Collected Wisdom

This week we look at Qantas, Incitec Pivot, Macquarie Group, CSR and Orica.

Summary: More newsletters believe Qantas remains undervalued despite the airline’s already impressive rally, but they don’t think the same for fertiliser and explosives maker Incitec Pivot following its interim result. Elsewhere, the prospects for Macquarie Group continue to be positive (but does its share price capture this?), CSR’s return on capital may be unsustainable and Orica is likely to be supported by its share buy-back and attractive dividend yield, newsletters say.

Key take-out: While the favourable outlook for Qantas is more than understood, the airline still appears cheap compared to other airlines and there is scope for further earnings upgrades.

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.

Qantas (QAN)

Some newsletters are still playing catch-up to Qantas’s rising fortunes, with the recent investor day presentation causing another publication to upgrade its recommendation.

The once-embattled airline told investors last Tuesday (May 12, 2015) that earnings would continue to lift amid falling fuel costs and the ongoing transformation benefits, sending the stock 6.6 per cent higher to $3.55 – its highest point since the GFC.

Analysts took confidence from Qantas announcing that it would try to generate a return on invested capital (ROIC) ahead of the weighted average cost of capital (WACC) for FY15. Further, data for the second half suggests momentum is continuing within the business, with rational capacity growth and strong sales demand.

As with the last two times Collected Wisdom has covered Qantas in March and December last year, the consensus is to “buy” Qantas shares – with almost all newsletters now in agreement.

The publication which upgraded its recommendation says that while the positive outlook for the company is more than understood – with the stock almost tripling in value in the past year – it still remains cheap compared to other airlines and there is scope for further earnings upgrades.

On its estimates the airline can fulfil the metrics for an investment grade rating by the end of FY15, possibly opening the door for capital management such as a share buy-back.

Qantas’s latest update confirmed management’s unwavering commitment to transformation, its disciplined approach to capital and its focus on the customer and brand, another analyst says.

But not all newsletters are optimistic. One thinks the market has become too impressed with the current attractive conditions which it says are unsustainable.

  • Investors are generally advised to buy Qantas at current levels.

Incitec Pivot (IPL)

Two newsletters have cut their recommendations for Incitec Pivot to “sell” despite the fertiliser and explosives maker posting double-digit growth earnings for the first half of FY15.

In the interim result (May 11, 2015) net profit increased by 27 per cent to $146.4m for the six months ended March 31, with fertiliser earnings before interest and tax (EBIT) growing 18 per cent to $59m and explosives EBIT rising 5 per cent to $168m.

Chief executive James Fazzino attributed the result to the company’s Business Excellence (BEx) productivity program, which helped support the bottom line and underpinned performance from the manufacturing plants.

“BEx continued to produce results in a period when the company confronted challenging markets with the global mining downturn and drought in much of eastern Australia,” he said.

With the analyst downgrades, the consensus is to “sell” Incitec Pivot. Most analysts highlight a deteriorating outlook for two of the divisions, as well as the company’s lofty valuation after it has risen from $3.19 at the start of the year to as high as $4.36 in mid-April.

The domestic fertiliser business IPF and the explosives Dyno Nobel Asia Pacific (DNAP) business were the two main disappointments. IPF showed compressed margins due to tough competition, while DNAP was worse than expected across WA, Indonesia and Turkey.

While the US explosives business looks solid, the contributions from the Australian explosives and fertiliser segments to earnings are likely to decline further in the current cycle due to worsening conditions including an oversupply of ammonium nitrate, analysts say.

After rising 17 per cent this year to Friday’s close of $3.73, Incitec Pivot trades at a price-earnings multiple of 22.2 times compared to its five-year average of 14 times.

But for one publication more upside remains. Its call is underpinned by Incitec being highly leveraged to a falling $A through its US business and the DNAP prices being relatively well supported.

  • Investors are generally advised to sell Incitec Pivot at current levels.

Macquarie Group (MQG)

Analysts have lifted their earnings forecasts following Macquarie Group’s latest result, but they are split over whether the current share price captures the better outlook.

For the year ended March 31, 2015 net profit grew 27 per cent to $1.6bn, ahead of consensus estimates for $1.51bn and marking the company’s second highest yearly earnings on record.

