Collected Wisdom

This week we look at IOOF Holdings, Slater & Gordon, Flight Centre, Seek and Bradken.

Summary: Analysts say IOOF Holding’s weakened share price factors in significant reputation damage and fund outflows, but this may be premature. Meanwhile, shares in Slater & Gordon have taken a dive over its recent acquisition PSD, just days after analysts had come away comforted about the purchase after attending the firm’s investor day. Elsewhere, Flight Centre faces market share concerns, Seek’s longer-term outlook remains encouraging and Bradken’s merger opportunity warrants caution, analysts say.

Key take-out: Most analysts think IOOF’s share price plunge was an overreaction and rate the stock a “buy”.

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.

IOOF Holdings (IFL)

IOOF Holdings’ weakened share price is factoring in significant reputational damage and fund outflows but this may be premature, analysts say.

Shares in IOOF fell 15.7 per cent last Monday (June 22, 2015) after a press article slammed the company’s compliance practices and accused it of insider trading, cheating and front-running.

“Most of the matters raised in Fairfax press are historic in nature and IOOF believes all these issues have been addressed, including where relevant, thorough internal and board review, notifying industry regulators, ongoing review of compliance measures and controls, employee education and independent investigations,” the company said in a statement on Wednesday.

Nevertheless, IOOF said it has appointed PwC to conduct a fresh review of its regulatory breach reporting policy and its procedures and control environment within the research division. ASIC has also announced it is investigating the matter.

Following the news most analysts say the share price plunge was an overreaction and rate the stock a “buy”.

As long as IOOF maintains a strong compliance track record and takes appropriate remedial action when necessary, there shouldn’t be a material impact on the business, an analyst says.

Another says that the market is already pricing in IOOF entering an enforceable undertaking (a form of settlement) with ASIC despite the claims being unproven. After reviewing recent undertakings, the analyst says enforceable undertakings rarely restrict business operations and that two examples have shown no apparent harm to net inflows.

However, one publication differs. It thinks the share price reaction was valid because the brand is likely to be tarnished and the risks are too great.

  • Investors are generally advised to buy IOOF Holdings at current levels.

Slater & Gordon (SGH)

Analysts had supported Slater & Gordon’s acquisition of Professional Services Division (PSD) last week before revelations emerged about investigations into the business by British authorities and the Australian Securities and Investment Commission (ASIC).

Shares in the consumer law firm tumbled 17.5 per cent to $5.04 last Thursday (June 25, 2015) after Quindell – a London-listed firm that divested PSD to SGH back in March this year– announced its accounts were under investigation by the Financial Conduct Authority.

“As the acquisition of PSD was structured as an acquisition of the PSD entities rather than its parent entities, Slater and Gordon is confident that it has no liability in relation to the ongoing investigations relating to Quindell,” SGH said in response to the news.

Then, today (June 29, 2015), the stock lost a quarter of its value – falling to $3.78 – following its announcement that an accounting error was found in the UK business and that ASIC intends to raise queries directly with the company. SGH has appointed Ernst & Young to assess the response to the queries.

A day before the news broke the investment press had come away positive about the outlook for Slater & Gordon and the PSD acquisition after attending the company’s investor day. In fact, every analyst report which crossed Eureka Report’s desk had called the stock a “buy”.

Analysts were comforted by how Slater & Gordon is integrating the acquisition and managing risk, noting that there has been continued operational improvement within PSD, positive responses from strategic partners and opportunities for synergies.

At a price-earnings multiple of around 11 times in FY16, the valuation of the stock was undemanding, analysts had agreed.

On the other hand, negatives from the presentation included higher transaction costs from the acquisition than expected and that the firm doesn’t expect PSD to materially contribute to earnings in FY15 due to the division’s legacy noise induced hearing loss (NIHL) cases.

The question is can PSD, now operated differently, realise cash flows that contribute to a strong earnings performance unlike under its previous owner, one analyst had asked.

At the investor day Slater & Gordon upgraded its revenue target in FY15 from $500m to $520m while maintaining margin and cash flow guidance and reaffirmed its FY16 earnings per share guidance growth of 30 per cent-plus from the acquisition.

Flight Centre (FLT)

Three investment houses have cut their recommendations for Flight Centre because of growing concerns over the travel services company’s ability to maintain market share and earnings margins.

