Collected Wisdom

This is an edited summary of the Australian investment press: It includes investment newsletters, major daily newspapers and broker reports. The recommendations offered represent the views published in the other publications and may not represent those of Eureka Report. This article is general advice only which has been prepared without taking into account your objectives, financial situation or needs. Before acting on it you should consider its appropriateness, having regard to your objectives, financial situation and needs.

Orica (ORI)

Orica shares appear to be undervalued at current levels despite the explosive and chemicals giant’s challenging first half, the majority of newsletters say.

Orica told an investor conference in Hong Kong that net profit for the six months to March 31 would be below its $267 million result at the same time last year. However, the company maintained its full-year guidance (to beat underlying earnings in 2012-13) as it expects a recovery in the second half.

The investment press is confident, for the most part, that earnings will pick up enough for Orica to make guidance for 2013-14. Though volumes for its explosive business have been weak so far, they should begin to lift as the US thaws out from its harsh winter.

Further, margins in the division are better than the previous year across all regions, which means the company’s services and product mix strategy is working.

The outlook for the chemicals division is still under pressure, but it accounts for just 8% of earnings before interest and tax (EBIT) and is currently under strategic review, with rumours of a spin-off or trade sale.

The majority of analysts say to buy Orica, with an average target price of $24.10 – 11.2% above yesterday’s closing share price.

The stock seems to be cheap, given it’s trading at a 14% discount to the market when it usually trades at about 8%, one newsletter says. However, it notes that Orica also will have to deliver 61% of total earnings in the second half – a record for the company, as it usually delivers just under 60%.

Achieving guidance will depend on the Australian dollar movements, the improvement of coal production in the US and Australian ammonium nitrate demand, another source says.

* According to our value investor partners, StocksInValue, the intrinsic value for Orica is $17.69. To find out more visit http://www.stocksinvalue.com.au/.

• Investors are generally advised to buy Orica at current levels.

Wesfarmers (WES)

The investment press says Wesfarmers will either return capital to shareholders or make a substantial acquisition after the sale of its residual insurance business to Arthur J Gallagher & Co for $1 billion.

Following the divestment of its insurance broking and premium funding operations – the remainder of the insurance division – the conglomerate expects to make a pre-tax profit of between $310-335 million.

The decision follows the $1.8 billion sale of the other part of the insurance division, the Australian and New Zealand underwriting businesses, in December last year.

Despite Wesfarmers’ now pleasant dilemma of what to do with the nearly $3 billion of capital, newsletters are split between holding and selling the stock. With the share price hovering around $42 and a price-earnings multiple of over 20 times, they say the stock is either at full value or too stretched.

More newsletters say to hold Wesfarmers, with analysts on average forecasting the share price to climb to $42.65 in the next 12 months.

Combined with the possibility of higher dividends, a share buyback, special dividends or a capital return, one source says current shareholders should be satisfied.

But several newsletters say an acquisition is more likely. They point to the fact that the capital return last year wasn’t popular with investors, the absence of excess franking credits, and that Wesfarmers is historically more interested in pursuing growth.

Suggestions of where Wesfarmers might buy include a counter-cyclical investment in the coal-metallurgical sector or in the retail space overseas. But, as one source notes, Wesfarmers won’t look much like a conglomerate if it does make a retail acquisition – particularly since most of its earnings already come from that sector.

* According to our value investor partners, StocksInValue, the intrinsic value for Wesfarmers is under review. To find out more visit http://www.stocksinvalue.com.au/.

• Investors are generally advised to hold Wesfarmers at current levels.

CSR (CSR)

Analysts are divided over the outlook for CSR after the building products company announced it would combine its brick operations with Boral on Australia’s east coast.

The joint venture (JV) is designed to provide more scale and save up to $10 million in overhead costs in the face of the sustained structural decline in the demand for bricks. In the longer term, the two building companies aim to consolidate manufacturing sites to lower production costs and deliver returns that can recover the cost of capital through building cycles.

CSR will own 60% of the JV and Boral will own the other 40%, as reflected by their relative valuations.

Newsletters issued a number of buy, hold and sell calls following the development, but the consensus is to hold CSR.

Sources also are divided about whether the Australian Competition and Consumer Commission (ACCC) will approve the JV. Several analysts decided not to upgrade their forecasts until the decision, which is expected in three to six months, while others say the ACCC won’t interfere and have lifted their target prices.

The consensus price target on CSR is $3.43, 2.6% below Tuesday’s close.

