and a share buy-back to achieve growth over the next few years. This is expected to only just offset the drag elsewhere in the business.

Bell Potter forecasts flat US dollar denominated earnings growth over FY17 and FY18 following estimates for a decline of 10% in the current year. A continuation of the low interest rate environment, shrinking of the retail shareholder base and lacklustre global corporate activity are considered the main risks to the stock.

The company is required to hold large cash balances on behalf of clients and often has large amounts of borrowings in place. As such, fluctuations in relevant interest rates have a direct impact on earnings, the broker notes. There is also a risk that existing technologies behind the software Computershare provides will be superseded, or made redundant by advancements or new players in the market.

The broker, not one of the eight monitored daily on the FNArena database, downgrades underlying Australian dollar earnings estimates for FY17 and FY18 by 4.3% and 3.7% respectively, driven primarily by changes to its currency assumptions. A Sell recommendation remains in place and the broker's target is lowered to $7.50 from $7.80.

Citi recently lowered its earnings estimates for FY17 and FY10 by 10%, factoring in lower interest rates and current FX forecasts. The broker considers the stock offers reasonable value but, given little in the way of identifiable catalysts for upside, retains a Neutral rating. Credit Suisse, on the other hand, asserts that earnings are high quality and suspects growth could be weighted towards FY18-19, retaining an Outperform rating but acknowledging growth/momentum investors may be hesitant.

The database has two Buy ratings, four Hold and two Sell for Computershare. The consensus target is $10.75, suggesting 20.8% upside to the last share price. Targets range from $9.50 to $11.95.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Outlook Deteriorates For Incitec Pivot

-Are earnings expectations too high?
-Potential for disappointment
-Capital management still expected


By Eva Brocklehurst

Incitec Pivot ((IPL)) is about to start up its long-awaited Louisiana plant but the market is not providing the best outlook, brokers maintain. The company will commission the 800,000t per annum ammonia project in the September quarter and the plant is expected to operate at an average loaded rate of 80% through FY17.

Credit Suisse adopts new fertiliser price assumptions, which result in downgrades to ammonia, urea and di-ammonium phosphate (DAP) prices across the forecast horizon. The ammonia and phosphate markets appear to the broker to be supply driven and capacity additions are larger than the demand growth outlook through 2016-18.

The broker expects Incitec Pivot may experience particularly adverse price outcomes for DAP in its traditional export markets of Bangladesh, Vietnam and Thailand if Chinese producers seek to maintain export market share in 2016 and 2017.

Credit Suisse hears the valuation argument based on long-term fertiliser prices but believes the deteriorating near-term outlook (to FY18) warrants a downgrade to Neutral from Outperform, with a target of $3.10.

On the positive side, the company's balance sheet is de-leveraging and cash flow is improving and the broker's base case calls for a reduction in the company's capital base in FY17 and FY18. Given the improving cash flow and cyclical nature of earnings downgrades, Credit Suisse expects the stock will gravitate towards a yield of 5%, which lends support to its valuation and target.

UBS also incorporates the potential for up to $200m in a buy-back in its analysis, expected to be announced at the FY16 results in November. Yet the broker believes the market may be disappointed. Consensus expectations suggest up to 10% or a $500m buy-back but this, UBS maintains, would imply a significant lift in fertiliser prices, which is considered unlikely.

The broker expects the completion of the Louisiana project will mean cash flow improves significantly and there will be some uplift from FY16, but the global ammonia market is headed for a period over oversupply in the next several years as new capacity comes on stream in the US. Any earnings benefit is also expected to be offset by a decline in the existing business, with earnings constrained throughout FY17-19.

Earnings growth estimates appear too aggressive, and UBS cuts its FY16 earnings estimates by around 5% and FY17-20 by 20%, driven by a cautious outlook for ammonia prices. Forecasts for DAP and urea pricing are also cut to reflect current cost curve estimates. All three commodities face additional low-cost supply coming into the market over the next 2-3 years in a challenging demand environment, the broker maintains.

Furthermore, surpluses of corn and wheat, following bumper crops in recent years, are also likely to constrain any meaningful uplift in these soft commodities in the near term. UBS suggests the market is not positioned for further earnings disappointment from the fertiliser business, noting the stock has underperformed the Australian market by 25% in the year to date.

