Collected Wisdom

Hold Macquarie Radio, QR National and The Trust Company, buy Rio Tinto and sell Aquila Resources, the newsletters say.

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.

Macquarie Radio Network (MRN) At risk of giving Alan Jones more media ‘oxygen’ than the ample amount he’s received in the past week, the newsletters are suggesting the recent back-and-forth between the government, social media users, the broadcaster and its advertisers has drawn attention to a potential buying opportunity.

Advertisers ran last week from the popular morning program on 2GB, Macquarie’s flagship Sydney talk radio asset, following the publication of some comments host Jones made about Julia Gillard at a Liberal Party fundraiser and a sustained online campaign. Chairman Russell Tate suspended all advertising from Jones’ show in what some labelled as a “Qantas moment”, referencing the sudden grounding of the airline’s fleet last year. Reports suggest it will cost the station hundreds of thousands of dollars, and the investment press sees it likely that Macquarie’s EBITDA guidance of $15 million will be adjusted lower.

The controversy comes at a time when the media environment in general is struggling, beset by a wider advertising downturn, and EBITDA last fiscal year was less than $7 million.

For investors, the question is the severity of the incident on earnings. One commentator notes the advertising boycott and public outcry associated with Southern Cross Austereo’s (SXL) Kyle Sandilands did not materially impact the group, and several have suggested the advertisers will return once the noise has died down. With the loss-making MTR Melbourne station resigned to the scrapheap of history and Ray Hadley still pulling in significant revenue for 2GB, the effect may be limited. Furthermore, Roy Morgan Research ranks Jones’ show as the second most popular weekday breakfast program on commercial radio – and the most popular among Mercedes Benz drivers, a major (perhaps former) sponsor.

Radio remains one of the more profitable and attractive ‘old media’ segments, (see Collected Wisdom June 25), and while Macquarie’s a squeaky wheel small-cap, the immediate jump from 55c a share to 62.5c a share on the news of the ad halt should tell you how much investors think of the financial impact compared with the increased attention and the liquidity it’s brought.

  • Investors are advised to hold Macquarie at current levels.

QR National (QRN) The Queensland government offsided the institutional investors somewhat this week with the sale of 16% of its remaining 32% stake in QR National via a share buyback and sales to a few select core investors. But the move has been good news for those holding the stock, as part of a large ‘overhang’ (expected sale of stock) is removed and the price has jumped. With this development coming in addition to favourable results, the newsletters strongly recommend investors stay in the stock.

QR will buy back roughly 290 million shares from the Queensland government at $3.47 apiece, the closing price of the stock before the deal was announced. In addition, the government has placed $500 million of stock with several undisclosed ‘strategic investors’. The buyback must be approved by shareholders at an extraordinary general meeting in late November, and the on-market share buyback announced in late August is expected to be suspended.

Underlying EBIT for the company rose 52% in fiscal 2012, to $584 million, and QR expects to increase coal haulage by 8% to almost 51 million tonnes in the coming year. New coal and iron projects are expected to contribute to the growth in volume, and while the slowing of the resources investment boom is something to consider, QR benefits from monopoly ownership of a regulated rail network.

Analyst valuations and profit forecasts lifted for the coming year, but the newsletters note there will be an increased debt burden as a result of the deal and gearing could rise to 28-38%. However, for the time being the developments are moving in the right direction for investors.

  • Investors are advised to hold QR National at current levels.

Rio Tinto (RIO) Iron ore prices have rebounded over the past three weeks, since the plunge to US$90 a tonne shook the market in September. With the increased volatility in the market, the investment press has taken another look at how the miner could be impacted – and the news is good.

Capital expenditure is the main focus for fiscal 2013, and there are suggestions Rio could look at asset sales also, as the company concentrates on competitiveness and countering rising costs of labour, transport, energy and resource business in general.

However, Rio, and the newsletters, are generally positive on the long-term commodity outlook. Rio is the best positioned of all iron ore miners on the cost curve, and the recent rebound in price is some evidence of the theoretical ‘price floor’ where many miners become unprofitable. Closing mines in China are providing a short-term price boost, according to Rio CEO Tom Albanese.

Then there’s Rio’s jewel in the Oyu Tolgoi Mongolian copper mine. With copper production forecast to be squeezed through to 2016 with mine closures and diminishing grades, Rio is in an excellent position in both cost, and ability to scale, as demand requires – and forecasts are for 13% annual compound growth in production in the medium-term.

