What to watch out for this reporting season

Nathan Bell

I'll keep my comments brief and let the team deal with stock-specific and sector issues. I'd just like to make two points.

First, investors are still chasing expensive defensives, including infrastructure companies and non-discretionary retailers (Woolworths and Coles). The earnings for these stocks should be fine but those that unexpectedly disappoint won't fare so well. Expectations are lower for cyclical companies than they were a year ago but they're not getting much attention anyway.

The PERs of high growth stocks, especially in the technology sector, have rocketed over the past year, despite lower profits or bigger losses. Any slowing in revenue growth might receive harsh treatment by investors. It's with this expectation that over the next two months we'll be taking a look at the likes of Appen, Xero and AfterPay. I'm hoping for an opportunity.

Second, given the lack of investment options for companies and high profits in sectors like the big iron ore companies, it should be a good period for dividends. Debt levels have risen but many companies are sitting on cashed-up balance sheets. BHPand Woolworths are two good examples. 

Theoretically, this seems like a good thing. Investors get the dividends they're paying for in a low rates world. The problem is that near-zero interest rates and easy credit reduce the reward for investing; low rates keep weak competitors alive, which can lead to lower industry returns.

At present, all the focus is on revenue growth and dividends but this has very real, adverse long term consequences. I'll leave that for another day, just like everyone else is doing.

Gaurav Sodhi

The resources sector will be fascinating to watch. Everyone expects cracking results but commodity prices have been mixed; gold and iron ore have performed stunningly and should result in stellar profits from BHP, Rio, Fortescue Metalsand the gold miners.

Fortescue ought to report some of the best results of the season and we could see a large special dividend, too. On any metric, this stock remains cheap but the market is sceptical of higher iron ore prices. We've been cautious about the company since making fast money on it (see Fortescue and the art of value investing) but most of our objections are being addressed. This is quietly becoming a better business. It's another one to watch.

Other miners, however, could face tougher times. South32 will be tested in particular and we'll be keeping an eye on higher quality copper miners. The other source of interest will be gold miners - we expect these to start generating plentiful cash flow and there might be an opportunity in the services sector as that cash is spent.

Several years of cautious capital allocation have rebuilt the balance sheets of big miners and slashed their costs. Cash is piling up. At some stage, we should start to hear about growth plans. I think Rio might be the first to move, followed by BHP; both have room to invest more in their operations.

With investors crying out for yield, companies may start to crimp growth capital expenditure and start lifting payout ratios. Yields are being richly rewarded in the market and management will be tempted. I'll be watching for the managers that succumb and those that stay on plan.

Telcos are also worth watching as the NBN crunches broadband margins. Telstra has outlined its response already but TPG is facing lower margins and regulatory hurdles for its merger with VHA.

I'm also watching how discretionary spending which will say something about how the economy is going. Lower interest rates - and the promise of easing to come - have made their mark. It looks as though the property market has stabilised, perhaps along with retail sales. The next few weeks will confirm or contradict these trends.

Contrarians ought to keep an eye on the auto complex. The industry - from Carsales.com to dealers to parts suppliers and leasing firms - has suffered. It's now getting interesting, which is why we recently wrote up Bapcor.

James Greenhalgh

Woolworths' and Coles' share prices have been strong recently, despite anaemic profit growth. I'll be watching same-store sales growth for each company, and how margins have been holding up during a period of cost growth.

While our Buy recommendation on Coles has performed acceptably, it's fair to say we've been disappointed by the business and its management since last year's upgrade. The 2020 year will again be difficult, as management rolls out another (tired?) Little Shop promotion and faces lower earnings in the Express fuel division. 

Elsewhere, even some of the stronger general retailers are facing tougher times. While Wesfarmers' Bunnings will grow 2019 profits at a lower rate than previously, the Kmart Group's department store earnings will finally fall. Overall, I'm expecting Wesfarmers' retail businesses to weaken after years of above-market growth although there will be bright spots such as Officeworks. 

As for the online classified players, I'm looking for strong revenue growth from Seek, although profit growth will be flat as management continues investing. We upgraded Carsales and Domain in November last year, but we're not expecting stellar results from either. 

As often happens, their share prices fell in anticipation of bad news in 2019 but then rebounded as the market looked to the future. A weaker housing market is affecting both companies, with fewer people buying cars or listing houses; there's unlikely to be much recovery in 2020. 

Buys from my analytical coverage list have been thin on the ground lately although one high-profile stock is set to get an upgrade before reporting season (watch this space). Otherwise, we are waiting on some potential opportunities in several other stocks on which we've recently commenced coverage. Bad news in reporting season can sometimes provide an opportunity to buy. 

The aforementioned automotive parts supplier Bapcor is perhaps the most prospective opportunity. GUD Holdings - a supplier to Bapcor - recently announced in its 2019 result that the 2020 year was looking tough. A poor outlook statement from Bapcor - or that it needs to step up its capital spending - could cause a price decline.