Added to this scenario is the prospect that capital management disappoints and results in consensus downgrades. UBS, too, finds little scope for outperfomance and downgrades its rating to Neutral from Buy, with a $3.10 target.

The company has signalled that new large scale growth projects will be unlikely to be pursued in the near term. Completion of Louisiana will result in a reduction in capital expenditure to $255m in FY17 from $470m in FY16. This will be partially offset by shutdown-related spending at Moranbah.

UBS expects net capex in the order of $200-250m will be maintained over the near term. Longer term, the broker likes the Louisiana asset and envisages the US market will remain a net importer of ammonia with global-linked pricing expected to underpin returns over 15%.

Morgans acknowledges weakening fertiliser prices and a rising Australian dollar and concludes the fall in the ammonia price and strength of the gas price will reduce the returns from Louisiana.

Meanwhile, the US coal production outlook is weak and operating conditions in the Asia Pacific explosives business are challenging, with the broker citing adverse product mix, customer in-sourcing and margin pressure.

If fertiliser prices remain weak then this broker also believes consensus forecasts are too high, downgrading FY16 and FY17 estimates by 2.6% and 15.9% respectively. Despite the downgrade, Morgans still expects strong earnings growth in FY17, reflecting the Louisana project operating at 80% and a lower Australian dollar, as well as lower cash costs at Phosphate Hill and a lack of gas issues at Moranbah, retaining a Hold rating and $3.05 target.

FNArena's database has four Buy ratings, three Hold and one Sell (Morgan Stanley). The consensus target is $3.50, suggesting 21.1% upside to the last share price. Targets range from $2.71 (Morgan Stanley) to $4.80 (Deutsche Bank).
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Treasure Chest: Aveo Group’s Retreat Presents Opportunity

By Eva Brocklehurst

Aged care services provider Aveo Group ((AOG)) is trading at a discount to its aged care and New Zealand peers, yet does not carry the same regulatory risk. Hence, Morgans considers this discount is undeserved.

The stock has recently slipped around 10% from its highs and the broker considers it is timely to accumulate exposure to its preferred retirement stock, upgrading to Add from Hold. A very strong FY16 result is expected, underscored by strength in both the residential retirement business and the non-core land bank. The broker believes there is risk to the upside if momentum in non-retirement sales and/or margins continues.

Brokers are mindful substantial cash from the sales of non-core business can be recycled into retirement developments and boost earnings. The stock is expected to meet its FY16 retirement returns target of 6.0-6.5%. Moreover, in FY17, further growth will be underpinned by the realised benefits from the Freedom acquisition. Morgans believes this should provide at least 6% earnings growth in FY17 and FY18 and contribute to the company growing its retirement returns to 8% by FY18.

The company has recently been able to increase its interest in unlisted Retirement Villages Group (RVG) via the buy-out of a number of minorities at a 20% discount to the current book value, with the consideration funded through its debt facility. Morgans calculates the acquisition of the remainder - 27% - would cost $100m and gearing would rise above the top of the target range.

The broker assumes the acquisition of the remainder would be earnings neutral, given the probability of an equity requirement. Unless the company decides to take gearing to a higher level.

Macquarie has noted that strong cash generated from the sell-down of the non-retirement developments should mean debt levels decline. The recent acquisition of the RVG minorities is modestly positive, in the broker's view, as the earnings yield acquired is greater than current interest rates. It also allows Aveo to take greater control of the business. Brokers expect the remaining investors will sell out in time.

Morgans envisages upside to RVG's valuation in coming years, with not only a revaluation of the book but also a roll out of the Aveo Way contracts across the portfolio. In the meantime, for Aveo, key catalysts to its valuation include the realisation of benefits from better quality contracts, an increase in new development sales and the expansion of care services.

Morgan Stanley has also stated a preference for Aveo Group, citing the success gleaned in New Zealand with its retirement model. The implementation of the Aveo Way strategy in Australia is expected to drive higher turnover and lower risk. Furthermore, Stockland ((SGP)) is expected to emulate the Aveo Way contract at generic villages, which involves a higher fee for certainty and an automatic buying back of the home. The broker expects higher returns for Aveo over the long term if this contract becomes the norm, although this is not a base case.

What is Aveo Way? The recently launched contract simplifies the financial model that prospective residents have to deal with when joining a retirement village. When the resident leaves the village the home is sold by Aveo and no marketing or refurbishment costs are required to be contributed in the process. There is also no capital gain or loss provided on the sale. Sales of homes are guaranteed within six months.

