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.

Boral (BLD). What the rain giveth to Graincorp, it taketh away at Boral. Chief executive Mark Selway, who was just over two years into the job of rebuilding the building products company, was dismissed with a marked lack of subtlety last week, as the board “requires a Chief Executive with a leadership style suited to harmonising the changes that have occurred over the last two years”.

Selway presided over a hefty 13-15% profit downgrade at the end of last month – put down to poor weather hampering building activity – and an investment press already sceptical about the current construction environment now have succession uncertainty to add to the mix. But Selway’s legacy of cost-cutting, write-downs, sales of underperforming businesses and a major capital raising were supposed to be turning the ship around, so the move came as some surprise.

Boral’s case isn’t helped by its constrained cash flow, due to high capex spending and ongoing losses in its US operations. This removes the potential for innovative acquisitions, and also caps dividends somewhat.

If the US housing recovery begins to pick up pace, Boral is favourably exposed, although the newsletters see James Hardie (JDX) as a company with better prospects in that regard. The Asian plasterboard operations are performing as expected, but the jury is still out on the price Boral had to pay for them. A lack of other bad news bundled in with the CEO change announcement is hardly a ringing endorsement of the stock, and some analysts have questioned whether there’s some other bogey in the pipeline.

On aggregate (pun certainly intended), the cement and concrete play is exposed to a few too many risky areas right now, and far too few prospects for expansion or growth.

• Investors are advised to sell Boral at current levels.

AGL Energy (AGK). Aside from some rumblings about 2.5 billion tonnes of brown coal reserves and a power station not being the most environmentally-friendly assets, the newsletters are finding plenty of positives in AGL's plan to acquire said assets.

The Australian Competition and Consumer Commission (ACCC) approved the acquisition of the remaining 67.5% of the Great Energy Alliance Corporation on Thursday. GEAC owns the Loy Yang A baseload power station in Victoria (with roughly 2,200MW of capacity), and approval is now expected from the federal government as well, clearing the way for the full purchase which would boost AGL generation capacity by about 60%.

There are now two aspects of the deal for investors to consider: firstly, the underlying direction of the company post-acquisition; and secondly, the one-for-six renounceable entitlement offer launched following ACCC approval, with the aim of raising $900 million.

On the second point there is a fair amount of support, with an offer price of $11.60 a share, a discount of more than 20% to AGL's last trading price of $14.93 (the shares are currently in a trading halt).

On the former point, however, opinions are mixed. AGL management restated guidance for underlying net profit of $470-500 million in FY12, and Loy Yang is expected to be earnings accretive in fiscal 2013. But the reaction to the purchase when first announced in February was negative, and the share price dropped 70c to $13.67, though it recovered in April to roughly where it is today.

This can be put down to some concern over AGL's ability to cheaply export excess tonnes of coal, and also uncertainty about the structure of carbon pricing with a change of government. The Loy Yang deal is based on the assumption AGL will receive $241 million in immediate carbon tax compensation and roughly $1 billion in free carbon permits. Once the irony of this has adequately sunk in, it's also worth considering the impact of the bipartisan 20% renewables target by 2020, which AGL has said it supports.

On balance, the acquisition will likely lend the company strength, as Victoria is likely to remain hungry for Loy Yang's energy for the foreseeable future, but there are enough potential headwinds on the coal side of things to maintain caution.

• Investors are advised AGL is a hold at current levels, but are advised to take up the current entitlement offer.

Thorn Group (TGA). Just as it's hard to tell the difference between a rented TV and a fully-bought one, it seems investors are missing some of the differences between electronics rental group Thorn and its embattled retail cousins.

It has not been a good year for the electronics retail sector. Since the start of 2011, Thorn's share price has fallen almost 30%. However, when Retravision Southern announced it was going into voluntary administration on May 21, Thorn shares lifted 8c the following day, and closed at $1.49 on Friday – and rightly so, says the investment press, because this is no retailer.

One look at Thorn's full-year report last week [May 22] should be enough to see the difference. Underlying NPAT rose 34% on a 19.2% revenue increase, to $29.6 million, with a lift in dividend to 9.5c a share – an 11% increase.

These strong numbers are a result of Thorn’s position as a financier and renter, rather than a retailer. Thorn's cash lending subsidiary Cashfirst is growing at pace, with a loan book of $17.3 million developed from just $6.5 million in September 2010.

There is growth upside in this business – as well as in Thorn Equipment Services, which lends to the commercial sector – and the plan is to move into used vehicle rental.

Moreover, the company’s share price is depressed as a result of negative sentiment towards stocks such as JB Hi-Fi and Harvey Norman, despite Thorn displaying none of the slowdown in revenue or profit growth those retailers are experiencing.

