Collected Wisdom

This week we look at Wesfarmers, Fairfax Media, Coca-Cola Amatil and iiNet.

Summary: The newsletters have a hold on Wesfarmers despite its recent profit rise but, for Fairfax Media, it’s a case of watch this space. While they are digesting developments at Coca-Cola Amatil, they have pulled the plug on internet service provider iiNet, even though the company has just hit a record.

Key take-out: With such a diverse asset base, Wesfarmers remains on the shelf – but not necessarily ion the shopping list. Newsletters are split between holding and dumping the stock as its retail division headed by Coles and Bunnings offsets weakness from its insurance and coal arms.

Key beneficiaries: General investors. Category: Shares.

This is an edited summary of the Australian investment press: It includes investment newsletters, major daily newspapers and broker reports. 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.

Wesfarmers (WES)

Most newsletters are split between holding and dumping Wesfarmers stock as the conglomerate’s retail division offsets weakness from the insurance and coal segments.

Net profit increased by a solid 11.2% to $1.43 billion (including a $95 million gain on selling a 40% stake in Air Liquide), on the back of a 4% rise in revenue to $31.85 billion.

As usual in the retail segment, Coles and Bunnings were the main drivers to the solid set of figures, together contributing 63.4% of EBIT. On the flipside, Target more than halved its earnings to $70 million due to its inability to clear winter stock.

Meanwhile, the Christchurch, New Zealand, earthquake harmed earnings from Wesfarmers’ insurance business, and lower coal prices cut resources earnings by 36.6%.

While the stock barely budged in response to the results, newsletters either say Wesfarmers appears overvalued or is near full value at Tuesday’s share price of $42.70. As such, majority of newsletters rate the stock as hold, with an average 12-month target price at $43.52.

One newsletter expects Wesfarmers to keep benefiting from cost advantages over its peers because of its huge scale. The company can offer consumers lower prices as it negotiates favourable terms with suppliers and spreads costs across its wide revenue base.

That being said, it will be difficult for Coles to match Woolworth’s scale in the coming years as its rival aggressively rolls out stores and, as a result, margin growth will slow in the supermarket space, the source says.

* According to our value investor partners, StocksInValue, the intrinsic value for Wesfarmers is $28.03. To find out more visit http://www.stocksinvalue.com.au/

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

Fairfax Media (FXJ)

The investment press were polarised over Fairfax Media’s half-year results and record share price surge on Thursday last week, with many issuing either upgrades or downgrades in response.

Fairfax stock jumped 23.1% to 88 cents when the media company announced net underlying profit increased by 48.5% to $86.4 million in the six months to December, despite revenue declining 1.2% to $1.08 billion.

The group also doubled its dividend payout to 2 cents a share, putting its estimated yield for the full year at around 3.7%.

“We have shown a determination to transform the business through cost reductions and driving new revenue streams,” said chief executive Greg Hywood.

The results demonstrate a significant improvement in Fairfax’s business momentum, one source says. Fairfax is targeting even more ambitious cost reduction targets for the full year, and subscription revenues are expected to keep picking up after paywalls were introduced mid-2013.

But another says Fairfax won’t be able to arrest the decline in revenues from its newspaper business as advertising expenditure dries up. It expects the company will have to keep cutting costs and will remain in an extended state of restructuring.

While newsletters couldn’t agree on whether Fairfax had developed enough momentum to outperform in the next 12 months, the majority settled on advising their clients to hold onto the stock as they believe it to be captured in the share price.

Since Thursday, Fairfax’s share price has climbed higher to yesterday’s 94 cents, above the consensus 12-month target price of 88 cents.

However, the potential sale of Domain could re-rate Fairfax again, one source says. The media has speculated that Fairfax is considering whether to float the business by early 2015, but Hywood has rejected these claims.

* According to our value investor partners, StocksInValue, the intrinsic value for Fairfax Media is under review. To find out more visit http://www.stocksinvalue.com.au/

  • Investors are generally advised to hold Fairfax Media at current levels.

Coca-Cola Amatil (CCL)

Shares in Coca-Cola Amatil dropped to their lowest point in two-and-a-half years after the soft drink bottler reported weak full-year earnings in the face of its price war with Pepsi.

The company posted a 6.9% decline in underlying EBIT to $833.3 million for the six months to December, at the lower end of management’s guidance for between 5-7%, and an 82.5% plunge in net profit to $79.9 million. The net profit was impacted by $400 million worth of write-downs of SPC Ardmona.

The news sent the stock down 5.3% to $11.22 on the day.

As with Fairfax, the investment press are divergent over Coca-Cola following the developments; there are several buy, hold and sell calls on the company. However, more advise to hold the stock as they believe the bad news has been built into the share price.

Newsletters are concerned that structural headwinds in the Australian beverage division will persist, especially since Pepsi dropped its prices in January. Even last year, Coca-Cola’s supermarket prices were at a 49% premium to Pepsi’s, compared to 43% in 2012. This is not sustainable and will need to be defended, one newsletter says.

Another source says it appears the company’s operations in Indonesia – which has been the main source of growth recently – are losing share to lower-priced competitors. Significant wage increases and fuel-price inflation are also limiting earnings growth in the country

On the positive side, Coca-Cola generated strong free cash flow at $733 million and maintained its dividend of 32 cents per share, though the special dividend (which was implemented to compensate Australian shareholders for the lack of franking credits) was scrapped.

Lastly, newsletters are cautious ahead of Alison Watkins replacing Terry Davis as chief executive at the start of March and whether she will change the company’s business strategy.

* According to our value investor partners, StocksInValue, the intrinsic value for Coca-Cola Amatil is under review. To find out more visit http://www.stocksinvalue.com.au/

  • Investors are generally advised to hold Coca-Cola Amatil at current levels.

iiNet (IIN)

Market darling iiNet leapt 6% to a record high of $7.95 last Thursday after it delivered another strong first-half result.

