Collected Wisdom

Buy Rio Tinto, sell Boral, hold Transurban, Crown and Onthehouse, the newsletters say.

Summary: Rio Tinto is still on the resources menu, despite $14 billion in write-downs.

Key take-out: Minerals commodity prices are forecast to rise, and Rio is seen as one of the best plays.

Key beneficiaries: General investors. Category: Portfolio management.

Rio Tinto (RIO)

Out with the new, in with the old. That’s one way of looking at Rio Tinto’s tumultuous week just past, in which a strong fourth-quarter production report was somewhat overshadowed by $14 billion in write-downs and the hasty subsequent departure of CEO Tom Albanese. ‘About time!’ was the cry from the investment press.

Chairman Jan du Plessis wasted no time in appointing iron ore chief Sam Walsh to the top job, and analysts generally lauded the move as a sound pick. Poor acquisitions, namely Alcan and Riversdale, have cost the company billions, and the appointment of the best-performing and traditional sector head signals an aim to return to more stable and more profitable times (iron ore contributed 75% of EBIT in 2011). It appears to have been the smaller, but more recent, Mozambique coal write-downs that got heads rolling, and these cannot be placed at the foot of anyone other than Albanese.

The newsletters liked the company before, even with the expectation of further aluminium write-downs, and they like it even more now.

The production data is probably the most relevant news for investors in regards to the actual position of the company, and fourth-quarter production met strong expectations. Rio beat its target 199 million tonnes per annum in 2012, with 237mtpa by the end of the year, and is on track to meet the 290 mtpa target by the end of 2013.

The newsletters are comfortable with the sales and expansion of the iron ore division, but add a note of warning that it does represent a very large proportion of group earnings.

That said, 2013 is expected to see sharply improving copper production, and increased alumina prices that may finally bring a small turnaround in the written-down Alcan businesses. More generally, cost cutting and improvements in productivity are starting to show real benefits for the company. The investment press notes it is one of the few miners to return its cost of capital through the commodity cycle, thanks to its positioning.

If this year does turn out to be, as many are saying, the return of the miners, then Rio is undoubtedly one of the best plays to take advantage of it – write downs and all.

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

Boral (BLD)

Also shedding staff last week, although admittedly quite a few more than Rio, was construction sector straggler Boral.

Months of review following the appointment of CEO Mike Kane will see 700 redundancies and $90 million of expected savings – plus $15 million more from operations ‘rationalisations’. The company has also cemented, as it were, the closure of its Waurn Ponds facility, and moved to the use of cheaper, imported cement. Roughly 1000 jobs in total are being, or have been, shed from the company worldwide in this round of cuts.

When Collected Wisdom last looked at Boral, in May last year, it was immediately after the board rather bluntly sacked Kane’s predecessor Mark Selway – in what many saw as a premature move given he was rebuilding the building products company.

The newsletters were selling the company then, and they’re still selling it now, in spite of the changes and projections, on the simple fundamentals of the industry rather than the specifics. The company’s success depends largely on that of the domestic housing market, and non-resource-sector construction. On this point the newsletters see too many headwinds from housing affordability, consumer confidence and debt behaviour, and potentially rising unemployment, for a return to the kinds of construction levels that would see Boral improve in a meaningful way in 2013.

The view from the press is that the changes to save money and improve efficiency are undoubtedly positive – but now is just not Boral’s time. The housing recovery is slow, and unlikely to escalate quickly even if things pick up in 2014. Building products have little differentiation, and Boral has just not demonstrated an ability to hold onto returns for investors when things are weak.

  • Investors are advised to sell Boral at current levels.

Transurban (TCL)

Toll roads are not the most popular things in the world, but for investors the only question is whether they’re profitable. While the performance of Transurban in Australia has been solid, with revenue rising slowly but steadily, US assets have experienced some further disappointment. On the whole, the newsletters are holding Transurban, but with a critical eye to the offshore parts.

After a five-year build, the Washington DC ‘495’ express toll lane traffic volumes have been “lower than anticipated” since opening in mid-November. It’s too early to tell what the longer-term revenue picture will look like, but the newsletters give it little probability of success and are generally disregarding the US assets as serious factors in the value of the company. One calculation points out that revenue will need to rise by more than 750% to meet the original 2013 target, and almost 1400% to meet 2015 expectations.

