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Mark Ingham, provides fundamental research for the Purple Group. He has built up a select South African and international client base that includes institutional fund managers, stock brokers, private equity investors and listed corporations.
As a specialist in corporate analysis and valuation, he provides useful insights into profitable equity Alpha opportunities.
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Here the topics for this weeks research piece
Interest sensitives (banks, insurers, Imperial and Super Group)
Mining (Sibanye and Glencore)
Media (Tencent and Naspers)
Grocery retail (Pick n Pay)
Interest sensitives
Banks, insurers and consumer orientated durable goods and logistics stocks
Banks, insurers and consumer orientated durable goods and logistics stocks will be under periodic pressure with prevailing politics, interest rate and currency concerns. Volatility has not gone away.
Weakness this past week though has brought some stocks back into better value territory if we look through the noise.
Discovery drifted down to R117 before closing at R118,44 on Friday, just below my fair value of R120.
Sanlam traded ex dividend of 245 cents from Monday, 4 April 2016 and at R63 is just above the target of R61 that I have had but below the levels of late March and early April if I exclude the dividend from the share price. Earnings growth will be muted this coming year but if I include my dividend estimate, it is plausible to target a R65 to R68 share price on a twelve month horizon on an unchanged rating.
Old Mutual traded 4% lower this past week in London to 183 pence before closing Friday at 184.80 pence. This is very cheap. The rolling exit PE ratio is 9,3x whilst the forward yield is 5.4%. Sanlam is on an exit multiple of 14,5x and Discovery on an exit multiple of 16,8x. Even MMI, something of a laggard relative to Sanlam and Discovery, trades at a higher exit multiple of 10,5x. Asset managers such as MAN and Ashmore, which are broadly comparable to Old Mutual Wealth UK with £105 billion in funds under management, rate significantly higher if I dissect OML on a sum of the parts basis.
Per my earlier analysis on break-up value, levels comfortably above 200 pence are justified.
My updated banks’ earnings estimates together with relevant data I include in the table below.
Nedbank trades ex final dividend of 570 cents effective today 11 April. Standard is cum final dividend of 371 cents until Friday 15 April.
FirstRand retains a premium rating, for good reason, and is the most resilient relative to peers over twelve months, six months and three months.
Banks offer attractive yields and are retain sound risk metrics. As my big four banks note issued on 8 February 2016 (“Not so equal”) observed being relatively cheap does not necessarily mean banks are a great buy though.
In light of this rising interest rate cycle being atypical to historic norms, there remains heightened risks if there is continued tightening against the backdrop of a weak real economy and a weak currency and excessive government spending.
Whilst bonds have rallied and interest sensitive stocks have rallied too, this is a rally in a bear market.
A formal credit downgrade could undermine the valuations, as a higher rate means a lower present value, but this is largely priced so should not be exaggerated other than if the macros deteriorate even more - that being the case there wouldn’t be just one downgrade but more, a domino effect.
Other than FirstRand, banks’ share prices are in any event around 25% to 30% lower over a year.
Let’s take the R186 bond. A year ago, it was trading around 7.5% whereas today it is 9.2% - a difference of 1.7%. Not much one may say. In fact, from a discounting point of view it is a lot. The present value is 30% lower. If I add another 100 basis points to 10.2%, to emulate a post-Nene event of 9 December 2015, then the 30% becomes 42% on the base case. In any event, bond yields are today higher than before 9/12 whilst the repurchase rate has risen by 200 basis points since January 2014.
I have had a bearish view on Imperial for a long time – not on the management but on the business fundamentals.
The stock has been rallying of late, not out of line with other stocks sensitive to interest rates. Vehicle import, retail and related financial services makes up over half of earnings with logistics, a function of trade movements, aligned to GDP trends.
I am estimating a broadly flat year to June 2016 with an increased possibility that earnings could be down in 2017. I have EPS at 1577 cents per share this year compared with 1586 cents last year. In 2017, I estimate an 18% fall in earnings to 1293 cents. Assuming a cyclical rebound, I then project growth of 27.5% to 1649 cents in 2018. This would result in a three year compound growth of 1%.
There are any number of speedbumps along the way so the above is probably a best case scenario based on reasonable assumptions.
However, there are positives. The group has steadily diversified in logistics, assisted by cash flows from the car retail arm. A good business that’ll see through tough times.
Up until early December 2015 I had a fair value of R165 but as the backdrop weakened, particularly post-Nene and with it cost of capital assumptions, I revised down to a fair value of R120.
At the start of January the stock was around R100, half its level a few months earlier. The stock has run of late to R150 although 25% below the level a year ago.
Some funds have been accumulating IPL stock at lower levels.
In a note on 29 February, when the stock was R118, I observed that the share by is arguably too weak but there are few motivators to merit fresh money – I view I retain. Whilst the stock is on a seemingly attractive historic PE of 9,5x with an earnings decline feasible in 2017 that elevates the stock to a forward PE of 11,6x.
So not a bad idea to sell the rally.
