Collected Wisdom

PORTFOLIO POINT: This is an edited summary of Australia's best-known investment newsletters and major daily newspapers. The recommendations offered represent the views published in other publications and may not represent those of Eureka Report.

Woodside (WPL). The astonishingly large Pluto LNG project has finally produced first gas, and with Woodside netting $US2 billion from a Japanese joint venture for a stake in its Browse Basin development, there have been some significant developments for the company lately. Notably, none of these developments has changed the firm opinions of the newsletters that Woodside is a buy.

One of the key benefits of the Browse sale, which saw the Mitsubishi Corporation and Mitsui & Co (MIMI) JV purchase a 14.7% stake, is that it gives Woodside a capital injection at the same time as reducing its share of the cost burden for the project – and it still remains the operator. This is seen as good news for net debt, and even better news for lowering risk in the project.

It must be said that $5.7 billion is a lot of debt, but production upside is tremendous and few see the oil price declining considerably in the near term. Also, Woodside’s assets are nothing short of amazing. It has first-class oil and gas fields, with a strengthened balance sheet and the serious likelihood of further shuffling, sell-downs or even full-takeovers in the future.

Even with a disappointing headline Q1 production number – 14.1 million barrels of oil equivalent, down 10% on the previous corresponding period – the newsletters are bullish on this company.

• Investors are advised to buy Woodside at current levels.

Dulux (DLX). Tins of Dulux paint may be in garages and paint cabinets around the country, but there is serious scepticism about whether garage door and cabinet company Alesco will fit inside Dulux.

Dulux lobbed a $2 per share bid for Alesco (ALS) last Monday (requiring 90% acceptance, of which it has already picked up 19.96%), representing a premium of 41.3% on its prior $1.40 close. Most of the investment press agrees this is a reasonable price to pay for the company, but that's not really the point. It's the claimed “high degree of commonality” between the two companies that isn't clear to most outside observers, and there appears to be little room for synergies other than in branding (and possibly colours of garage doors).

Then there's the impact this acquisition would have on Dulux's balance sheet. Net debt is expected to rise from $222 million in September 2011 to more than $370 million as a result of the deal, and stretch Dulux's leverage ratio to 2.4 times net debt to EBITDA.

In addition, the acquisition would expose the company even further to the residential housing sector – especially the weak new homes market – and decrease its exposure to renovation. This will be fantastic news for shareholders if the housing market is bottoming out now and about to commence a recovery, but there are somewhat divergent opinions on that point right now.

The $2 a share price for Alesco may also end up being slightly higher. Alesco shares closed at $2.04 on Friday.

One positive of the proposed deal is the growth opportunities Alesco would bring Dulux through more diversification, as the paint market, and Dulux's position in it, is quite mature. But with that increased opportunity comes yet more risk. Investors should also not rule out the possibility of a takeover of Dulux itself. The current environment has seen several bids for market-leading companies in a cyclical downturn, and Dulux could attract some interest.

At the moment, though, a fresh coat of paint on Alesco looks like it could be a bit of a mess for Dulux, and has found the investment press longing for a time when the company was as predictable as, well, watching paint dry.

• Investors are advised to sell Dulux at current levels.

Westpac (WBC). After delivering on solid earnings and revenue growth, Westpac distinguished itself among the banks reporting first-half results with a surprise dividend hike as well.

The numbers look good for the bank, which on Friday passed on 37 basis points of the Reserve Bank’s 50bp cash rate cut. With its standard variable mortgage rate now down to 7.09%, there is potentially some room to improve on the 5% loan growth, but with customer deposits rising 11% and reduced loan activity taking pressure off wholesale funding requirements anyway, this shouldn’t be too much of a concern.

Underlying cash NPAT was up 0.9% to $3.2 billion, and income grew 4.5% annually. Most impressively, interim dividends rose to 82c a share, fully franked, putting the bank on track for 5% total dividend growth this year. The refreshed Bank of Melbourne grew customer numbers 7%, and Westpac New Zealand’s core earnings rose 6%.

There are a few areas of concern at Westpac, but most of them relate to the Australian banking industry in general and not the company itself. Bad debts rose almost 15% on the half and 31.3% year-on-year, but they were coming off a very low base. There’s pressure on lending growth, and there’s serious pressure on margins as deposits increase, rates decrease, and competition for market share makes spreads less lucrative. In the current defensive environment, the banks are vying for cash, in large part due to BASEL III capital requirements (Westpac has a 9.81% Tier 1 capital ratio, even with the increased dividends payout). Deposits as a percentage of funding for Westpac have risen to 54%, from 44% in 2008, underscoring this shift.

But all this should take a back seat to big, pretty numbers like 4.6% underlying earnings growth, and growing dividends.

• Investors are advised to buy Westpac at current levels.

OZ Minerals (OZL). This year OZ, a predominantly gold and copper miner, ran into a familiar problem in the resources industry – heavy rainfall – but the investment press still sees value in holding the mid-cap.

