Reporting season highs and lows

What do you do when revenue growth is hard to come by but dividends can't be cut? Work much harder on costs, of course. That's just one of the themes of this reporting season, especially amongst the resources sector, where costs are being stripped out at an incredible rate.

At a time of weak economic growth, the usual worries about China, Europe and <feel free to insert the worry of the week here>, expectations for this reporting season weren't high. Most companies adequately met that modest expectation. But within the flurry of results there were a few landmarks. First to find the sultanas in the spotted dick (look it up if you must) and the odd lump in the custard (sorry, it's been a long day—Ed) is our research director.

James Carlisle, research director

Things ended better than they started. Ansell was one of the stocks to drop an early bombshell, with its warning that 2016 earnings per share would be about 9% lower than previously anticipated as 'customers deferred or reduced orders to adjust inventory levels amid a general weakening in the external economic environment'.

There's a lot to like about Ansell, though – a collection of valuable brands, a large and entrenched distribution network and substantial economies of scale – so the initial 20% fall in the share price looked like an overreaction. We were pleased to upgrade to Buy and buy the stock in both our portfolios. So far the market seems to have come round to our way of thinking, with the stock recovering more than half its initial loss.

Another stock to get rough treatment early on was Computershare, which fell over 10% in the week following its result despite reiterating its full-year guidance (somewhat half-heartedly). I suspect, though, that the market is more worried about the potential impact of 'block chain technology' on the share registry business.

What's that I hear you ask? A public block chain is used as a ledger for all the transactions in bitcoin. The concern is that something similar might happen for sharemarket trades. We're no experts but doubt investors will cede control of their shareholdings to a piece of computer code for many, many years.

GBST seemed to support this view when asked about block chains in its results conference call, averring that 'clients will still need books and records'. As is often the case with this company, a good story was sold badly. The stock initially fell around 10% after a bungled results presentation, despite overall guidance being reaffirmed, probably in the absence of any firmer guidance around the UK operations. Some apparently more bullish commentary over lunches with brokers and then on a conference call two days later helped the stock recover the losses and it now stands 8% higher than when the result was announced.

With plenty to gain by demonstrating to regulators the innovation it might bring to equities clearing and settlement, ASX was talking up block chain technology in its results, which were pretty decent, boosted by capital raisings from the big banks. With a fully franked dividend yield of 4.6% it remains on our Buy List.

The wealth and fund managers generally finished the season off well, although for different reasons. AMP recorded a 7% rise in underlying earnings per share, with funds flowing into its management and advice businesses. We prefer IOOF Holdings, though, largely due to its cheaper price, which registered an 11% gain in underlying earnings per share. The improvement was entirely due to the recently acquired Shadforth Financial Group but, as explained in our review, it was not much the worse for that. The market seems to agree, sending the stock up 15% since the result.

Underlying earnings per share were flat at Perpetual, with a strong performance from its Corporate Trust business and cost savings making up for lower funds under management. The result was slightly ahead of our expectations and gives the stock a fighting chance of matching 2015's earnings for the full year.

Platinum Asset Management managed a 19% rise in earnings per share thanks to a 12% increase in average funds under management, helped by an inflow of $263m on the listing of the new listed investment company, Platinum Asia Investments. It didn't get much thanks for it, though, with the market initially sending the stock down around 5%, although it has since recovered.

All up, despite all the wailing and gnashing of teeth in the media over the market's ups and downs, these market-facing businesses have had a reasonable half, reflecting their strong market positions and pricing power. The second half might be tougher for some (notably Computershare) but disasters are unlikely.

Gaurav Sodhi, deputy head of research

The losers were obvious. Anyone can recite the names without even looking at their results. Miners, energy producers and mining service firms all reported results somewhere on a scale between poor and abysmal. Our two recommendations in the sector, BHP and South32, reported results that looked terrible but, with a deeper look, weren't as bad as they first appeared. 

BHP is still generating strong cash flows and the sensible decision to cut dividends provides some breathing room for the balance sheet. South32 now has the best balance sheet in the business and is ahead of schedule on cost cutting. Both remain Buys.

Rio's result was very strong and shows that it is still the best operator in the industry but our buy price remains unbreached. It remains a Hold while we wait for the opportunity to strike.

Gold stocks reported a belter. We picked a portfolio of goldies some years ago but, from a selection of four, just one has worked out, leaving the portfolio with a tiny profit. I'm increasingly of the opinion that these stocks depend too heavily on the impossible-to-predict gold price, rendering any deeper analysis largely redundant. As I look around the office, I suspect I'm not alone in that view.