One interesting potential scenario is that Rio’s vast aluminium investment – considered to date to be a very large, and expensive mistake with $40 billion invested and good as nothing to show for it – is actually a long-term blessing. The long-term view on aluminium is subject to some varying opinions in the investment press, and the risks have been discussed before in Collected Wisdom (LINK, Alumina), but if the price did improve as an economic floor is found absent China it would be a boon to Rio. One estimate is that every 10% move in long term aluminium price is worth $15, or 15%, to Rio’s share price.

Despite iron ore volatility, the newsletters see Rio Tinto as a company with a range of resources, great opportunities in the pipeline, and a firm ‘buy’ opportunity while the resources outlook is depressing the share price.

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

Aquila Resources (AQA) At the other end of the resources spectrum to Rio is Aquila Resources, which fulfilled some shareholder fears last week, announcing a major cost blowout at its West Pilbara Iron Ore Project.

The planned 30-million-tonne-per-annum mine is a 50% joint venture with Korean POSCO and American Metals and Coal International, and the feasibility study several years ago put the capital cost at below $6 billion. This has been revised to $7.4 billion – more than 25% higher – and operating costs jumped by a similar amount, although still to a comparatively very low $24 a tonne.

The investment press suggests the share price didn’t react terribly to this (it has held flat between $2.60 and $2.70 for weeks now) because cost blowouts, including this one, are largely expected now for iron ore projects.

Cash has been boosted by the sale of coal assets, and it must be noted that with prices rebounding and production costs expected to be so low Aquila has the potential to generate very high margins if it gets itself together.

However the newsletters have little confidence in this, noting proceeds from asset sales will dry up and cost estimates are expected to jump again. If you like a risky, undeveloped iron ore play with a coal kicker, then Aquila might look alright on current numbers, but the investment press don’t like the look of it.

  • Investors are advised to sell Aquila Resources at current levels.

The Trust Company (TRU) For investors burnt by the 10% fall in the Trust Company’s share price last week, the newsletters encourage continuing to trust it a little longer.

The financial services group makes a large part of its revenue from its assets, which means that when the market moves it takes the firm with it. However, the half-year results disappointed, and though the drop in profits was flagged several months ago the outlook for recovery appears to have underwhelmed investors and the heavily reduced dividend didn’t help.

Net profit sank 36% to $4.1 million compared with the previous corresponding period, and dividends dropped from 17c to 12c a share – almost 30%. On the other hand, revenue lifted 4% to $41.8 million and ‘normalised’ profit gained 10%. Normalised profit for 1H13 fell 11% against the second half of fiscal 2012, and guidance is for a flat EBITDA performance in the second half of fiscal 2013. Dividend guidance was also reduced, from 35c a share, to 27-29c a share.

The size of the difference between normalised and reportable profit is underscored by a number of “one-off items that are now behind us”, in the words of the CEO, though the investment press is wary these may continue to happen.

However, there were positive flows into Trust’s managed funds, the Corporate Client Services division performing strongly (with EBITDA for that section up nearly 40%), and a rising market. Several newsletters pointed out that a 1% movement in the S&P ASX2000 equates to $150,000 of revenue for Trust.

Volatility in the stockmarket, and commercial property market, may impact Trust, but the opportunities provided by growth in superannuation, managed investment, trustee services and the like in coming years is too powerful a value proposition to abandon the company yet. Given several takeover bids in the small-cap financial space (Plan B [PLB] and Clearview Wealth [CVW] most recently), Trust may also be a potential target for acquisition as the industry consolidates.

  • Investors are advised to hold The Trust Company at current levels.

Watching the Directors

Relatively new Seven West Media (SWM) chief executive, and former Woodside boss, Don Voelte has more than doubled his holding in the company with the on-market purchase of 85,000 shares for roughly $108,000 – or $1.2671 apiece. Seven West shares lifted to as high as $1.35 last week on rumours of a possible buyout by its major shareholder Seven Group Holdings (SVW, see above), but remain more than 60% down year to date.

Also buying were Washington H Soul Pattinson (SOL) directors Robert and Thomas Millner, who together bought more than $1.1 million of stock at $13.12. The chairman and non-executive director, respectively, added to the 17 million-share stake held by “family related interests” for the second time in several weeks (see here).

Macquarie Telecom (MAQ) was in the news for the wrong reasons this week, after its cloud servers went down and left dozens of businesses offline for up to two days. But amid the outage, non-executive director John Palfreyman shifted half of his directly-held stake in the company – selling 40,000 shares for $10.36 each, or $414,400. Palfreyman told The Australian newspaper (published by Eureka Report owner News Ltd) the trade was pre-arranged and was made without knowledge of the service disruption.