The newsletters are firm in their view of Thorn – with growing profits, growing dividends and growing prospects, the outlook is bright.

• Investors are advised to buy Thorn at current levels.

Myer (MYR). On the other side of the coin to Thorn is Myer, which is definitely a retailer and definitely struggling.

There were very few positives to come out of Myer’s third-quarter sales update and the group’s profit guidance downgrade – FY profit is now expected to be 15% lower year-on-year, down from 10% – was a particular black mark.

However, the investment press hasn’t given up on the department store just yet, in part because near-record lows in the share price invite the braver buyers, but also because Myer has a few relative strengths over its higher-end competitors.

Firstly, the Myer One loyalty program has been very successful and allows a great deal of valuable customer information to be leveraged. Also, despite falling sales (third-quarter sales were down 2.1% for comparable locations) and falling foot traffic (6% lower in the quarter), Myer saw improvement in basket size, so there was some positive news. Online sales are a standout – more than tripling on the previous year – and while growth is obviously coming off a low base, it is promising to see the pace and potential in that important sector.

Of course, these are bright spots in a murky sea. Consumer sentiment remains very depressed, and is unlikely to be helped by cost-of-living rises and the general trend of household deleveraging. Even with a 15% net profit decrease – to about $140 million – there are no guarantees that profit won’t fall further, given there’s no certainty of a retail recovery.

On balance, however, the current share price slump on the already-expected earnings downgrade seems to provide little reason to jump ship now.

• Investors are advised to hold Myer at current levels.

Graincorp (GNC). When analysts talk about seasonal performance, they rarely mean it as literally as with Graincorp, which has just posted a bumper first half on the back of some very favourable weather for crops.

Net profit jumped 52% year-on-year for the half to March 31 (to $133.7 million), and although about 10 percentage points of this came from an adjustment to the malt business defined benefit plan, the underlying profit growth was still impressive, and beat expectations. Grain exports hit a record 5 million tonnes, with 4.6 million tonnes booked for the second half.

Full-year profit guidance was upgraded by $20 million on the announcement last week, to a statutory figure between $200-$220 million. Due to the nature of seasonal growth, storage and the export schedule, much of Graincorp’s earnings are generated in the first half, so the outlook for the full year looks fairly secure.

Dividends are also impressive, at 15c per share fully-franked for the interim, with a further 15c special dividend due to the strong conditions.

All of this confirms Graincorp’s status as a well-placed company with a dominant supply-chain position in soft commodities, which are expected to be less impacted by downward price pressure than hard commodities.

Having said that, the newsletters are quick to point out that the picture looks quite different if the weather changes, or pests damage crops en masse one year, and earnings are known to be highly cyclical. For the time being, however, shareholders of Graincorp can enjoy a strong share price and dividend rewards for a favourable season.

• Investors are advised to hold Graincorp at current levels.

Watching the directors

Natale Montarello, chairman and CEO of ThinkSmart (TSM), bought 1 million shares for a total value of $200,900, or just over 20c each. Also at ThinkSmart, Fernando de Vicente bought 75,000 shares for 20c a piece, or $15,000. ThinkSmart shares fell sharply following its AGM last week, as the company announced a major profit downgrade due to poor consumer electronics sentiment. ThinkSmart was a major supplier to Woolworths’ struggling Dick Smith stores, before its contract was not renewed in April. ThinkSmart shares closed at 20c today.

Another poor performing stock with a sizeable buy-in this week was Campbell Brothers (CPB). Non-executive director John Mulcahy picked up 8,000 shares for a total of $453,587. The company’s share price has slipped almost 20% in May, despite posting record profit growth for the full year last week.
On the selling side, Westpac (WBC) deputy chairman John Curtis sold 20,000 shares from his super fund over two days, for a total of $435,400, or $21.88 and $21.66. Westpac’s share price dipped almost as low as $20 on Friday, before recovering somewhat today to close at $20.40, which still makes Curtis’ trade come out looking good.

Finally, Rio Tinto (RIO) non-executive director Chris Lynch went the opposite way for his super fund, buying just over $100,000 of shares at $56.55 each – or 1,769 shares. Rio’s share price gained almost 2% today to close at $56.90, so on paper this trade is already going in the right direction as well.

-Recent large directors' trades
Date	Company	Code	Director	Volume	Price	Value	Action
24/05/12	Red Hill Iron	RHI	Joshua Pitt	206719	1.99	$411,002	BUY
21/05/12	Campbell Brothers	CPB	John Mulcahy	8000	56.7	$453,587	BUY
17/05/12	Oil Search	OSH	Zygmunt Switkowski	75000	6.77	$507,750	BUY