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.

Rio Tinto (RIO). A weaker second-quarter copper production result, and concerns about an investor pull-back from Australian resources giants due to slowing demand, has not dimmed the positive view of Rio Tinto.

Production of iron ore and coking coal was strong in the quarter, and Rio produced 94.3 million tonnes of iron ore in the first half, rising 4% year-on-year. Coking coal production for the same period was up 9% to 3.7 million tonnes.

Iron ore makes up the vast majority of Rio’s income, and despite price falls is still expected to contribute 60%-70% of the group’s earnings for 2012. This means any weakness in demand from China, along with ongoing expected declines in the iron ore price, will be felt by Rio investors. However, with current Pilbara capacity at 230 million tonnes per annum, and Rio close to that full capacity ahead of an expansion to 283Mtpa by the end of 2013, volume does not appear to be slowing at present.

Copper was weaker for Rio, as the Kennecott mine suffered operating problems in the half that caused a production decline of more than 50% there, and guidance for refined copper in 2012 is 300,000 tonnes. This was not a surprise, and nor was the ongoing poor performance of its aluminium division as the Alcan dog continues to bite. First production of copper from the massive Oyu Tolgoi mine in Mongolia is expected in the first half of 2013, which should boost production in this sector significantly.

With production clearly on track across most of Rio’s divisions, and a good pipeline ahead, commodity pricing is clearly the biggest issue for profitability. While this is expected to soften, the investment press sees improved volumes largely offsetting the price hit.

While some remain wary of the consequences of a China hard landing, and uncertainty surrounding the economic outlook in Europe and Asia has impacted the share price recently, the newsletters maintain this is a top global miner.

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

Woolworths (WOW). Beating expectations with its fourth-quarter sales figures, the retail giant is in pretty good shape – so much so that it has become a bit of defensive play in this volatile market and the newsletters are shifting to ‘hold’ recommendations over the ‘buys’ of a few months ago.

The news was surprisingly good from Woolworths this time around, with comparable fourth-quarter growth in food and liquor rising 1.3%, and 3.8% in total including 32 new stores. Total group sales were up 4.7% for the full year, and generally beat consensus across the board.

The biggest issues the company faced through the year were price deflation and increased competitive pressure from Wesfarmers-owned Coles, but on each of these counts it held its own. Deflation was contained to less than 1%, though shelf prices dropped 4.4% in the second half and 5.7% for the year as a result of discounting as well. However Woolworths remains the larger of the two supermarket giants, and while the gap is narrowing it's hardly because the larger player is going backwards.

Underperformers Big W and Dick Smith also posted creditable growth, with the former up 4.6% on total sales for the full year following two years of contraction and the latter experiencing a 15.4% fourth-quarter comparable store sales increase, which the company puts down to promotions ahead of the sale of the business.

Headwinds in discretionary consumer spending continue, but the newsletters note Woolworths is moving away from this through the Dick Smith sale and performing well in non-discretionary supermarket retailing. Coles will continue to put pressure on the company as well, and its sales result of xx% increase last week confirms this.

In addition, the Woolworths share price has appreciated 17.5% in the past six months, to just under $29 now, pricing it above where most see a reasonable buying range. That said, there's nothing in the full-year sales figures to suggest investors should do anything but continue to hold this solid defensive stock.

• Investors are advised to hold Woolworths at current levels.

Stockland (SGP). The retirement of 11-year chief executive Matthew Quinn did not come as a surprise to many in the business community, and the investment press see promise in the possibility of a new strategy and a residential recovery.

Quinn performed well at Stockland, and stayed at the helm far longer than the average CEO, growing the business through a generally very positive decade in Australian property. Moreover, he avoided the mistakes some of his contemporaries made, such as at Centro. He is due to actually leave in February next year after the board finds a successor, and some in the investment press see this as problematic. The lack of an immediately obvious internal candidate to appoint could be viewed as a weak point, but there is plenty of time and while some say the current executives are aligned with Quinn’s strategy, some change is inevitable.

Stockland is diversified across the property sectors and, as discussed previously in Collected Wisdom, it is beginning to focus more on the retirement housing sector. This holds promise as the baby boomer generation moves into retirement and Stockland is also poised to benefit from an uptick in the residential market.

