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.

BHP Billiton (BHP)

As the headlines are awash with talk that the end of the mining investment boom is nigh, the newsletters are reminding investors once again that it is the big players like BHP that will be advantaged. The end of the Pilbara iron ore ‘bottleneck’ is coming, but with an excellent portfolio of long-life mines, diversified across resources, and flush with cash, BHP is still firmly a stock to buy.

After selling its diamond businesses (the EKATI diamond mine and a marketing operation) to Harry Winston Diamonds earlier in November, the company went into its Australian AGM last week on a relatively positive note. Chairman Jac Nasser pointed to the business’ record high dividend and near-record profits and cash flows, despite an uncertain global economy.

The newsletters also point to changes being undertaken in response to lower commodity prices, particular in iron ore. They note that BHP has shifted focus from revenues to costs, and is now working to grow in a more capital efficient way after years of high prices drove profit growth previously. Queensland coal costs are coming down, with expensive projects at Norwich Park and Gregory shutting down and the company using its strong negotiating position to squeeze contractors and suppliers, as well as commencing fly-in fly-out work there. FIFO, common in Pilbara iron ore mining, could widen the company’s employee pool and cut industrial relations costs, the newsletters say.

Meanwhile, it is highly likely that BHP will proceed with its $10 billion potash development next year after receiving the mining rights it needed from the Canadian governments last week.

As a low-cost player, with significant infrastructure already in place, BHP is well positioned for the end of the commodities price surge. As the newsletters remind us, the volume boom is not over – and the producers who can continue to operate in a high-volume, low-cost, efficiently-run environment will continue to perform strongly. BHP is such a player.

• Investors are advised to buy BHP at current levels.

Amcom Telecommunications (AMM)

Collected Wisdom last discussed Amcom in early September after it reported soaring revenues and solidly growing earnings. Following its recent AGM and guidance for similar earnings growth, Amcom remains a stock to watch in the eyes of the newsletters.

Amcom said it expected underlying earnings growth “of a similar proportion to FY12”, or 20%. Shares lifted roughly 10%, to a high of $1.45 last week, but have drifted back slightly since then.

The company also remains a viable takeover target in the eyes of some of the investment press, and has also proved to be a savvy buyer, with acquisitions of Bluefire and L7 Solutions strengthening the business in key managed services divisions and adding to profits.

The newsletters also suggest the capital assumptions for the entire telco industry should be revisited given the low-interest rate environment. As a relatively defensive sector, they see many telcos taking advantage of the rates and achieving reduced capital costs, with the ability to take on or refinance debt. This should be felt across the sector to varying degrees. For Amcom, some suggest it could reduce its cost of equity by 50 basis points, and its total cost of capital by 60 basis points.

Amcom dividends are passable, with forward estimates of a roughly 4% yield before franking credits, though the payout ratio is on the decline. However, earnings are rising and the sector provides plenty of revenue upside as the fibre era begins. The newsletters definitely see reason to hold on.

• Investors are advised to hold Amcom at current levels.

Breville (BRG)

Just when it seemed like coffee and its production had as many different forms as possible (think: barista, percolator, plunger, stove-top pots and the much-maligned instant) now we have ‘pods’ and the single-cup coffee machine. The investment press notes that Breville is building itself a slice of this new market – currently worth roughly $2 billion in the US and growing worldwide – which provides growth and reduces the impact the changing landscape could have on its older-style coffee makers.

Breville has had an excellent 2012, and is coming into the second half of its fiscal year with tailwinds behind it. The company has shrugged off the sluggish consumer spending sentiment, to record strong earnings growth in North America, partly riding the recovery there, and was included in the S&P ASX200 index earlier this year.

Guidance for operating earnings in the first half is for a 10% increase over the same period in 2011, and its dividend yield remains above 4%, although a forward price earnings ratio consensus of 14.5 is getting to a high level – but not overly expensive according to the newsletters.

While the share price has rallied strongly through the year, and is more than double where it started in January, the investment press sees it as part of a longer-term upward trend. While some pull-back may be expected after such a sustained period of price gains, the earnings picture for the company and some technical support levels suggest there’s not too much downside.