Aveo claims the contract is fairer and works for both the company and the residents. The company expects its financial model will be embraced over time by the sector and will reduce the negative perceptions surrounding village contracts.

There are three Buy and one Hold (Ord Minnett) ratings on FNArena's database. The consensus target is $3.72, suggesting 18.5% upside to the last share price. Targets range from $3.11 (Ord Minnett) to $4.35 (Macquarie).

See also, Anxiety Grows Over Planned Cuts To Aged Care Funding on June 8 2016.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Automotive Holdings Better Off Without Logistics

-No meaningful synergies
-Slower growth in logistics
-Value unlocked if divested
 

By Eva Brocklehurst

Automotive Holdings ((AHG)) has underperformed over 2016 against both the Small Ordinaries index and its major listed peer, AP Eagers ((APE)). Several brokers blame the poor performance on the company's refrigerated logistics business, which has dragged down a robust automotive retailing division.

Refrigerated logistics has been a significant source of both broker and investor disappointment over recent years, failing to achieve management's targets. To brokers there are no meaningful synergies to be derived between the two divisions. Conditions over the second half in logistics have deteriorated and the company remains part way through an operational review.

Ord Minnett contends that capital intensity, poor returns and earnings volatility in the logistics business has affected investor sentiment. On a like-for-like basis, and valuing the automotive retailing at a conservative 20% discount to AP Eagers, the broker calculates that the market is attributing zero value to Automotive Holdings' other businesses.

Ord Minnett believes pressure is mounting on the board to do something and undertake an accretive transaction. An in specie distribution to divest the logistics business is considered the best way to go. The broker believes an outright sale would bring capital into the company but there is a risk that capital losses could be trapped within the group.

On the other hand, an in specie distribution would lead to much greater shareholder value creation. Both entities are likely to attract a level of corporate appeal, Ord Minnett adds. The broker's analysis of de-mergers in Australia over the last 15 years indicates that de-merged entities, on average, outperform the broader market by around 10 percentage points per annum over the subsequent two years.

Macquarie calculates Automotive Holdings generated 70% of first half earnings from the automotive dealership. There has been regulatory concerns over future commission payments but, offsetting this, the broker contends there is a large opportunity in the second hand vehicle market. The stock looks oversold too, on both regulatory fears and the logistics outlook.

Macquarie substitutes AP Eagers' FY17 automotive multiple in its AHG valuation and calculates a share price target of $6.89 suggesting, to achieve this multiple, the logistics business would need to improve considerably.

The broker has lowered forecasts for logistics in recognition of a slowing economy and lower growth from the major food retailers while estimates for the automotive division are unchanged. Moreover, the underlying assumption of no organic growth in FY17 makes allowance for any revenue and margin pressure from the outcome of the Australian Securities and Investments Commission review.

At the company's first half results it disclosed that ASIC is reviewing finance and insurance revenues in the automotive dealer industry, looking at commissions on consumer finance to ensure a fair outcome for consumers.

FY16 is likely to deliver a disappointing result, magnified by the opportunity cost of a misallocation of capital, in Deutsche Bank's view. The broker agrees the market's disappointment is warranted and predicts logistics earnings in FY16 of $39m, approximately 40% below the projected earnings base from two years ago.

The company has invested $311m in capital into this business since FY10. Had the capital been invested into automotive, Deutsche Bank maintains earnings in FY16 could have been 29% higher than forecasts currently suggest. This broker also expects significant value can be unlocked by the divestment of logistics but considers the probability highly uncertain, although it would be a major catalyst for the stock.

If the company chooses to divest the logistics business for around $150-250m - it has indicated it is open to offers - and redeploy the capital to automotive, the broker expects it would be accretive by 9-21%.

The operational review and any benefits forthcoming are likely to take longer to realise than first anticipated, Deutsche Bank maintains. Moreover, it will overshadow a very good automotive result. The broker notes Australian new vehicle sales have been strong over the first five months of 2016, with year-to-date sales in May up 3.8%. While the risk/reward proposition remains favourable, the broker retains a Buy rating.