Every commodity except gold is actually used for something. Gold sits in bank vaults or rests ornately around our necks and fingers. Against that backdrop, any analysis of demand and supply is all but useless. And since mine supply accounts for just 3% of total supply, marginal production costs also make little difference. Gold is as close to a gamble as you will find on the sharemarket. We won't be revisiting this sector for some time.

Telstra reported a poor result. Its days as a high-earning utility look numbered. We should prepare for a more competitive industry where margins are lower. In that context, the business is fairly priced but certainly not cheap.

Energy stocks were predictably awful but Santos was weaker than expected and Origin, which is doing well in its retail business, stronger than expected. We are looking for some exposure to oil right now but producers are too pricey and service companies are poor quality. We keep looking. 

Wesfarmers delivered a standout result in my opinion. In aggregate, it wasn't that impressive and James Greenhalgh pulled it apart nicely in this review. But the returns from its retail divisions? Absolutely staggering. Both Bunnings and Kmart generate a return on equity of over 35%. Truly amazing. 

Blackmores also delivered a very impressive result and I can't help wondering whether my personal distaste for its products has coloured my view of its value [Probably—Ed]. It looks terrifically dear but the company is targeting huge markets with long runways. If it can continue growing at these rates, it may not be that pricey. Domino's Pizza falls into the same category – expensive-looking but with great growth opportunities.

James Greenhalgh, senior analyst

For the companies I cover the 2016 interim reporting season wasn't particularly painful. None reported terrible results although some, of course, were worse than others.

The winners were perhaps the best businesses I cover: the online classified companies. Here, Seek was the standout, with a poor performance from its education business failing to dampen a better than expected 18% profit increase from Seek Domestic and 36% earnings growth from Seek International. This is pleasing after we upgraded the stock in September last year.

Both the Carsales and iCar Asia results were in line with expectations, although the market seemed to be expecting more than the former's 8% profit growth. Trade Me's flat profit was also in line with expectations but the outlook has improved, with management's investments in staff and technology starting to bear fruit.

While the 2015 and 2016 earnings outlooks for Trade Me haven't really changed over the past six months the price has, rising more than 40% since the 2015 result. It's now not far from a recommendation downgrade (to Hold). REA Group produced another strong result, although the business has diversified away from Australia over the past 18 months, with a lot more investment in early-stage ventures overseas.

While the 'new media' online classified businesses did well, the old media companies were perhaps the losers. While Fairfax Media's Domain is exceeding all expectations, the legacy newspaper assets are deteriorating fast. News Corporation, while more diversified than Fairfax, has not been immune either. Advertising revenues at Fairfax's and News legacy assets fell 12–14%. Revenue declines are not a surprise but the market seems to be having trouble adjusting to each business's transition. News Corporation in particular looks excellent value.

Retailers were pretty much in line, with Woolworths perhaps a little worse than expected (although that might be a good thing, as margins needed to come down). Earnings in the company's food, liquor and petrol division plunged 31% and margins are now approaching those of Coles. More important than the result, perhaps, was the appointment of an internal CEO, whom we think is a good choice. But there could be more bad news here given the company's cultural issues and the possibility of mistakes.

Wesfarmers' result also met expectations, with good retail performances offsetting a dire result in the Resources and mining-related divisions. Coles's growth seems to have slowed as it attempts to inhibit Woolworths' recovery. With both jostling for price leadership, grocery retail margins are unlikely to expand any time soon. Bunnings produced another amazing result and keeps proving itself to be Australia's best retailer.

Elsewhere in the consumer goods space, Coca-Cola Amatil's result was a little better than expected. The company managed to maintain earnings in Australian Beverages, a strong result given competition from cheaper water brands and consumer concern about the health aspects of soft drinks. While Indonesia is underperforming there's some upside there, especially now The Coca-Cola Company is a shareholder in that business.

So all in all, Seek was probably the best result, although no companies really surprised on the upside (or downside) much among the ones I cover. The main theme seems to have been that the market was expecting results to be worse than they were and, when they came in as expected, there were some 'relief rallies'.

Graham Witcomb, analyst

This has been my favourite results season in years, with many big price swings creating opportunities.

The standout result for me was glove and condom maker Ansell. A poorly performing Medical division and supply constraints caused a 7% decline in revenue. The share price, however, plunged over 20%. Ansell is a high-quality stock with a formidable distribution network, economies of scale and the broadest product range of any competitor. Unfortunately the market caught on quickly that the reaction was overdone so the opportunity was short-lived. The stock has risen 14% since we initially upgraded it in Ansell: bad news, good news from 4 Feb 16 (Buy – $15.49) but our Growth and Equity Income portfolios managed to buy in at $15.05 the day after that review.