• Investors are advised to hold Breville at current levels.

Starpharma (SPL)

In the race to cure the various ailments of the human race, there’s a few million dollars to be made and lost along the way. Starpharma investors found out the latter last week when phase three study results for its VivaGel product were released.

The stock dropped almost a third, closing at $1.62 on Wednesday and $1.15 on Thursday after hitting a low of $1.

VivaGel was being tested for the treatment of bacterial vaginosis (BV), a rather unpleasant disease apparently affecting almost 30% of US women, but did not meet its goals of a cure within two to three weeks. The newsletters note one of the main problems was an unusually high placebo cure rate, which was not seen in the phase two study.

On the other hand, there are several positives remaining for the company. Licensing deals with Durex and Okamato – the leading condom brands globally and in Japan, respectively – remain a valuable factor, and the phase two trials for the prevention of BV recurrence are on track. In fact these trials “support the prevention of BV recurrence indication” for VivaGel, which is positive for the condom licensing product lines.

The newsletters do warn that as clinical trials develop, the company only has one to two years of funding left from its $37 million in cash. That means a capital raising could be on the horizon in 2013, and investors should keep an eye on the spending. This is a company not without significant risk, heightened by the unsuccessful trial, but it is working in a less-developed medical area with significant potential.

• Investors are advised to hold Starpharma at current levels.

Norfolk Group (NFK)

After a disappointing and uneven year, electrical and air-conditioning group Norfolk reported a first -half net profit of just $5.6 million and the newsletters decided they’d had enough. The bottom line is that in the engineering space the work is drying up, the end of the mining boom is starting to pinch, and only the best-placed companies will not be stung by this.

Norfolk was one of Robert Calnon’s small cap ‘lowlights’ of the mid-year earnings season earlier this year and its performance was expected, although not exactly welcome. The stock is down 50% this calendar year and the project slowdowns, delays, increased costs and weakened demand are expected by many in the investment press to continue.

Last week the board announced it has put back the ‘strategic review’, or asset sales process, to the end of the company’s fiscal year in March 2013 to wait for the full-year earnings picture and “quantify the cash released for current working capital”. The company reiterated the board’s position that they believe the company is too small to remain listed with current earnings and market cap. Consensus forecast earnings for the full year are just $15 million, a decline of almost a third from FY12, and the company has underlying negative cash flow.

The newsletters point to razor thin earnings margins, rising debt and a bottom line very vulnerable to contract changes or hiccups – simply, the risks are too great and the margin for error too small.

To put it in terms familiar to the heating and cooling business, this is a company that needs to reverse-cycle quickly if it hopes to continue and ventilate the bad smell that currently surrounds it.

• Investors are advised to sell Norfolk Group at current levels.

Watching the Directors

Jack Cowin has been hungry for Fairfax (FXJ) stock this week, with the new director buying two million shares in the company for a total of $926,000 – or a little more than 46c apiece. The Rinehart ally and fast food king has already made money on paper, with Fairfax closing at 48.5c today, but missed something of a bottom when the share price hit a low of 37.5c in early November.

Also picking up stock in a company somewhat unflavoured by investors in 2012, was Harvey Norman (HVN) chairman Gerry Harvey. Harvey picked up 275,000 the week before last, and 500,000 this week, for a total of $1,368.960 – or about $1.795 a share. It’s a fair way off the $7 they were fetching before the GFC, but Harvey is evidently confident in his business, and was last week reported as saying the chain would be the “last man standing” in a tough retail downturn.

On the selling side, the chairman of walnut and onion producer Webster (WBA) has moved nearly 1.3 million shares in an off-market trade. Roderick Roberts sold the shares, indirectly held in a super fund, for a total of $770,054.40 – or 60c each. Webster completed a successful 15% placement and 1 for 4 rights issue earlier this year, raising $20 million for the company, and recently picked up an Australian Export Awards gong. The company plans to expand walnut orchards and build a walnut cracking facility – which sounds just cracking – which just goes to show there’s many layers to this onion.