As such, the performance of housing, and also of retail property – which Stockland is heavily investing in as it “de-weights” from office and industrial – over the coming six-eight months before Quinn’s departure are vital to see where weakness in the existing strategy might lie.

Dividends are also strong for Stockland at the moment, and the company is expected to pay roughly 24c a share this year, unfranked, to yield about 7.5%.

• Investors are advised to hold Stockland at current levels.

Santos (STO). With the focus last week on Woodside, and the giant Pluto project coming online, some of the attention was taken away from a solid production result at Santos.

Production lifted 5% for the quarter to 13 million barrels of oil equivalent, and revenue was limited to a 2% slide in the wake of lower oil prices as Santos improved sales from the more profitable liquids division. Sales were up 6.4% in total for the quarter, but were particularly strong in gas and ethane (up 8.7%) and crude (up 12.7%), offsetting price declines and making up for a large 27.6% drop in condensate sales volumes.

The Cooper Basin was a particularly impressive area, as improved weather and reliability of wells boosted output. This is expected to continue as more well connections come online through the second half.

Moreover, a depressed share price has again stirred talk of Santos as a takeover target. Its status as a medium-sized oil and gas producer with a range of valuable assets means it could be absorbed into one of the global energy giants, or be part of domestic merger activity to scale up.

The newsletters like Santos as both a producer and an explorer, and it has a balance sheet in decent shape, but it does have very high capital costs. There are considerable assets set to come online in the coming years, but Santos also announced it would cost an extra $2.5 billion on its Gladstone LNG project before completion in 2015. Though capex is large, and price pressure in both oil and gas could provide headwinds for the company, it remains a stock the newsletters are holding onto.

• Investors are advised to hold Santos at current levels.

Kingsgate Consolidated (KCN). The high-risk Thai gold producer’s share price has fallen sharply through 2012, off more than 40% since February, and continually disappointing results are seeing the newsletters heavily reduce estimates of ‘fair value’ and downgrade their expectations for the company.

The issues keep mounting for Kingsgate and, despite the investment press’s ongoing keenness for the company, some of the expected improvements have not come to fruition. This is increasingly evident from fourth-quarter production results.

The company’s main asset is the Chatree gold mine in Thailand, where production rose 9% for the fourth quarter, though it missed expectations of a greater rise and costs increased 10%. Moreover, the newsletters identify problems with the grades of ore being produced, which are falling more than anticipated, and exploration or expansion of Chatree into confirmed higher grade areas needs to impress.

The company’s Challenger mine in South Australia, acquired in 2010, theoretically reduces single-mine and sovereign risk (as discussed previously in Collected Wisdom. In practice however, Challenger is proving expensive, with production costs above $US800 per ounce, and the offsets Kingsgate was expecting from Chatree to mollify this are not happening.

Challenger output fell 10% for the past year, and though some early surrounding exploration results were positive, this will require more capital expenditure to develop.

Simply put, Kingsgate is a risky miner that the newsletters have liked for a long time, but are increasingly having to face problems in grade, production and outlook across the board. It’s still a profitable business, although some investors may need to start looking elsewhere for gold exposure.

• Investors are advised to hold Kingsgate at current levels.

Watching the directors

Nicholas Politis continued buying at AP Eagers (APE), following his $3.6 million purchases last week. Politis bought a further 450,000 shares for almost $1.6 million, or the same price he paid the week before – $3.55 a share.

The largest move on the selling side was BCD Resources (BCD) non-executive director Nigel Webb, who sold 70 million shares off-market for 1c each, which is exactly where they sit on market right now. A true penny stock, BCD is best known as the operator of the infamous Beaconsfield gold mine in Tasmania – the site of the protracted rescue of miners Todd Russell and Brant Webb – which closed in late June.

Red Hill (RHI) chairman Neil Tomkinson and non-executive director Joshua Pitt bought up some more shares in the company, with both picking up 130,226 shares for a little under $250,000, about $1.87 apiece. It’s the second recent buy from Pitt, who paid $1.99 a share for about 200,000 in late May. Red Hill’s share price has fallen more than 20% year to date.