There was better news locally though, as toll revenue rose more than 5% in the last quarter of last year, to just shy of $300 million, and the major Melbourne CityLink road saw a 5.8% increase in revenue on a 3% traffic lift.

Essentially Transurban holds a solid collection of Australian roads now, with some past disappointments in Sydney thrown in, but the industry as a whole has been far too optimistic with traffic forecasts. Volumes simply have not materialised in Brisbane, Sydney or the US in recent years, and the abilities of the companies involved to retain equity value have been called into question.

That said, Transurban is still viewed as a reasonable defensive stock, with its infrastructure-like nature offering something of a stable income once operating. The share price is exactly where it was six months ago – and investors can make of that what they will, with either positive or disappointingly negative connotations. It’s a decent hold, for the most part, the newsletters say.

  • Investors are advised to hold Transurban at current levels.

Crown (CWN)

The big name in Australian gambling had a very strong 2012, with expansions underfoot in Perth and Macau, the proposed Barangaroo development in Sydney progressing with bipartisan political support, and chairman James Packer cashing himself up thanks to the sale of Consolidated Media (CMJ).

Throughout, the newsletters have had a strong ‘buy’ on the company, and while the share price is beginning to get up into the fair value range for some observers, others believe it may have room to grow further still. The press is suggesting investors hold on, but it’s a hold with positive upside.

A few, albeit minor, headwinds are beginning to emerge on the horizon for the group, with some analysts noting the ongoing strength of the Australian dollar and updated currency forecasts over the medium term will have a mild negative earnings implication. Of larger concern is a Taiwanese investigation into the Asian JV, Melco Crown, chasing allegations that a subsidiary of the company breached foreign exchange controls regarding the movement of money into Macau. Media reports have suggested this could impact the Victorian Commission for Gambling and Liquor Regulation’s mandatory five-year review that is currently underway, causing potential roadblocks closer to home.

Positives for the company, however, remain multitude. Gambling revenue in Macau gained more than 13% in 2012, and Crown’s one-third stake in Melco Crown is viewed by some in the investment press as consistently undervalued – even with the 44% share price appreciation in the past 12 months. Back in Australia, the Barangaroo development has a way to run yet, and no further announcements have been made since it got the general nod in the right direction from the NSW state government last year.

Even with a short-term pullback expected following a sharp share price increase in the second half of last year, the call from the press is firmly to hold on – developments across Australia, in Macau, and potentially in the Philippines, are all big movers to watch.

  • Investors are advised to hold Crown at current levels.

Onthehouse (OTH)

Online businesses, and their development and subsumption of once-great offline sectors or niche markets, are a story that is not going to go away. Cycles are one thing, but there are deep structural changes occurring across a range of sectors, and one of these is real estate.

Coming into a field dominated by REA Group (which is majority owned by the Eureka Report publisher News Ltd) and Fairfax’s Domain sites, Onthehouse has built up an online real estate presence through offering free and deep research and property information for users. When Collected Wisdom first looked at the company in September last year, it had just reported a solid final result and completely acquired property data provider Residex.

Since then, the company has also bought The Ad Network, which adds what is expected to be a significant online traffic stream to the business and revenue through relationships with many of Australia’s big real estate agents.

With an 80% price improvement over the past 12 months, however, the newsletters also sound a warning that technical analysis shows it may be getting pricey. They expect a near-term pull back, but the thesis for investors should remain the same. This is a company serious about making a dent in the online real estate market, and before very long that will be, for all intents and purposes, the only real estate market. Built on strong foundations, this is a small company the newsletters are watching closely, and holding.

  • Investors are advised to hold Onthehouse at current levels.

Watching the Directors

In another very quiet week for director trading – it seems many may be in the enviable position of extending Christmas and New Year’s holidays all the way through to Australia Day – it was NextDC (NXT) deputy chairman and founder Bevan Slattery who stood out. He picked up an interest in one million shares, via a share mortgage arrangement, adding to his 25.2 million directly held shares. Those million shares would be worth $1.73 million at today’s closing price of $1.73, well off the $2.29 they were fetching in early 2012.

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