Plumbing supplies group Reliance Worldwide is another potential Buy but we're wary after this year's downgrades, ominous management commentary and the exit of the major shareholder. We'll be watching for some improvement in cash flow, comments about the outlook for UK acquisition John Guest, and details about new products. We may shift Reliance's price guide down on bad news rather than upgrade it. 

With lower interest rates, we'll see finance charges continue to come down, as they have been for a while. I always like to do some quick numbers to see what net profit would be if rates were a few percent higher. Interest rate declines have been a tailwind for years now but may be a headwind eventually. 

As for management commentary, I'm particularly interested in hearing from Coles. I'm not expecting much that's positive, with the flagged cost cuts unlikely to improve profitability in the current financial year. But maybe Steven Cain can slowly reinvigorate the company's stores and supply chain, even if he hasn't impressed thus far. 

Graham Witcomb

The healthcare result I'm most eager to see is Virtus's. After eight months of waiting, Medicare released IVF cycle data last week, which showed that Virtus grew 1.5% over the year, relative to 4.9% for the market - the company is losing market share. What I want to see, however, is whether it is losing share at its premium clinics in NSW and Victoria, or is it losing it to new budget clinics in Queensland. If it's the latter, then all is good. 

Another result I am keen to see is that of Ramsay Health Care. The company has struggled recently in its UK business, where lower admissions and fixed costs have caused profitability to fall. Is this a short-term aberration, or could this happen in its Australian heartland, too?

Tabcorp will be another stock to watch. This result is the first where we will get a clearer picture of whether management is on track to meet its cost-cutting targets following last year's merger with Tatts.

Estimates are for up to $145m over the next couple of years, so we're on the lookout for whether those projections are typical management over-optimism or the real deal. In Tabcorp's case, given the significant overlap between its operations and Tatts we suspect they may be genuine or even exceeded. This result will give us plenty of fodder to figure it out. 

Rakesh Tummala

The end of The Royal Commission, two interest rate cuts and property market stabilisation have all helped the banks. Share prices have rebounded and prospects for growth appear better than they were this time last year.

Still, growth is likely to remain weak. CBA is the only major bank to report its full-year results this reporting season, but it will be a good guide to how the industry is faring. What we will be looking for, beyond the result, is the management commentary pointing to any sustained demand for new loans and the rates of arrears.  

Link Administration Holdings has fallen out of favour with investors. The company downgraded earnings expectations in late May, and we took the opportunity to find a spot for it on our Buy List. 

Since then, an investor day revealed more bad news but also more growth opportunities. An update on these points would be welcome. Evidence that the company's recent stumbles are just temporary may go some way to restoring the market's faith in the company. 

AMP's new chief executive, Francesco De Ferrari, painted an upbeat but honest picture of what was needed to revive the troubled company, which has since got even harder. Despite a favourable view of De Ferrari, AMP's troubles are many and perhaps insurmountable (see our recent downgrade to Avoid). We're keen to see what has to say about addressing them.  

Mickey Mordech

This reporting season will be the first for a couple of new additions to our buy list; EML Payments (Spec Buy - $3.13) from July and Equity Trustees (Buy - $26.74) from May. 

With prepaid payment solutions provider EML Payments, we're eager to hear more about the integration of recent acquisition Flex-e-Card, the rollout of its gaming solution in Europe and progress in the salary packaging vertical.

As for trustee-services provider Equity Trustees, we'd be worried if the result was too exciting - one of the attractions is its boring, reliable cash flows - but it too has similar international growth ambitions. 

The recent purchase of Dublin-based Treasury Capital allows the company to begin providing more services globally. We'll be eager to see how this is unfolding, as well as management's take on industry conditions and an update on funds under management. 

Elsewhere, we'll be keeping an eagle-eye on footfall in the properties of Unibail-Rodamco-Westfield and Scentre Group's shopping centres. Given the transition to experience-based stores, footfall is fast becoming the most important operating metric to watch. If it continues to rise, that would affirm our view that high-quality shopping centres do indeed have an optimistic future.

Lastly, given a shaky property market, we'll be eager to keep an eye on 4x4 accessory manufacturer ARB Corp's result. So far, the company's results have remained robust in the face of a downturn in new vehicle sales. We're hoping the company might have been more affected this half than last which might bring about an opportunity to pick up this quality company.

Disclosure: Gaurav owns shares in Fortescue; JG owns Seek, Domain, Coles, Wesfarmers; Rakesh owns Link; Mickey owns EML and Equity Trustees; Graham owns Ramsay and Virtus.

Note: The Intelligent Investor Model Income and Model Growth portfolios own many of the stocks discussed. For a full listing, see the Model Income and Model Growth pages.