Collected Wisdom

Hold Dulux and Orica, buy Collins Foods and QBE, and sell Caltex, 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.

DuluxGroup (DLX)

In the hustle and jostle of takeover negotiations, it can be easy to ignore the rest of a company’s picture, both in performance and the related macroeconomic trends. Dulux reported its full-year results last week and the investment press has turned its attention once again to the fundamentals of the company – scratching beneath the paint, as it were – now that the Alesco (ALS) takeover is all but finished.

Revenue lifted 7% to $1.1 billion, while reported net profit fell 4% to $89.5 million. “Like for like net profit” according to the company was up 3% to $79.6 million. The newsletters note performance is distorted by both the takeover, and the flooding of the Queensland Rocklea plant.

At the most recent report, Dulux has gained over 80% of Alesco, and the newsletters consider the acquisition to be a given, and have adjusted expectations for earnings and share price slightly higher. However, the Selleys and Yates hardware and garden brands significantly underperformed in the year – they make up nearly a fifth of group EBIT and earnings fell by 18.4% – and Yates suffered serious margin contraction after a shift in positioning to lower prices.

However the real question with Dulux is the direction of the housing market. The investment press is attracted to Dulux’s greater exposure to home renovation and maintenance rather than construction, but it remains tied to economic conditions and the broader housing sector. The dominance of the big box hardware retailers is also a threat, as the dominance of the supermarket giants has hurt the brands which supply them also.

If the early signs of a housing recovery are genuine, and demand from New Zealand post-Christchurch earthquake continues to rise, then Dulux (with newly added Alesco exposure to new homes) is looking fresh. But if the latest bump is just a lick of paint on a trembling structure – then it may be time to keep a close eye on Dulux holdings.

  • Investors are advised to hold Dulux at current levels.

Collins Foods (CKF)

Cricket season is back! The smack of leather on willow, the clipped and slightly nasal commentary voices, the agony of rain delays and – for recent memory at least – the endless advertisements for KFC. That brand, along with Sizzler, is the flagship of Collins Foods, which listed last year and traded briefly above $2 before a very disappointing profit guidance downgrade sent the stock down to the $1.20 mark where it has stayed, closing at $1.26 today.

The newsletters think the company is truly on the mend, though, and approve of recent statements from the chairman at the AGM as well as changes to the shareholding.

Sales from some private equity groups such as AMP, the newsletters note, are expected to remove something of a price ‘overhang’, while improving liquidity at the same time.

The real value though is in the price. Analysis suggests there is little if any performance expectation in the current share price – the 2014 forward PE is just 6.8 and a dividend yield approaching 7% over that period – and the newsletters argue this means any decent showing will drive the stock price considerably higher.

The CEO, Kevin Perkins, and chairman, Russel Tate, are experienced leaders, and the company has a strong history pre-listing to draw from. Fast food remains a business that holds up well in cyclical downturns, and while costs are being reined in, the company is also investing in next generation technology such as mobile ordering systems, and self-serve kiosks.

It’s hard to imagine the business disappearing any time soon, with well-known brands and presence across Australia, and at the current prices the newsletters see a tasty value meal on the menu here.

  • Investors are advised to buy Collins Foods at current levels.

Orica (ORI)

Collected Wisdom has paid some attention recently to Incitec Pivot (click here), and the debate of sorts in the investment press over how much doom fertiliser prices and ammonia supply-demand shifts spell for the company, but its major competitor and former owner Orica has a more positive general consensus. There are questions over the explosives business, and an unfortunate write-down on mining consumables, but Orica remains in pretty good health for the moment and the newsletters are holding on.

The Minova mining consumables business took a $367 million write-down, largely on the back of a weaker US coal sector, where volumes were down 7% in the second half. However the company remains generally positive on the market, and a program is in place to rationalise costs and lift market share.

Net profit for the year was $403 million, though the underlying profit was $650 million – a small improvement on the previous year and a number widely expected by the market through guidance.

Generally the mining services division performed well, particularly given the shutdown of the Kooragang Island plant in Newcastle after ammonia leaks were discovered, and EBIT dropped just 3% even with the closure to $790 million. There was some investor anxiety over the patchy explosives demand, and the outlook for the mining sector is obviously a relevant point, but ammonium nitrate demand was 2% higher globally and a plant extension at Kooragang Island is underway – significantly benefitted by the decision from Incitec Pivot not to proceed with a similar facility.

The bottom line for the newsletters is that Orica has generally identified the areas that caused it grief in 2012, and is turning over enough in earnings across some diverse businesses to make it worth holding on until things recover.