Trading Sell and Portfolio Buy maintained.
Super Group
Super Group has changed materially since the rights issues in 2008 and 2009 and the significant losses arising at that time. International expansion in particular has been a recent feature – with exposure in Australia, UK and Germany. Super Group has a 54% shareholding in SG Fleet, listed on the Australian Stock Exchange with a market cap currently of A$870 million.
Operating profits outside Africa I estimate will exceed 55% by 2018.
Headline earnings of R169 million in 2009 grew to R862 million on an adjusted basis in the year ended June 2015. my forecast has earnings of R1 177 million in 2016.
The Group concluded a fully-underwritten rights offer effective October 2015 for a net R871 million and resulting in 35 million new shares issued at 2570 cents per share. Investors should be aware that shares in issue are now 345,2 million compared with 298,8 million as at June 2015 and the weighted number of shares for the full year I estimate at 332 million versus 305 million in 2015 so there will be a small dilution.
A 75% interest in IN tIME Holdings GmbH was bought for R784,6 million effective 2 November 2015 and ASX listed SG Fleet Group acquired NLC Pty Ltd effective 30 November 2015 for a price equivalent at that time to R2,2 billion. SG Fleet issued 9,1 million shares to the sellers of NLC as part payment.
Super group today consists of Supply Chain (Africa and Europe), Fleet Solutions (Africa and Australia), and Dealerships (South Africa and UK).
Investors too should note that Super does not declare dividends as the policy is to re-invest cash generated in acquisitions or share repurchases. In the past year 2,5 million shares worth R79 million were bought back. However, SG Fleet has a target dividend payout of 60% to 70% of profit after tax.
Debt to equity is reasonable, EBITDA interest cover is estimated at 20x, and the balance sheet prudently managed.
In have EPS for the year to June 2016 up 25.6% to 355 cents with rand earnings up by 35.5%. This good result is driven by recent acquisitions and the tailwind of a weak rand.
Whilst Supply Chain Africa is trading well it has been negatively affected by the commodity sector and in particular coal. Fleet Solutions will benefit from new contracts whilst Dealerships I expect to do better than the market as a whole.
Earnings growth I estimate at 17.7% in 2017 taking EPS to 418 cents. I have EPS at 454 cents in 2018, up 8.6%. That takes three-year compound growth to a creditable 17% if achieved.
Investors need to treat this as a growth stock as there are no dividends.
This reinvestment for growth reflects in the cash flow statement. In 2014 and 2015 Super generated R2 758 million in free cash flow and invested a gross R3 129 million. Net additions to full maintenance lease assets (cars and trucks) was R806,1 million alone. In the first six months of 2016 free cash flow of R953 million was generated and R2 207 million spent, with R1 857 million on new business acquisitions.
The catalyst for recent share price outperformance in recent months relative to peers such as Imperial, Barloworld or Grindrod is partly acquisitive but also a function of good organic results.
The stock is not cheap and trades at a substantial premium to Imperial.
On my estimates, the stock at R43.50 is on a forward PE to June 2016 of 12,3x. Taking a longer view to June 2017 the PE falls back to a more reasonable 10,4x.
Due to the relatively good earnings growth, the three year price-earnings-to-growth ratio is an attractive 0,9x. The same ratio for Imperial is 7,2x due to the fact there is no earnings growth of consequence anticipated over that period unless Imperial strikes out on an acquisition path.
Even on the rating degrading slightly as the earnings acquired kick in I have a target price of R50 and a two year target of R55.
Trading Buy ad Portfolio Buy maintained.
Gold Mining
All quite at Sibanye for now and I pick up that some face saving talks with AMCU together with the other three unions may enable a compromise particularly as the rand and gold price is more favourable since October last year. However, too soon to call on the strike front.
Sibanye closed off a bit on Friday at R55. At R57 the stock was closer to spot pricing so one need to be cautious of chasing the stock.
Per my Newsflash on Monday last week, I would rather finesse exposure at these levels, not least given unknowns on behaviour around the strike. But if we see weakness down to say the R45 to R50 region it represents a good entry point for new money. Once the platinum assets start contributing, and given prevailing fundamentals on gold, platinum and exchange rate, then Sibanye is conceivably a R75 stock.
Trading Buy and Portfolio Buy maintained.
Diversified Mining
Glencore announced at the full results that it was looking to sell a minority stake in Agricultural Products by Q2. It is ahead of the curve by selling 40% to Canada Pension Plan Investment Board for $2,5 billion in cash. There is also the right for Glencore to sell another 20% in the four-year lock-up.
I estimate an EV/EBITDA multiple of 12,5x – a very nice deal. This is a roughly 15% premium to peers.
EBITDA for the year to December 2015 came in at $734 million and EBIT at $524 million. Gross assets were $10,187 million.
Closure of the deal is expected to occur during the second half of 2016. Thereafter, a stand-alone board of directors will govern the business.
Glencore Agri is a vertically-integrated business with over 200 storage facilities, 31 processing facilities and 23 ports around the world in various export territories. Agricultural commodities include grains, oilseeds, rice, sugar, pulses and cotton.
