Weekly equities note
Written and accurate as at: Feb 23, 2017 Current Stats & Facts
The S&P/ASX 300 gained 1.5% last week, as reporting season continued apace. 70 of the top 300 companies have now reported, representing 23% of the index by individual companies, but 56% by market cap. Thus far, results are tracking a little behind their historical averages, in that 36% of companies have exceeded expectations and 31% have missed, versus long-term averages of 40% and 28%, respectively. On the positive side, 37% of companies have delivered a stronger-thanexpected dividend, while only 14% have disappointed here.
Aggregate index earnings growth for FY17 has been upgraded by 1%, to 15%, which is positive given that earnings have gone backwards in the last two years. However this has been driven by resources, which continue to benefit from strong commodity prices. Earnings growth for the rest of the market has been flat, but this masks an incremental yet noteworthy divergence between cyclical industrials – which have seen earnings expectations increase 40bps – and the 50bp downgrade for defensive industrials. This reinforces our caution around many of the defensive names, which have been priced for perfection and where it does not take a significant deterioration in earnings outlook to prompt a sharp share price reaction.
One disappointing trend is the noticeable deterioration in quality of earnings at an aggregate level. Many companies have been pushing the envelope in terms of non-recurring items or reduced tax and interest charges in order to reach management guidance. This is often a red flag for us, as it can mask deteriorating operating trends within a company, and we have focused in particular on those companies where this has been the case to understand the underlying situation. Domino’s Pizza (DMP) is a case in point. Management this week upgraded FY17 guidance for NPAT (net profit after tax) from 30% to 32.5%, yet the stock fell -12.4% over the week. The issue here is market scepticism over the amount of one off items and accounting measures which supported their numbers, in addition to newsflow over ongoing concerns with franchisees underpaying staff.
JB Hi-Fi (JBH) (-2.4%) was another company which saw its stock fall following a strong result, although quality was not a concern in this instance. Very strong performance from its core Australian JB Hi-Fi business saw it beat earnings expectations. While their early guidance on the outlook for the recently acquired Good Guys was positive, the spectre of Amazon Prime’s possible entry into Australia may be weighing on sentiment.
Individual results drove the rest of the week’s poorest returns. Primary Health Care (PRY) (-16.2%) reported a 36% fall in earnings for its medical centre business, providing consternation as an earnings stream backed by visits to doctors should have relatively low volatility. Significant margin pressure saw first half NPAT at financial services firm IOOF (IFL) (-7.7%) fall 17%, reflecting what we see as significant headwinds for the company over the medium term. In our view, IFL is doing less in terms of cost control than peer AMP (AMP) to offset margin headwinds, supporting our preference for the latter.
The market expressed disappointment as Telstra’s (TLS) (-6.2%) profits fell 14.4% for the half. It was not a great result, however there were some suggestions that the company may have reached its nadir in terms of declining ARPUs (average revenue per user) as the effects of repricing and discounting in its core mobile telephony business (which provides roughly 50% of revenue) look close to bottoming out.
South32 (S32) (+5.9%) and Fortescue Metals (FMG) (+6.7%) led the charge for resources last week, with the S&P/ASX 300 Metals & Mining index posting a 3.2% gain. S32 delivered a strong result, on top of a still-conservative balance sheet, while management suggested that they are still less than half way through the cost reduction programme implemented following their spin-off from BHP Billiton (BHP).
CSL (CSL) was up 5.2% despite having already pre-announced their strong results, with core business profits up 20-30% as competitors struggled to procure blood plasma supply. ANZ’s (ANZ) (+4.3%) quarterly update was well ahead of expectations, albeit with the help of several one-off boosts, such as the proceeds from the sale of 100 Queen St in Melbourne and a lower-than-expected charge for bad and doubtful debts. Nevertheless, the bank was still ahead of expectations on earnings even after these were stripped out, courtesy of a 1% reduction in costs. It is this focus on reducing absolute costs which separates ANZ from its peers: Commonwealth Bank (CBA) (+3.0%) also surprised the market on cost control in its update, however it was a case of costs growing 1%, rather than at their usual rate of 4-5%.
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