Shares in Flight Centre plunged 13 per cent to $37.70 last Tuesday (June 23, 2015) when the company announced that underlying profit before tax is expected to be between $355-365m for FY15, below its previous guidance of $365m.

“The company’s share of the leisure travel recovery has not kept pace with the market and it has not experienced the traditional uplift in business activity during the key May and June months,” said managing director Graham Turner.

Management pointed out that the market share losses were in domestic point to point travel, Perth to Bali flights and online accommodation – where competition from players Airbnb and Booking.com is becoming fiercer.

Following the analyst downgrades, consensus is to “hold” Flight Centre. While the segments where the company incurred market share losses are smaller parts of the business (Flight Centre still dominates the packaged holiday market), they raise uncertainty around the margin outlook for FY16 and FY17, several analysts say.

Other analysts go further, saying the losses to players like Airbnb may be a signal that Flight Centre is facing the beginning of its demise from the structural shift to online.

However, one publication points out that many have been predicting Flight Centre’s downfall for more than 10 years. The company remains in strong financial health with expectations it should have more than $500m in cash by year’s end and it not expensive at around 15 times FY16 earnings, the analyst says.

  • Investors are generally advised to hold Flight Centre at current levels.

Seek (SEK)

Shares in Seek have slumped to their lowest levels in more than 12 months after the online recruitment and education company cut its earnings guidance for FY15.

Seek now anticipates underlying NPAT for the second half of FY15 to be broadly in line with the first half’s $94m, compared to its previous forecast for moderately higher earnings. The company blamed one-off issues with its Learning division for the downgrade.

“Seek Learning had fulfilled its sales obligations but TAFE NSW’s IT issues resulted in errors and significant delays in the enrolment process, ultimately leading to incomplete enrolments and very high withdrawal rates,” said chief executive Andrew Bassat.

Shares in the company fell 12.2 per cent to $14.49 on the day (June 22, 2015) and have since slipped further to Friday’s close of $13.87.

Following the update, the investment press are mixed about the outlook. While analysts say the stock has been aggressively sold off following the news and Seek is a quality business, they disagree about the outlook in FY16 and whether the elevated risks are priced in.

Analysts optimistic about Seek say the company’s three pillars – domestic, Chinese job seeking website Zhaopin.com and SEEK Asia – are well positioned heading into FY16 and beyond. Over time, the market will regain confidence that these core assets are primed for near-term and longer-term growth, one analyst says.

But others say earnings will be curtailed in FY16 by the major reinvestment Bassat had also flagged in the update. This is necessary for Seek to protect its market position and medium-term earnings growth, but it also elevates the stock’s risk given how long it takes reinvestment to translate to earnings growth, they say.

On balance, analysts call Seek a “hold” after the share price fall, with most believing the share price is at fair value at a one-year forward price-earnings multiple of 22 times.

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

Bradken (BKN)

Bradken investors should remain cautious despite the mining services company’s update about a potential merger with Chile’s Sigdo Koppers, analysts say.

Shares in Bradken fell 11.9 per cent to $1.52 last Friday (June 26, 2015) after the beleaguered firm announced a profit warning, that it had negotiated amendments to its debt covenants and that consortium Sigdo Koppers and CHAMP Private Equity have agreed to inject $70m in the form of preference shares.

Bradken now expects EBITDA to be in the range of $136-138m for FY15 – worse than expectations – and anticipates impairment charges of $135-145m. Under the terms of the covenant, it cannot pay dividends until FY17.

“The consortium has also approached the Bradken board regarding a possible merger between Bradken and Sigdo Koppers’ wholly-owned subsidiary, the Magotteaux Group,” Bradken also said in the statement.

While Bradken specialises in the manufacture of liners used in mills and crushers, Magotteaux manufactures grinding media and wear-resistant parts.

Analysts call Bradken a “hold” after the news and ensuing share price reaction. Though it is a major merger opportunity, there are few details at present and there is uncertainty about what it might mean for shareholders, they say.

They forecast earnings to remain under pressure given the weak environment. Commodity prices have fallen further in the past six months, which means demand for capital goods remains subdued, one analyst adds.

The capital injection and renegotiation of the debt covenants should provide Bradken with breathing space for now, but the company’s debt is worse than feared, they say.

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