The internet service provider lifted underlying net earnings by 19% to $31 million and raised revenue by 4% to $493 million, with the addition of 16,000 new broadband customers helping to drive the result.

Following the share price hike, most newsletters say to sell the stock because it appears overvalued, but it’s by no means unanimous. While two sources issued downgrades, several maintained either buy or hold calls.

One point of contention is whether iiNet will be able to compete in its new strategy to focus on organic growth.

“Having completed a period of substantial acquisition activity, we are confident about our next phase of growth focused on delivering operational excellence,” said chief executive David Buckingham.

But most newsletters doubt that iiNet can sustain its subscriber growth given iiNet’s focus on service rather than aggressive pricing, and that it will lose market share to low-cost competitors such as TPG.

Another mark of division is the NBN. While most of the investment press acknowledge that it will be positive for iiNet because it lowers capital requirements for the business and enables it to compete in regional areas, it could also reduce barriers to entry and increase competition.

It must be said that since the investment press issued their recommendations, iiNet stock has fallen 3.6% to $7.66 – losing a large chunk of its recent gains. However, at these levels it still trades above the average target price of $7.50.

* According to our value investor partners, StocksInValue, the intrinsic value for iiNet is under review. To find out more visit http://www.stocksinvalue.com.au/

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

Watching the Directors

  • All of the big trades were on the selling side this week, starting off with two Computershare (CPU) directors offloading almost $10 million. Christopher Morris, the share registry company’s founder and non-executive chairman, sold 500,000 shares at $11.866 for $5,933,080, while outgoing chief executive Stuart Crosby sold 250,000 shares to net $2,968,062.
  • Elsewhere, Michael McMahon, the managing director of staffing solutions company Skilled Group (SKE), made $4,210,492 from selling 1,383,132 shares at $3.044 each.
  • Meanwhile, Domino’s Pizza chief executive Don Meij took $1,002,500 from selling 50,000 of his shares for $20.050 each.
  • Lastly, retailer JB Hi-Fi’s former chief executive, Richard Uechtritz, who was replaced by Terry Smart in 2010, traded his 377,482 shares at $17,70 each for $853,476.


Graph for Collected Wisdom

Seven luxury stocks to buy

If you wear Prada handbags, Swatch watches, and necklaces from Tiffany, you might also consider buying the companies’ shares. A recent Credit Suisse research note on desirable brands, rates seven such luxury stocks as “Outperform” based on improving fundamentals and emerging consumer trends globally. Three, in particular, have significant upside in the coming 12-months.

A survey conducted by the bank’s research institute, in association with AC Nielsen, interviewed 16,000 consumers across nine emerging market countries, the BRICs (Brazil, Russia, India and China) along with Indonesia, Mexico, South Africa, Turkey and Saudi Arabia. It found 50% of consumers planned to purchase Western brands over the next 12 months. The research noted that Prada’s handbags were particularly desired by Russians while Rolex and Omega watches are a hot commodity in China.

So how do you profit on these findings? Among Credit Suisse’s picks: In Europe, the Swiss bank likes luxury conglomerate Compagnie Financiere Richemont and watchmaker Swatch. Analysts also like the jeweller Tiffany in the US. The one Asian company that made the cut, Chow Tai Fook, is another jewellery retailer. All of these stocks are plays on the rising tide of wealth in emerging markets, but the picks may take a bit longer to play out based on Credit Suisse’s 12-month target prices. Three other stock selections by Credit Suisse appear to be good plays in the near term.

Though the German-based sports apparel maker is not your standard symbol of affluence, Credit Suisse’s first stock pick is Adidas. Analyst Rogerio Fujimori expects the firm to boost sales by 9% in the fourth quarter of 2014, helped by next year’s World Cup in Brazil. He cites the wide gap in valuation to Nike, 26 times this year’s consensus estimate versus 21 for Adidas. That gap is expected to close as Adidas’ margin expansion potential is realised and as dividends are boosted, to a 40% payout ratio versus 35% in 2012. The current yield is 1.6%. In the long-term, Rogerio likes its credentials in sports performance, sports lifestyle, which is “winning in China,” and its emerging market exposure, at 45% of sales. His target price is €97, implying a 15% upside.

Ralph Lauren is another stock that could pop by 15% in the coming 12-months, according to Credit Suisse’s Christian Buss. Buss expects the US clothier to continue its penetration of European and Asia-Pacific markets, matching other premium apparel brands. The result will be high single digit revenue growth, and, in the longer-term, margin expansion towards 20%, versus 16.6% now. Buss writes, this growth would warrant an earnings multiple comparable to its premium apparel peers of 19-20 times forward P/E, versus 17 times the current consensus. “With [Ralph Lauren’s] brand repositioning well underway in China, we expect 2014 to prove an inflection point for emerging market demand,” writes Buss.

Lastly, Prada is Credit Suisse’s top pick. With a 12-month price target of $HK82.00, the stock would be 35% higher than its recent price of $HK60.30. Analyst Karim Salamatian writes that Prada’s revenue growth will continue to be driven by its well-entrenched market position in BRIC countries, relative to its peers. Prada’s potential for growth is underappreciated, he says, so buying now should prove profitable. Salamatian writes:

“Acquiring Prada under $HK70 should prove prescient, opportunistic and rewarding because Prada has (1) the lowest 2014E PEG [P/E growth] multiple of all global luxury stocks; (2) the highest forecast sales and EPS growth for 2014; (3) a superior earnings revision trend to its peers; and (4) is expected to post positive same-store sales growth in 4QFY14.”

Translation: The stock’s upside could buy you or your loved one that Prada bag you’ve been eyeing.