After years of patiently waiting, FSA Group was finally upgraded to Speculative Buy. For those who don't know this minnow, FSA administers debt agreements for personal insolvency. Interestingly, though, the company had a 6% decline in customers this half in line with the overall industry, suggesting that the general economy might be in better shape than the media is letting on. FSA has a dominant market share, operating leverage, juicy profit margins and the opportunity to reinvest capital at high rates of return.

Suncorp performed poorly with revenue falling 8% to $7.8bn and net profit falling 16% to $530m. We're increasingly concerned by how the Life Insurance division will hold up if Australia enters recession. This would likely lead to losses as income protection claims increase and unemployed workers let their policies lapse. We lowered our price guide to bake in a larger margin of safety given the mounting risks, although it remains a Hold.

Though not results related, we weren't impressed by ResMed's US$800m acquisition of US-based software company Brightree. Management paid an eye-watering sum – 19 times operating earnings – but had a difficult time explaining the strategic logic. We'll be monitoring things closely to see that this isn't a case of the dog catching the car.

For me this reporting season was a reminder that fortune favours the prepared. It pays to educate yourself about companies and industries in anticipation of future opportunities. They may be short lived. 

Jon Mills, analyst

An interesting theme with the banks is that provisions remain at very low levels, due to continuing very low interest rates. CBA reported its interim result whereas NAB and ANZ released their Q1 updates. Due to the billions in additional capital that ASIC has forced the banks to raise, they are now much better capitalised but the resulting reduction in leverage will mean lower returns on equity.

Along with slower credit growth, earnings and dividends are likely to grow at much slower rates compared to recent years. The three big banks that reported didn't cut their dividends but this remains a distinct possibility. We've warned about the risks the banks face from high house prices for many years and their overexposure to residential mortgages remains a major risk.

The other major theme is that, despite all the doom and gloom in the media, the economy is slowly but steadily transitioning away from the mining boom. Low interest rates, a lower Aussie dollar and low petrol prices are all helping. A notable winner in this regard was The Star Entertainment Group (formerly known as Echo Entertainment) due to its casino benefiting from the booming NSW economy.

As for the losers, and whilst its result was quite good, founder Len Ainsworth has decided to sell his 53% stake in Ainsworth Game Technology. Whilst we prefer insiders to own significant portions of stock, one problem that can arise is that insiders who control the company can act in ways that aren't necessarily in the interests of minority shareholders. Given that the benefits to the acquirer – the Austrian Novomatic – appear to outweigh any benefits to minority shareholders, we hope it is blocked but doubt it will be. Another possibility is a competing proposal but so far there haven't been any signs of one. 

Andrew Legget, junior analyst

With most of their income generated by lease contracts that span many years, the reporting season for property trusts was unsurprisingly uneventful. Low interest rates gave companies the chance to lock in lower borrowing costs, helping to increase distributable profit. It also reduced capitalisation rates, increasing the value of property; as a result, almost all the property trusts we cover enjoyed healthy increases in their net tangible assets. As an example, whilst ALE Property Group's rental income only increased 2%, the value of its portfolio of pubs rose 6%, helping to push its NTA up 27%. 

Rather than sitting back and celebrating the higher value in their portfolios, many trusts were quick to complain about the difficulty in finding reasonably priced properties to acquire. Unsurprisingly, very few acquisitions took place and the number of properties owned for many companies fell. Many appear to have taken advantage of high prices to sell 'non-core' assets and boost returns through redevelopment.

That theme was particularly important for the retail property sector. Not only are attractively priced properties and sites hard to come by, online retailing has also meant that shopping centres now need to provide a premium shopping, dining and entertainment experience to convince customers to come inside rather than sitting in front of their computer.

Stockland, Vicinity Centres and Scentre Group, as well as internationally-focused Westfield Corp, all boasted of a development pipeline in the billions. Stockland also pointed out that its redeveloped centres produced a return 1% higher than acquiring new centres.

Whilst reporting season for the sector was generally positive, spare a thought for poor Western Australia. The mining downturn has hit the WA economy hard. Whereas the rest of Australia was basking in the glow of higher property values, one office tower in Perth, owned by Dexus, had its value slashed by 17%. The annexure to Stockland's results presentation has the Perth market deteriorating on almost every measure from price growth, building approvals and occupancy levels. Finally, tenants in Western Australian shopping centres had much lower, if not negative, sales growth compared to the rest of Australia.

Note: The Intelligent Investor Growth and Equity Income portfolios own shares in many of the stocks mentioned in this article. You can find out about investing directly in Intelligent Investor and InvestSMART portfolios by clicking here.

Disclosure: The authors hold many of the stocks mentioned in this article.