Division highlights included the annuity business and asset management, with performance fees doubling, while a lower tax rate and Australian dollar also boosted the bottom line.

“While Macquarie continued to build on the strength of its Australian franchise, its international income accounted for 70 per cent of the group’s total income for FY15,” said chief executive Nicholas Moore.

With Moore guiding for profit in FY16 to be “slightly up” on FY15, the stock jumped 3.1 per cent to $79.15, below its eight-year peak of $83.40 that it reached in April.

On average, analysts now forecast net profits to grow to $1.77bn – just shy of Macquarie’s $1.8bn profit in 2008.

They are almost evenly divided between calling Macquarie a “buy” or “hold” following the result. Given the share price has already surged 40 per cent this year, more rate the company as a “hold”.

Analysts who remain bullish believe the share price will still react positively to a further correction in the Australian dollar, low interest rates and positive market conditions. They also highlight the improvement to Macquarie’s return on equity to about 14 per cent – comfortably exceeding its cost of capital of around 11 per cent.

But other analysts don’t see more value in the stock despite their acknowledgement Macquarie is well positioned in the current environment. In particular, they think it will be too challenging for the company to repeat its performance in a number of segments – meaning market estimates may have to be revised downwards over the coming year.

  • Investors are generally advised to hold Macquarie Group at current levels.


Newsletters either advise their clients to “buy” or “hold” CSR, with the difference in their valuations largely resting on how long they believe the Australian construction cycle will play out.

Their responses come after the industrial building group’s posted its best profit in five years in its full-year results: net earnings grew 34 per cent to $125.5m for the 12 months to March 31, while revenue lifted 16 per cent to $2.02bn.

Shares in the company soared 8 per cent to $4.05 on the better-than-expected earnings. They were buoyed by good performances from the key building products division as well as the aluminium and property segments.

“In aluminium, operational improvements drove increased production and, with higher aluminium prices, earnings more than doubled,” said managing director Rob Sindel.

Despite two analysts upgrading their recommendations on the news to “buy”, the majority rate the stock as a “hold” at current share price levels.

Bullish analysts believe the momentum in the core building products along with improving operating leverage will carry the share price higher. They think the residential property cycle in Australia has extended, with one publication believing that housing starts will peak in FY16.

They also expect the building products division to benefit from the new brick joint venture with Boral.

But most analysts say that while the outlook for 2016 is positive, they question whether CSR’s return on capital of 15 per cent is sustainable on a longer-term time horizon.

One analyst thinks CSR appears cheap across the building materials sector but is cautious because of significant uncertainties in the aluminium markets and the competitive threats in plasterboard.

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

Orica (ORI)

Shares in Orica leapt following to its interim report last week even as it caused most analysts to cut their earnings forecasts for the remainder of FY15 and FY16.

The world’s biggest supplier of explosives reported that underlying net profit fell 3 per cent to $211m in the face of challenging external conditions and did not provide earnings guidance for the full year, though it did say global explosive volumes are expected to be lower.

A stronger result had been pencilled in by analysts and the outlook had several reducing their forecasts by as much as 10 per cent in FY15 and 8 per cent in FY16. Nevertheless, the stock jumped 4.2 per cent to $20.88 on Tuesday (May 12, 2015) – taking its total gain for the year to 10 per cent.

In Australia (Orica’s highest margin geography), the company has had to fight fiercely to supply its main customers – iron ore and coal miners – following the commodity price collapse.

The reason for the positive share price response may be that unlike Incitec Pivot, Orica trades at an undemanding PE multiple of around 14 times, which is in line with historical multiples, and the result was still close to expectations.

Moreover, the market would have taken confidence from the fact the restructuring benefits are on track – a concern which had been flagged when former chief executive Ian Smith suddenly departed in March.

Indeed, despite the dropping their forecasts the majority of analysts call Orica a “hold”. Under impressive interim chief executive Alberto Calderon – a former BHP executive – management is proactively reducing its cost base by $200-250m by FY17.

While much of the cost savings may be eaten up by the challenging environment, its share price is likely to be supported by Orica’s recently announced $400m share buy-back and its dividend yield of 4.4 per cent in FY15 and 4.7 per cent in FY16.

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

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