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Reporting season is hard to keep up with at the best of times. This year has been a doozy. Investors need their COVID-19 goggles on to interpret pandemic-influenced results.
Three trends stand out.
First, retailers are posting record profits as consumers load up on gadgets, homewares and other goods. Blowing part of your super on a new TV or laptop (beyond stupid, in my view) has been a boon for JB Hi-Fi, a preferred stock of this column.
Second, few companies are providing guidance for FY21. Who can blame companies for not giving the market a “steer” on future earnings, given COVID-19 volatility? Investors have rewarded a small group of companies prepared to stick their neck out with guidance.
Third, share-price madness. How does Wisetech Global (another column favourite) go up by a third after its result in this age of continuous disclosure? Algorithmic trading, that’s how. Granted, these are unusual times, but computer-driven price volatility is increasing each year.
If this year’s earnings season were a court case, the lawyer defending corporate profits would say they were collectively a bit better than expected. Opposing council would say it was hard to read too much into earnings given COVID-19 and the rivers of temporary government stimulus.
My take? The Australian economy is not quite as sick as official data suggests, judging by FY20 profits. But FY21 economic uncertainty is rife, based on the lack of earnings guidance.
Still, this year’s profit season sets our share market up for stronger gains next calendar year. Caveats apply: a COVID-19 vaccine within 12 months (my base case), case-number containment, state borders reopening, and so on. It won’t take much to fire up the bulls even further.
After ploughing through dozens of reports, I have identified nine companies that stand out. Some, such as Wisetech, have been covered here before. Other stars, such as A2 Milk and IDP Education, have been covered here previously. Some ideas are new to this column.
I will outline the nine ideas over three consecutive weekly columns. Here are the first three:
The share market’s relatively modest response to Austal’s FY20 result surprised. The ship builder posted a strong result in its Australasia and United States divisions.
Austal designs makes and supports vessels for defence customers and companies worldwide. About 85% of revenue is in defence vessels and Austal is known for supplying its Littoral Combat Ship to the US Navy. Austal also makes a range of high-speed vessels for government agencies.
After-tax net profit rose 45% to $89 million in FY20, on $2.1 billion of revenue. Austal delivered nine ships, 10 were ordered and 45 are under construction or scheduled. The company’s $4.3-billion order book gives a long runway of work.
A US$100-million investment in extending Austal’s Alabama shipyard to build steel warships (half-funded by the US government) will set the company up for faster growth. Austal says new naval opportunities will increase threefold because of the shipyard investment.
Austal’s Defence Support business has grown tenfold over the past six years. Ship maintenance work is a lower-risk income stream that complements the big-vessel builds. Austal says support revenue could grow from $360 million to $500 million in the next few years.
In spite of these gains, Austal is down from a 52-week high of $4.99 to $3.30. The stock trades on a forward Price Earnings (PE) of about 14 times – a discount to its global peers. Watch the well-run Austal reclaim its 52-week high in the next two years as the market re-rates it.
Chart 1: Austal
The metal-detector and radio-equipment manufacturer had a cracking result. Sales rose 29% to $348 million and after-tax net profit jumped 40% to $64 million for FY20. The share price rallied on the news and has more than doubled over 12 months.
Strong growth in metal-detector sales (two thirds of group sales) underpinned Codan’s record profit. A hot gold market is a boon for metal-detector sales from recreational gold prospectors and small-scale artisanal prospectors, often in emerging countries who use hand-held devices.
Major contract wins drove higher sales of Codan’s tactical communication device and land mobile radios. Codan says it is expanding in the military market, forming strategic partnerships and transitioning to a full systems and solutions provider.
I like Codan on a few fronts. First, I have a positive view on gold over one to three years. I wrote last month to beware of the soaring gold price at the time, for a pullback was imminent after the metal ran too far, too fast. Nevertheless, gold has good medium-term prospects.
Second, Codan is making inroads into the military market. The sector is hard to break into, but long-term military contracts for communication devices take Codan in new directions. After mostly flat growth over the past four years, the division has good momentum.
Third, I like Codan’s expanding global footprint and innovation focus. The market has for years under-recognised Codan on this front. For casual viewers of the company, there was nothing special about metal detectors.
Look closer and you see an emerging mid-cap company with an extensive new-product pipeline, customers in 90 countries and exports providing 90% of sales. Australian mid-caps that export a sustainable competitive advantage to a global customer base are rare.
After the recent rally, Codan is due for a share-price pullback or consolidation. Gains will be slower from here in the next 12 months, but the company, now at $11 a share, has solid growth prospects.
Chart 2: Codan
I wrote favourably about the casino operator for the Switzer Report in June at $3.17 a share. Apart from a brief rally to around $3.60, The Star hasn’t done much since and is now trading at $3.11.
Granted, it’s an awful time to own casinos and hotels, or sell fancy apartments. International and state border closures, lockdowns, social restrictions and general gloom and doom have crushed Australia’s tourism sector. The absence of foreign tourists has belted casinos.
The Star reported underlying earnings (EBITDA) of $430 million for FY20 – ahead of the consensus forecast. A strong performance before COVID-19 erupted in February and helped the result. Earnings in the first two calendar months of 2020 were higher than at the same time the year before.
All The Star properties closed on March 23, with restricted re-openings in June and July, because of COVID-19.
The Star’s performance early in this financial year is encouraging. I wrote in June that Electronic Gaming Machines (EGMs) would be early beneficiaries of health-restriction easings. Sadly, there are too many habitual gamblers who pour money into pokies and were itching to feed the machines when restrictions were relaxed.
Another casino operator, SkyCity Entertainment Group, said in June that EGM revenues at its Auckland and Hamilton casinos, since restrictions eased, were 80% of average daily revenue in the eight months to February 2020. I thought The Star’s EGM activity would also rebound. It has.
The Star management has done a good job cutting costs, reducing debt and managing the business through the COVID-19 crisis. Longer term, The Star has the eye-catching Queen’s Wharf development in Brisbane underway (50% SGR).
The Star will benefit as economies in New South Wales and Queensland recover next year. The new Crown Sydney will be a formidable competitor next year, but The Star’s attractions for domestic customers, many of whom favour the venue for its slot machines, should support earnings for the Sydney operation.
Investors need patience with The Star. Near-term re-rating catalysts are hard to find. A better-than-expected FY20 result only provided a temporary share-price boost, such is the market’s pessimism towards leisure and entertainment stocks during COVID-19.
That’s an opportunity for long-term investors. The Star has an undemanding valuation at the current price and will be firing on all cylinders in a few years as Queen’s Wharf opens and the company’s revamped Gold Coast and Sydney offerings hit their stride.
Chart 3: The Star Entertainment Group