Qube Logistics (QUB)
Qube's 50 per cent share price increase over the past three months has caught many in the market by surprise. The two key reasons this move was not generally anticipated is because the market overestimated the potential impact of the loss of iron ore volumes, and underestimated the positive impact Moorebank will have. The recent takeover of Toll Holdings is also supportive of Qube trading on increased multiples.
Despite weak end markets Qube achieved first half earnings per share growth of 11 per cent. The strong track record of growth has been achieved due to executing a strategic plan of removing inefficiencies in the port related supply chain. Much of this has been via acquisition and due to the experience and depth of the management team.
The diversified end market exposure also provides plenty of flexibility in focusing on the areas of the businesses with the greatest growth opportunities. For example, agriculture is currently getting more attention than iron ore.
The impact of volume losses of iron ore is not likely to be as much as some had feared because there is a take-or-pay contract with Arrium, and the loss of volume is not expected to have a material impact on earnings. Utah Point is a multi-user facility and if any Atlas (AGO) volumes are lost there will be an opportunity to replace with other customers.
The conditions for the intermodal terminal development at Moorebank in Western Sydney is expected to be finalised by the end of March. With this information to be released to the market in April it is likely to provide an upside surprise. Previously, management has spoken about a requirement to spend $1bn of capital expenditure. However, this includes $250m already spent on property. Also, there is $500m of warehousing that can be jointly funded with retailers and other partners. This means the return on capital for an additional $250m of capex to be funded by Qube is very strong.
We have increased our valuation to $2.90, and note the FY16 PE of 22 is not as high as it appears when you consider the earnings that will flow through from Moorebank.
We are downgrading our recommendation to "hold", but highlight the strong medium term growth opportunity. Any share price dips should be seen as a buying opportunity.
Vita Group (VTG)
Vita group’s interim report was well above expectations with the share price responding very positively to be up around 15 per cent on Friday to $1.75.
Underlying EBITDA was up around 70 per cent to $20.6m, excluding one-offs.
The driver was the continued benefit of cheap Telstra retail store acquisitions, and the very successful iPhone 6 launch. The launch is thought to have had a larger and longer impact than any of the prior five.
On the conference call management cautioned that it is going to be difficult to continue the exceptional run of organic earnings growth. Including the impact of acquisitions from the first half and not including further store acquisitions, management said the second half was unlikely to match the first half. This goes against the previous weighting to the second half.
A large amount of stores are now in the four-year age where growth starts to slow. Vita has systems and staff incentives that ensure strong earnings growth in the first few years. On the positive side, the business centres have being performing strongly, and management will continue to use free cash to acquire new stores cheaply.
For growth investors that bought after our first "buy" recommendation (at around 70 cents in March 2014), it may be time to take profits. Having said that, there should be support from the ordinary dividend yield of approximately 5 per cent and a further 3 per cent from the continued special dividends. Management has guided towards slowly releasing the excess franking credits over the next couple of years.
After increasing our forecasts our valuation increases from $1.40 to $1.65, and we have a "hold" recommendation. The FY15 PE of 13 is not expensive relative to the market, but it is well above what Vita Group has historically traded on.
AMA Group (AMA)
The interim result that included 41 per cent revenue growth and 66 per cent earnings per share growth provides evidence that the strategy of acquiring panel shops is increasing shareholder value.
Three out of the four divisions grew, with panel repair the strongest partly due to acquisitions. The division that didn’t grow was the Automotive Electrical and Cable Accessories. However, it comprises only $8.8m of the $44m group revenue.
Over the next few years, acquisitions will mean the panel division is going to comprise a much larger proportion of the group. In the first half one panel shop was acquired and two further panel repair acquisitions were integrated early in the second half.
It can’t be overestimated how large an impact chief executive Ray Malone has on the company. He has identified early enough the need to work closely with the insurers to ensure the company benefits from the ongoing consolidation in the panel repair market. Smaller panel shops that aren’t accredited by the insurers are being forced to sell cheaply or risk being forced out of the industry.
So far Malone has been able to acquire through free cash, and shareholders can be comforted by the fact Malone owns 25 per cent of the stock. Acquisitions funded by equity aren’t off the table, but we get the feeling Malone wants a higher share price before he considers that method. The balance sheet also has room for gearing and taking advantage of the current low interest rate environment.
We have upgraded our near term forecasts, with an increased valuation of 48 cents. We reluctantly downgrade our recommendation from "buy" to "hold" mainly because it is difficult to forecast the impact of likely further acquisitions. Similar to Qube we recommend buying on any weakness and expect the stock to be an excellent long term growth story.