Collected Wisdom

Sell Harvey Norman, buy oil explorer AWE…but hold QBE, Tatts and Wotif the newsletters say.

Summary: Analysts rate AWE a buy and Harvey Norman a sell, while QBE, Tatts and Wotif.com are all rated as holds.
Key take out: Investors have been seduced by Harvey Norman’s January sales figures, but the newsletters don’t share their optimism given the structural issues facing the business.
Key beneficiaries: General investors. Category: Portfolio management.

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.

Harvey Norman Holdings Ltd (HVN)

Despite Harvey Norman’s first-half results coming in worse than expected, the share price has risen about 12% in the past two weeks. Investors have latched on to the flickering signs of life contained in the January sales report. The newsletters don’t share the market’s enthusiasm and think the recent share price rise as a chance to reduce holdings.

Harvey Norman reported an 8.7% decline in like-for-like sales in the first quarter and a 4.1% drop in the second quarter. However, earnings fell 36.5% to $81.9 million, against expectations of a $108 million profit.

Rather than focus on these dismal numbers, the newsletters are concerned that investors have been seduced by chairman Gerry Harvey’s positive comments on the January sales numbers, which showed a 4.1% increase in like-for-like sales in Australia and a 5.4% rise overseas.

Separately, the newsletters are less than impressed by the rising tactical support the company gives its franchisees. This support – in areas such as advertising, incentives and discounts – actually increased 40%, from $45 million to $63.8 million. The investment press believes this reflects the structural challenges facing bricks-and-mortars, and despite the fact that Gerry Harvey now “gets” online, Harvey Norman will find it increasingly difficult to compete with online retailers.

  • Investors are advised to sell Harvey Norman at current levels

AWE Limited (AWE)

Oil and gas explorer AWE Limited has suffered a tough few years marred with setbacks, including a 10-month ‘shut in’ at its Bass Strait project. But investors and newsletters alike think the company may have turned a corner following the group’s latest results.

While underlying profit fell 31% to $13.2 million, this was due to higher-than-expected operating costs stemming from an extended 10-month shut-in of its BassGas project in the Bass Strait.

BassGas re-started production in mid-October and helped push December quarter production 33% higher to 1.3 million barrels of oil equivalent. A decision on the next stages of the project is due mid-year, while AWE is also expected to make an investment decision on its Ande Ande Lumut project in Indonesia later this year. The group is currently looking to offload 50% of its interest in the project to reduce its capital expenditure if it goes ahead.

The newsletters have taken a broadly positive stance toward AWE, but one source sees it at the higher end of the risk spectrum due to the short field life of some its operations and exploration risk. But its smaller size means it can achieve decent leverage even on small discoveries.

Taking all of this into consideration, the investment press sees potential for AWE and believes the stock price doesn’t adequately reflect the overall value of its assets. The newsletters see this as a good buy for those looking to gain more exposure in the energy sector.

  • Investors are advised to buy AWE at current levels

QBE Insurance Group Limited (QBE)      

Taking the helm at QBE, industry veteran John Neal has been tasked with restoring the company’s reputation after three years of volatility and declining profits. It’s certainly won’t be plain sailing ahead, but in the short term, Neal’s $US250m cost-cutting plans should deliver some benefits.

A common theme in the insurance business has been to deliver cost savings: Indeed, it is the central plank of Neal’s new strategy, specifically through offshoring jobs as a means of “optimising process efficiencies”. Neal has also engineered a management reshuffle.

But the pesky “problem child” US operations are still a strain on the group’s earnings. A high number of claims flooded in from natural disasters last year, while reduced premium rates added to the group’s woes. Investors were also disappointed by QBE’s decision to cut its dividend from 70% to 50% of cash profit.

The newsletters are all too aware of the difficulties that lie ahead for Neal in salvaging investor confidence in the insurer, but by all accounts he’s making the right moves – in the short-term at least.

  • Investors are advised to hold QBE at current levels

Tatts Group Ltd (TTS)

Tatts has no doubt been backing itself to recover from the loss of its Victorian gaming licence last August, but uncertainty over the future demand for gaming has the newsletters worried. If Tatts can capture the online audience and the younger demographic, it could well be a game changer.

Following its 23% fall in first half profit, investors punished the group, sending its share price from $3.40 to about $3.20. The group said the decline in profit was due to the closure of its Victorian Tatts Pokies business. Tatts is taking legal action against the Victorian Government in a bid to recover lost earnings, but this is likely to be a drawn out case.

The newsletters are also sceptical that Tatts will be able to stage a repeat of the first six months when a lucrative total of 21 jackpots brought in a combined $660 million worth of revenue for the group. The previous term only nine jackpots came through for the gaming house, worth just $155 million. 

Chief executive Robbie Cooke has been tasked with finding a way to complement the bricks-and-mortar business with the rising popularity of online gambling. The group confirmed it is focusing more on its online strategy, but declined to be more specific at the results presentation. The newsletters are convinced moving online is a step in the right direction and should help revenue growth in the long term. Currently, online sales account for just 8% of total sales. If Cooke can grow this significantly, Tatts may win the final hand.

  • Investors are advised to hold Tatts at current levels

Wotif.com Holdings Ltd (WTF)

In the early 2000s, when booking holidays online was more novelty than the norm, Wotif established itself as the go-to operator for last-minute deals at a discounted price. More than a decade later, and the newsletters say Wotif has to overcome some big hurdles if it wants to remain a leader in the field.

International players seizing more market share and the rising dollar sending holidaymakers overseas continue to put a dent in the company’s profits. Last month, the group reported a 4.6% fall in net profit after tax (NPAT) to $27.5 million for the first half, against expectations of a flat profit result.

Straight away investors inflicted a hefty punishment, leading the group to suffer its biggest one-day fall in five years. The stock plunged from $5.89 to $5.19 in a single session, and fell to $4.92 the following day. It’s recovered slightly since then, but the newsletters are still wary, given the outlook for the online travel industry, which has become deeply competitive.

The newsletters are also concerned by the fact that the domestic business is already at maturity. To grow, it will need to cultivate other areas of the business, including flights and international accommodation. Wotif has plans to expand its presence in Asia, but competition on the international stage is intensely fierce, and one source doubts it can deliver comparable earnings growth.

Meanwhile, there has been lingering chatter of a possible Webjet-Wotif merger, which would dramatically reduce operating costs for the two travel companies. Both are also aligned in their long-term strategies, with the focus on growth in Asia. Whether or not the rumours materialise into something more concrete, the newsletters see Wotif as a pretty safe bet for the time being.

  • Investors are advised to hold Wotif at current levels.

Watching the directors

  • The sellers dominated trade last week, with a number of directors reducing holdings. Carsales.com founder and chief executive Greg Roebuck was one such seller, netting himself $7,748,591 after disposing of 846,145 shares in on-market trades.
  • Elsewhere, Iluka Resources managing director, David Robb, sold 149,472 shares for a cool $1,435,091 to “meet taxation liabilities and other financial commitments”.
  • Rounding off a busy week, Super Retail Group chief executive Peter Birtles sold 500,000 shares for a hefty $5,825,000. But don’t worry, Birtles is still a significant shareholder in the group, with a holding of 1,442,596 shares.