Bids for the potential disposals of Cobar and/or Lomas Bayas expect to be finalised during Q2 and could bring in another $1 billion.
I retain my view as Glencore a preferred mining exposure. In the past week, the stock retreated to 132.10 pence per share and closed Friday at 136.80 pence, where it is below fair value on a spot price scenario of 183 pence per share or around R39 at the current exchange rate.
Trading Buy and Portfolio Buy maintained.
Media
Tencent and Naspers
The Tencent share price is HK$160 at the time of writing in Asia whilst Naspers closed on Friday at R2100. The outlook remains favourable and I am comfortable with my estimates and values.
Latest information on Tencent is encouraging with positive momentum in product pipeline.
Tencent had 30 of the top 100 grossing games in China at the end of March 2016. Naruto is #3, Honour of Kings #5, Cross Fire #8 and Legend of MIR2 is #10.
The company also announced recently three new PC games:
Path of Exile, which is licensed from Grinding Gear Games based in New Zealand.
MapleStory 2, licensed from Nexon in Korea.
A sci-fi shooting game too with role-playing game aspects.
A partnership with a video sharing website Bilibili has been agreed and as has a licensing agreement with Japanese book and video game publisher Shueisha.
Tencent Pictures is also looking at 16 large budget films for 2016.
Tencent has released a micro-gaming console called miniStation and console games that accompany it.
Tencent and Zerotech have co-designed YING, a small, lightweight drone easily controlled from a smartphone.
Naspers therefore rides on the coattails of this continuing vigorous pipeline.
In further Naspers news, e-commerce Israeli startup Twiggle has raised funding of $12,5 million from Naspers and others. Twiggle is in partnership with Naspers’ companies that will license technology to e-commerce platforms. Online sales are growing rapidly.
Could Twiggle be Naspers’ next Tencent? Time will tell but unlikely given the different characteristics. It does show that Naspers is not short of options and much of the existing development assets have of course yet to deliver in earnings.
Tencent ended the year to 31 December 2015 on a firm note with a number of useful initiatives, such as the examples above, set to continue the positive momentum.
Q4 revenue in F2015 grew by 14% quarter on quarter and 45% year on year to CN¥ 30,4 billion. Annual revenue grew 30% to CN¥102,9 billion.
Adjusted EBITDA grew by 52.3% year on year to CN¥12,8 billion with annual EBITDA of CN¥45,8 billion 40% higher with the margin also higher at 44.5%.
Gross profit grew by 40.6% year on year and by 27.4% on an annual basis to CN¥ 61,2 billion. The gross profit margin at 59.5%.
Adjusted earnings for 2015 came in 31% higher for the year, at CN¥ 32,4 billion, and grew by 28% for Q4. The adjusted annual EPS of CN¥3,485 was as per my estimate of CN¥3,48.
Operating cash flow grew 38.8% to CN¥45,4 billion. Capex continued at a high level, up 87% to CN¥8,9 billion.
The dividend for 2015 was as I estimated at HKD0,47 or about CN¥0,38. Naspers will share in 33.8% of this dividend in line with its shareholding.
I estimate 31% growth in adjusted earnings to CN¥4,57 per share in 2016 with DPS at CN¥0,50. My three-year compound growth rate on earnings off a 2014 base is 31% whilst off a 2015 base it is 28%.
My DCF value on Tencent based on free cash flows remains HK$174 per share. My sum of the parts value is HK$180 per share.
Fair value on Naspers remains R2200 per share.
Trading Buy and Portfolio Buy maintained.
Grocery retail
Pick n Pay
On 6 May 2015 I issued a note entitled “A stable foundation” which gave perspective on the initiatives to improve the competitiveness of this leading grocery retailer. Under the leadership of Richard Brasher, who took over as CEO with effect from 23 January 2013, encouraging progress is being made.
Pick n Pay reports annual results for the year ended February 2016 on Tuesday 26 April and I anticipate a pleasing performance with efficiency gains benefitting profitability.
My abbreviated estimates are in the table below.
I estimate 210,22 cents per share, growth of 18.6%. Rand earnings is estimated to grow by 20.7% and this difference is due to a few more shares to service this year due to the forfeitable share plan.
This has been a high conviction call and one that has performed relatively well. It has it is one of the few retail stocks I have recommended.
Whilst the medium term turnaround investment case is still not conclusively proven and I have a benefit of the doubt premium for now.
My fair value and target price has been R65 for quite a long time, even when the stock was below R40.
The stock has been buoyant of late, closing 7126 cents on Friday.
If 210,22 cents per share in earnings is achieved then the PE is 33,9x. That may seem pricey but less so if earnings of 300 cents per share or more is achieved in the next couple of years.
With the stock having moved by over 12% in the past month I would not be chasing it. There could be a bit of buy on rumour in the price ahead of the result. I’ll provide further analysis in due course.
Trading Buy and Portfolio Buy maintained.