“Weather events” in the March quarter at the main Prominent Hill mine in South Australia saw rising cash costs and lower gold production, although the full-year guidance remained unchanged. The wet resulted in the drawdown of ore stocks, but it's not all bad news as copper production rose 5.7% year-on-year, to 27,182 tonnes.

OZ has two major problems, but it's on the right track to fix one, and the other is only a problem in certain circumstances. Firstly, it has the risk attached to its single, Prominent Hill mine, which only has a life of about 10 years. After Oxiana and Zinifex merged to form OZ in 2008, a substantial number of assets were sold, but the acquisition of the Carrapateena project holds promise – and potential upside to valuations in the medium term.

However, there is also the problem of rising costs, and the newsletters say this is a serious issue. Cost pressures are rising as the price of copper is expected to remain roughly level, and gold several hundred dollars per ounce lower, compared with today, but cash costs are rising, from US70c in 2011, to US84c in the December quarter, and US97c in the March quarter. These higher costs are only being brought into line with the industry average, though, so those figures aren't as damaging as they first appear, and about 5-6c of this rise was due to the exchange rate rising to $1.06, from where it has since fallen.

Copper production guidance is maintained at 100-110,000 tonnes for the year, and gold at 130-150,000 ounces.

OZ is not without risks, but the subdued price at the moment and potential for exploration upside may make it worth holding on to.

• Investors are advised to hold OZ Minerals at current levels.

Harvey Norman (HVN). There's not much good news for retailers at the moment, and Harvey Norman's third-quarter sales result last week didn't help. However, while it doesn't look great, things may not be quite so bad here as first impressions indicate.

Harvey Norman, like JB Hi-Fi and other electronics retailers, is experiencing a painful structural shift in consumer shopping habits at the same time as a painful cyclical downturn in consumer spending generally. This has left chairman Gerry Harvey very publicly playing catch-up with the internet.

So, first the bad news – sales were down 7.5% on a global comparable basis, and 7.7% for domestic stores, and this is on a 'constant currency basis'. The newsletters also expect a significant reduction in full-year net profit, from just under $240 million last year to between $160 and $187 million this year.

Sales are falling, and have done so in every quarter this year, while profit looks to have dropped each quarter by double-digit percentages. Worse, there is no indication this is about to improve.

But there is some good news. Harvey Norman has an enviable $2.3 billion property portfolio, which provides underlying value not present in its competitors. This is useful not only in lending a certain logic to Harvey Norman's $2.17 billion market cap, but also as security for borrowing that may help it outlast the vicious current environment.

The newsletters also point out Harvey Norman's furniture and whitegoods sectors have held up well, and these are areas its major rivals are not competing in.

The retail malaise has not spared Gerry Harvey, for all his protestations, but his company looks in stronger shape than it might otherwise be thanks to property ownership and a more diversified range of products.

• Investors are advised to hold Harvey Norman at current levels.

Watching the directors

Armour Energy (AJQ) chairman Nicholas Mather bought 1.6 million shares for $746,401, or about 47c each. One of the new names on the Australian Securities Exchange after listing on April 27, Armour’s share price hasn’t been helped by the chair’s show of confidence, closing at 36c today.

There were plenty of buyers at Seven West Media (SWM) this week, after the share price dropped sharply a fortnight ago following a profit downgrade. Chairman Kerry Stokes led the way, buying 25,000 shares at $3 each, and alternate director Bruce McWilliam picked up 20,000 at $2.97. Former Woodside head Don Voelte and SWM director bought 15,000 at $3.05 a share, or $45,750.

There were also some sizeable sellers among the directors this week. Cedar Woods (CWP) deputy chairman Robert Brown disposed of 393,782 shares for $3.55 each, or $1.4 million. Cedar shares are down this month, off March peaks of $3.90.

Meanwhile, Pro-Pac (PPG) chairman Elliott Kaplan sold 980,000 shares for $548,800, or 56c each. Pro-Pac has just completed the consolidation of several of its packaging sites in Queensland and South Australia.

And finally, former Healthscope boss Bruce Dixon has sold down his stake in Greencross (GXL), and resigned as a non-executive director of the company from today, for “personal reasons which see him committed elsewhere”. Dixon last week sold 42,804 shares from his super fund at $2.00 each, leaving him with 400,166 as he ceased to be a director.

-Recent large directors' trades
Date	Company	Code	Director	Volume	Price	Value	Action
26/04/12	HeartWare International	HIN	Seth Harrison	27017	77.26	$US2,087,427	SELL
26/04/12	Cockatoo Coal	COK	Andrew Lawson	2000000	0.27	$540,400	BUY
23/04/12	Acrux	ACR	Ken Windle	122873	3.95	$485,360	SELL
23/04/12	Pro-Pac Packaging	PPG	Elliott Kaplan	980000	0.56	$548,800	SELL
20/04/12	Octagonal Resources	ORS	Ian Gandel	4700000	0.15	$705,000	BUY

Source: The Inside Trader