Trick to picking winners as market starts to surge

NOW that we are officially in the bull market, it is still possible to pick the wrong stocks and miss out on making money.

NOW that we are officially in the bull market, it is still possible to pick the wrong stocks and miss out on making money.

ASG Group

THE series of events at the West Australian-based IT services company should be a red flag for all investors. The group's share price has fallen 20 per cent since October, when it made the dual announcement of receiving an unsolicited cash takeover offer of $1.03 a share and a $15 million rights issue at 52¢. The rights issue was used to lower debt and was underwritten by UBS.

The group held its annual meeting in November and gave no indication of any operational or accounting issues. Then last week the company said it was writing off $14.9 million (co-incidentally almost the same value of the underwritten rights issue in October) of capitalised contract establishment costs.

It also announced it was undertaking a formal review of its accounting policies relating to cost deferrals, capitalisation and amortisation of major contract wins. The announcement was topped off by the resignation of chief financial officer Stuart Whipp, who was replaced by chief operating officer and former CFO Dean Langenbach.

All of this is disconcerting enough for shareholders, but if we look back at the past two years of accounts it becomes doubly so. ASG has booked a total of $30.3 million net profit after tax (NPAT) and $57.1 million of earnings before interest, tax, depreciation and amortisation (EBITDA). It has also told the market it will book another $13 million of EBITDA for the six months to December 2012.

The cash flow statements for 2011 and 2012 tell a completely different story, revealing a total loss of $15 million.

It is difficult to believe that once the group stops capitalising costs it will be worth anything close to its $116 million market capitalisation.

Pacific Brands

AS THE market grinds higher and higher, investors keep trawling the share tables looking for stocks and sectors that have not yet re-rated.

Clothing group Pacific Brands reported a slightly better than expected result earlier this week but gave a conservative outlook, saying sales to date for the second half have been marginally below the previous corresponding period.

The reality, however, is that investor thinking has changed in recent months.

With its balance sheet back in order and renewed confidence in the management team, PacBrands looks relatively attractive. The group is trading on a PE ratio for the year to June 30, 2013, of slightly more than nine times and a fully franked dividend yield of 6.6 per cent. With a modicum of growth in 2014, the equation looks even better with the PE dropping to eight times and the fully franked yield rising to 7 per cent. A target of 95¢ a share as we enter the 2014 financial year is not beyond the group's reach.

Macquarie Group

INVESTORS were disappointed with Macquarie earlier this month when it said it would achieve a 10 per cent jump in earnings for the year to March 2013. This was 2 per cent to 4 per cent below market expectations and leaves the company sitting on a lofty PE ratio of about 16.5 times 2013 earnings. This seems extraordinarily high given the bank achieves only a 7 per cent return on its equity.

Investors knocked 7 per cent off the share price. No doubt the result was an excuse for many shareholders to sell and move on following a near 70 per cent rise from July 2013 to February 2013.

A few days following the announcement, however, Macquarie's share price bottomed and since February 7 it has risen a healthy 7.3 per cent, recouping most of the losses triggered by the announcement.

Critically, Macquarie also said at its announcement in early February that it could do better than 10 per cent earnings growth in 2013 if markets continued to improve. Since then equity markets have continued to surge.

All of Macquarie's business benefits from a rising equity market. On this basis, it would be advisable to stick with the stock until at least the full-year result is released at the end of April. Fairfax Media takes no responsibility for stock tips.

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