  • Investors are advised to hold Orica at current levels.

QBE (QBE)

While last week, Collected Wisdom reported that Westfield had avoided taking on much damage to its east coast US sites in Hurricane (or ‘super storm’) Sandy, the same unfortunately can’t be said for QBE. This week the newsletters note the large negative impact that’s had on the share price, but also find there’s still much to like – after a time.

Roughly 10% of the insurer’s policies are held in the US northeast, which sustained significant damage across several states. Adding to this, insurers are reportedly incensed that Sandy was downgraded from a hurricane once it made landfall, as this considerably increases the size of eligible payouts under storm insurance. Shares immediately took a $1.50 hit, and have fallen almost a quarter over the past week to close today at $11.07, from nearly $13 before the bad news came to light.

QBE’s former guidance for an insurance margin of 12% stood for several months, and was confirmed as recently as October, but has now been downgraded to 8%. Early estimates of retained net losses by QBE from the storm are between $350 and $450 million. As well as Sandy, the prolonged drought in the US is also hurting the company. The newsletters highlight this as a larger problem, or at least a larger surprise, than the damage from Sandy.

A $500 million subordinated note is now planned to cover the losses and, while some commentators have suggested there could be an imminent capital raising of up to $1 billion due to a potential rating downgrade, the newsletters see the company as a good investment generally. This stems from two relevant points – firstly, disaster insurance is expected to be re-priced across the industry, and increased premiums will reinflate the bottom line, and secondly, dividends remain strong.

It’s not that the investment press thinks QBE is an inherently badly-managed company or has fundamental problems, but for the time being investors need to have a longer-term view and a bit of courage to take up this opportunity.

  • Investors are advised QBE is a long-term buy at current levels.

Caltex (CTX)

Oil is top of the investment agenda once again, after the International Energy Agency dropped the S-word (that’s ‘Saudi’) in relation to newfound US energy reserves. Tim Treadgold explained the impact on big oil last week, but the main way most of us have anything to do with oil is at the petrol pump. By way of this digression, we come to Australia’s only refiner, Caltex, where a 50% improvement in the share price over the year to date has the newsletters scratching their heads given the macro outlook for the company.

The newsletters argue the share price improvement comes down to something called the Caltex Refiner Margin, which is the difference between importing petroleum products and importing the crude oil to make them. The better the CRM, the more profitable the Lytton and soon-to-be-closed Kurnell refineries are, and it has improved sharply from US$6 a barrel in the March quarter to US$13 in the September quarter.

However, this is not really a positive in the longer term, particularly given the strategy to close the Kurnell refinery, as the company moves to refining just one third of its product. The closure of Kurnell also introduces a range of risks – mainly cost overruns from the closure, environmental clean-up, and conversion to an import terminal.

Slowing of global growth, uncertain oil prices, transition to other forms of energy, and cost blowouts are cited as key concerns, which the newsletters argue could slash the Caltex share price in half. Conversely, however, if the oil price was to drop sharply, to US$50 a barrel, and everything else stayed on track, the upside in the stock from here would not be of that magnitude – the newsletters suggest a $4.50 rise, or about 25%.

The simple outlook from the investment press is that the company is not positioned ideally at the moment, faces a large number of risks in change, and is weighed upon by uncertainty and outside factors. The share price improvement has been strong this year, but it may be time to sell.

  • Investors are advised to sell Caltex at current levels.

Watching the Directors

Seriously, a billion.

To paraphrase Mark Zuckerberg’s character in The Social Network: You know what’s cool? A billion shares. That’s how many shares in sports clothing minnow Beyond Sportswear (BSI) non-executive director Mark Kellett disposed of off-market last week – 1,052,544,285 to be precise. Sure it was at $0.00034 each, or about $360,000, but it does sound impressive.

Selling a comparatively paltry 6 million shares, although for a much greater total of $5.6 million, was Paladin Energy (PDN) managing director John Borshoff. He shifted the stake at 94c, for “management of his personal financial affairs”, and retains 15.9 million shares in the uranium miner which closed trading today at 83c. Fellow directors were quick to chime in with some buying, demonstrating their support for the company, with chairman Rick Crabb buying 300,000 shares for $344,650, and independent non-executive director Don Shumka buying 100,00 for $80,497.

Also buying this week was Primary Health Care (PRY) chief executive and managing director Edmund Bateman. He acquired a total of 417,674 shares from November 7 to 14, in several parcels, for between $3.7467 and $3.80 a share. That’s an outlay of more than $1.5 million, and leaves him with more than 36.6 million shares in the company, or about 13.5%. Shares in Primary closed higher today, at $3.91.