One newsletter, which made modest upgrades to its forecasts, says the savings from the JV are largely immaterial, equating to just 2% of CSR’s gross profit in 2014. That being said, it could unlock value through selling its old brick plants and pits at some point in the future.

Evidence of the recovery in CSR’s building product earnings is now needed to allay concerns about the stock’s pricey valuation, another source says.

* According to our value investor partners, StocksInValue, the intrinsic value for CSR is $1.76. To find out more visit http://www.stocksinvalue.com.au/.

• Investors are generally advised to hold CSR at current levels.

Goodman Fielder (GFF)

Goodman Fielder shares slumped the most on record last week when the food wholesaler downgraded its earnings forecast for 2013-14.

The stock crashed 22.1% to 47.5 cents – its lowest point in almost two years – after the company told the market it expects underlying EBIT to be 10-15% below analysts’ consensus this year.

Analysts were already predicting Goodman Fielder would post an EBIT of $180 million, $10 million below the company’s earlier guidance for EBIT to be the same as the previous corresponding period.

“Since that release, trading conditions in Australia and New Zealand have deteriorated and manufacturing and supply chain cost savings under Project Renaissance have been delayed,” Goodman Fielder said.

Nevertheless, Project Renaissance – the business improvement program – is still expected to generate cost savings of up to $150 million by 2015.

After the share price drop, newsletters are almost unanimous in recommending to hold onto the stock after several downgraded their positions. After recovering by 7% the day after the news, the stock is in line with the consensus target price of 53 cents.

In the longer term newsletters say earnings and margins may lift due to the turnaround program, but that will be offset by the ongoing tough conditions in baking and groceries – its core divisions – which could face write-downs.

One source also says Goodman Fielder’s dividends are under threat. Indeed, analysts forecast the company’s yield to drop to 3.9% this year from its current yield of 7.7%.

* According to our value investor partners, StocksInValue, the intrinsic value for Goodman Fielder is under review. To find out more visit http://www.stocksinvalue.com.au/.

• Investors are generally advised to hold Goodman Fielder at current levels.

Seven Group Holdings (SVW)

Newsletters are split over Seven Group Holdings following the media and industrial equipment company’s foray into the oil and gas sector through acquiring Nexus Energy.

While the acquisition itself is cheap at around $27 million – Seven is paying Nexus shareholders 2 cents a share – the investment press are quick to point out the deal requires an upfront capital commitment of around $215 million in debt and settlement of litigation, and a further $235 million over the next three to five years.

“Nexus energy is an excellent investment, provided there is an immediate injection of the agreed major capital in the next several weeks,” said executive chairman Kerry Stokes.

As Tim Treadgold highlights in Why is Stokes on the gas train?, Stokes’ ambition is to grow Seven into a conglomerate model akin to that of Wesfarmers. Nexus provides low-cost entry into the energy sector, particularly in gas, with exposure to gas reserves that can feed Australia’s east coast.

But newsletters can’t agree on whether it was the right move. One source raises doubts because Seven is relying completely on the significant experience of its chief executive, former Woodside boss Don Voelte, in the oil and gas sector, while another source frames Voelte’s intimate understanding of Nexus assets as sufficient.

On the whole, however, the investment press says to hold Seven Group Holdings, even after two sources downgraded their recommendations.

Sources positive on the stock say that though the metrics look pretty bleak in the short term, there’s potential for substantial upside over a longer period.

* According to our value investor partners, StocksInValue, the intrinsic value for Seven Group Holdings is $8.14. To find out more visit http://www.stocksinvalue.com.au/.

• Investors are generally advised to hold Seven Group Holdings at current levels.

Watching the Directors

• The Millner family topped the buying list this week, spending $4,252,933 on Washington H. Soul Pattinson – the company it founded. The family, who’s head Robert Millner is the chairman of Soul Patts, bought the shares at $15.586 each.
• Elsewhere OrotonGroup non-executive director, Will Vicars, snapped up $1,669,500 worth of shares in the luxury fashion accessories company at $3.71 per share.
• Meanwhile, on the selling side, Jamie Pherous, founder and chief executive of market darling Corporate Travel Management, offloaded $9,225,000 worth of stock. He sold 1,500,000 shares in the travel services company at $6.15 each.
• The last of the big trades went to Amcor chief Kenneth Mackenzie, who netted $4,445,617 from the sale of 426,026 shares at $10.435 in the packaging company.