FNArena's database has three Buy ratings and three Hold. The consensus target is $4.40, suggesting 14.3% upside to the last share price. The dividend yield on FY16 and FY17 forecasts is 5.9% and 6.3% respectively.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.

article 3 months old

Rocky Road Ahead For Sims Metal

-No improvement signalled in supply chain
-Reliant on cost reductions to drive growth
-Fairly valued trader of scrap?
 

By Eva Brocklehurst

Sims Metal Management ((SGM)) has surprised brokers with its updated guidance for FY16 but sentiment remains cautious, given the rocky road ahead for scrap metal prices. The company expects second half earnings to be $55-65m, with the majority earned in the fourth quarter because of higher ferrous metal prices, sales volumes and cost cutting. This guidance implies the company has exceeded its previously guided annualised earnings run rate of around $140m.

Yet Macquarie expects the good news to be short lived. US scrap prices have now subsided and this undermines incentives to collect supply. This is the issue for the broker, as the volatility in scrap pricing is not allowing any improvement in the material supply chain and this is an obstacle to a lasting recovery in Sims Metal throughput.

The broker notes there is only one bright spot for steel globally, and that is in the US. Yet scrap metal does not benefit from trade protection, such as flat and coated steel products, and feedback from a recent New York steel briefing signals to Macquarie there is no positive catalyst for scrap markets. The broker revises forecasts to reflect the adjusted guidance, with a slight upward change to FY17 estimates.

On UBS analysis, the volume leverage is critical. Sims Metal has re-set its break-even level to 7mtpa, from 13mtpa, over the last three years, lowering its fixed cost base to $920m after full realisation of cost reduction benefits. The broker calculates the company can achieve its targeted 10% return on invested capital in FY18 without the need for margin improvement, provided volumes can increase by 10% to 9.2mtpa.

But channel checks suggest 25-50% of the scrap price increase since the November lows has not resulted in a sustained recovery in volume, thus highlighting a need to deliver on cost reductions to drive earnings growth. Still, the recent under performance of the stock suggests a opportunity and UBS retains a Buy rating.

Credit Suisse concurs that break-even tonnage has been aggressively reduced but believes this lags the volume decline. The broker maintains current iron ore prices and falling Asian long product prices are not supporting a recovery in scrap, although resumed buying by Turkey, the world's largest ferrous scrap importer, should mean prices stabilise at current levels

Sims Metal is a large exporter of ferrous scrap to Turkey and this traditional market has contracted significantly. The broker also notes, while not explicitly updating on environmental recycling, the company implies this segment remains weak.

To Ord Minnett, the main catalyst is progress on cost savings and further evidence is required to bolster confidence in guidance and help re-rate the stock. The broker suspects consensus estimates may not incorporate the full potential of the re-setting of the company's base. Management's commentary indicated only a modest portion of its guidance upgrade came from cost savings. Higher scrap prices and volumes have delivered a margin benefit, which highlights for the broker the substantial leverage in the stock to macro conditions.

Sill, Ord Minnett remains cautious, given the reversal in scrap prices from the peak in April/May. The broker expects sales volumes in FY17 and FY18 to modestly improve, with volume benefits primarily offset by reduced cost cutting assumptions.

Citi, too, while welcoming the upgrade is aware of the volatility surrounding global steel and scrap prices. The broker had expected, given the April/May rally in scrap prices, that the company would have provided an even more positive update, but the cautious tone suggests Sims Metal did not fully participate in the price rally and momentum is not necessarily going to continue into FY17.

Talk of large scrap traders filling orders at low price points does nothing to inspire Citi regarding the state of the market. Over the longer term, the broker reiterates a view the risk to scrap volumes and prices is to the downside. Moreover, Citi views Sims Metal as a fairly valued trader of scrap and not a creator of value in industrial products.

While acknowledging the company is doing what it can to reduce costs, Deutsche Bank maintains that weakness relating to industry structure and competition is too difficult to offset and there is downside risk to FY17 earnings. The broker suspects the recent fall in scrap prices in the US will lead to a corresponding drop in volumes and a squeeze on Sims Metal margins.

FNArena's database has two Buy ratings and five Hold for Sims Metal. The consensus target is $8.23, suggesting 6.0% upside to the last share price. Targets range from $7.40 (Citi) to $8.75 (UBS).

See also Outlook Not Too Flash For Sims Metal on June 20 2016.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" - Warning this story contains unashamedly positive feedback on the service provided.