Collected Wisdom

This week we look at Rio Tinto; Woolworths; CFS Retail; ResMed and ALS.

Summary: The newsletters believe Rio Tinto is on track to meet its growth and cost-cutting targets, but over at Woolworths, newsletters are concerned about the recent news about higher-than forecast losses in home improvement.
Key take-out: Newsletters expect Rio to outperform, but put a hold on Woolworths, CFS Retail and ResMed, and a sell on ALS.
Key beneficiaries: General investors. Category: Shares.

This is an edited summary of Australia’s best-known investment newsletters, broker reports and major daily newspapers. The recommendations offered represent the views published in the other publications and may not represent those of Eureka Report. This article is general advice only which has been prepared without taking into account your objectives, financial situation or needs. Before acting on it you should consider its appropriateness, having regard to your objectives, financial situation and needs.”

Rio Tinto (RIO)

Resources giant Rio Tinto came through with the goods last week, announcing record iron ore production for the first six months of the year. Iron ore production increased by 6% to 127.2 million tonnes during the first half. Rio shares rose on the news, but the newsletters say there’s still value to be had and rate it a buy.

Ongoing concerns of a slowdown in China and excess iron ore supply have kept a lid on the group’s share price for some time but general consensus in the market seems to be that fair value is about the $75-mark.

One source is still concerned about the impact of excess supply, but another says the miner’s higher volumes will help to counter the expected price decline. On that note, Rio also said in its market update that it expects to increase iron ore production to 360 million tonnes per annum by early 2015.

Cost cutting measures are on track, said chief executive Sam Walsh, with spending on exploration likely to fall by $750 million this year.

Growth projects are also still on target, despite challenging weather conditions, the miner said.

Leaving iron ore aside, copper production numbers rose 4% in the quarter, which was ahead of guidance, but the newsletters were disappointed with alumina production figures. Considering Rio is currently trading at $56, the investment press says now could be a good time to buy in.

  • Investors are generally advised to buy Rio Tinto at current levels.

Woolworths (WOW)

Woolworths investors were none too pleased with the retailers’ latest trading update, which included ballooning losses on its new home improvement division, Masters.

Losses were previously estimated to be about $80 million, but have blown out to $157 million for the 2012-13 financial year following “overly optimistic” sales budgets, the retailer said. Undeterred, Woolworths is still committed to the roll out of the Masters stores and 90 are expected to be trading by the end of 2015.

After finally fessing up on the state of affairs, investors returned the favour by sending the share price lower. This is despite the fact that Woolworths gave updated guidance for net profit growth of 5%-6% compared to the previous estimates of 4%-6%. The concern is that by putting the focus on home improvement, supermarket operations will potentially get less attention. Since the supermarkets drive earnings, the unease is understandable. Competitive pressures from rivals Coles, Aldi and Metcash will be a challenge, although Woolworths’ position as the market leader is secure… for now. It just needs to make sure it stays that way.

A couple of the newsletters are more optimistic than the others, and say the issues with masters are nothing more than teething problems that will resolve over time. There’s a mix of calls on Woolworths right now, but the majority of the investment press has it at hold.

  •  Investors are generally advised to hold Woolworths at current levels.

CFS Retail Property Group (CFX)

CFS Retail plans to sell four sub-regional shopping centres to Pacific Retail for $446.5 million. Pacific Retail is a newly formed fund, sponsored by CFS, and will seek to list on the ASX.

The sale is generally viewed as a positive by the investment press and was hardly a surprise given the company outlined its plans to sell down some of its portfolio.

The newsletters are quick to point out that the sale will initially dilute FY14 earnings by about 5% but it also reduces CFS Retail’s exposure to lower grade malls and allows it to potentially go on the hunt for new assets.

This is especially important given the long-term outlook for retail conditions, which are expected to put downward pressure on rents and occupancy rates, the newsletters say. This is a key risk for the CFS Retail, particularly as online shopping increases in popularity.

CFS Retail also used the update to give guidance for FY14 for the first time. If the sale goes ahead, CFS estimates distribution of 13-13.1 cents. And if it falls through, distribution will be in the range of 13.7-13.8c. The estimates are lower than some were expecting leading a couple of brokers to put a sell call on the stock, but for the most part, it’s rated hold.

The group’s need for new debt and equity to fund capital expenditure also puts it at risk if credit conditions deteriorate, the investment press says.

Investors will also be interested to hear that Commonwealth Bank is looking to internalise the management of all three of its property trusts, including CFS Retail, as part of a strategic review of its property holdings. In a statement issued today, CBA said it has submitted “indicative, non-binding proposals” to the Commonwealth Managed Investments Ltd (CMIL) board.

  • Investors are generally advised to hold CFS Retail at current levels.

ResMed (RMD)

ResMed’s recent success in its patent infringement challenge against Taiwanese manufacturer Apex Medical is a win for investors. Apex is expected to cease the sale of infringing products in the US and in return will get a retraction of civil legal claims.

The investment press is somewhat divided on this one, but the majority are leaning toward hold. After running hard over the past year, ResMed shares are struggling to remain above the $5-mark and are currently hovering just below that, at $4.93.

A major area of concern for the newsletters is the competitive bidding program that kicked in earlier this month in the US. Under the terms of the program, suppliers submit bids to provide equipment at a lesser price than Medicare has paid previously, meaning a price cut for the group’s continuous positive airway pressure (CPAP) machines.

The threat of new market entrants is also a source of worry but a few sources point out that strong demand for sleep products should deliver positive earnings momentum.

Another positive for ResMed is the lower Aussie dollar, which should generate a margin tailwind, the newsletters say.

Without doubt, ResMed is coming up against a number of cost pressures, but this market leader is a hold for now.

  • Investors are generally advised to hold ResMed at current levels.

ALS (ALQ)

To mitigate its exposure to the minerals sector, testing services company ALS has moved to diversify its earnings base through the acquisition of Reservoir Group and Earth data, both of which operate in the energy sector. ALS is paying $605 million for the two, partly funded by a rights issue.

The investment press approves and says it will give ALS the opportunity to grow both revenue and profitability. That said, the elevated share price makes this one a sell, the newsletters say.

A big problem for the investment press is the recent disappointing earnings guidance. A soft outlook for coal and lower-than-expected minerals earnings mean first half net profit after tax (NPAT) is expected to be between 23-30% lower than last year.

With the miners focusing on cutting costs, ALS will see a drop off in revenue, the newsletters say. Sample volumes for the first two months of the year are already 33% lower than the same period last year, a bigger fall than expected. Not a good start, the newsletters say.

So while the company is praised for moving in the right direction through diversification, a number of sources think it’s looking overvalued given the headwinds ahead. The share price is around the $9.00-mark but some put fair value closer to $7.00.

  •  Investors are generally advised to sell ALS at current levels.