Four value stocks trading at a bargain

While high-momentum, high price-earnings (P/E) ratio “growth” stocks such as Afterpay Touch, A2 Milk and ProMedicus have been all the rage in the last few years, in a market under pressure the pendulum is swinging back to the low P/E “value” stocks.

Value investors are seeing more opportunities than they have done for some time, with more companies trading at low valuations compared to the quality of the business and the companies’ opportunities for revenue and earnings growth.

As always, the prime caveat for the value-oriented investor is that some value stocks are clearly cheap for a reason, whether it be industry concerns, intense competition, management issues or disruption to an out-of-date business model. 

There is also the risk that a further leg to the market downturn can make a value stock even more compelling value numerically. But in= investing, you have to accept that you will not be able to pick the absolute bottom – as nice as that would be.

Here are four potential value plays at present – from a variety of industries and market-capitalisation bands:
 

1. Qantas Airways (QAN:ASX)

Market capitalisation: $9.1 billion
Estimated FY19 price earnings (P/E) ratio: 9.1 times earnings
Estimated FY19 dividend yield: 3.6%, 59% franked
Analysts’ consensus target price: $7.10

There looks to be good value in the Qantas share price at present, with much of the stock’s potential headwinds – increasing geo-political uncertainty and weak consumer spending – seemingly baked-in to the price, which has slid nearly 20% in the last six months.

That includes a 5% fall on 30 January, prompted by rival Air New Zealand downgrading its earnings outlook after bookings were hit by a softening tourist market. That may be stock-specific: Air New Zealand may have misjudged market growth, adding capacity that now requires heavy discounting to fill.

This has negated the benefit of lower fuel prices. Qantas has actually rationalised its domestic capacity, while the latest figures (to November 2018) show that more Australians are flying, and the airlines’ load factor (the percentage of available seating capacity that is filled with passengers) is the highest it has been in a decade.

Air New Zealand also has an issue with the well-publicised ongoing problems of the Rolls-Royce Trent 1000 engines, which are playing havoc with the maintenance and repair schedules: Qantas also has this issue, but to a lesser extent, given that some of its Boeing 787 Dreamliners use the rival GEnx engine made by General Electric. Qantas had a good first quarter, with revenue up by 6.3% to $4.4 billion, which would make any downgrade even more galling to the stock market. Assuming no downgrade is forthcoming, Qantas’s recent share price fall could well turn out to be the cherry on the cake in terms of its value.
 

2. BlueScope Steel (BSL:ASX)

Market capitalisation: $6.6 billion
Estimated FY19 price/earnings (P/E) ratio: 6.6 times earnings
Estimated FY19 dividend yield: 1.3%, 6% franked
Analysts’ consensus target price: $16.23

US and Australia-based steel manufacturer BlueScope Steel was an initial beneficiary of the Trump administration’s trade war with China, which has seen steel imports to the US slapped with 25% tariffs. The company last year won a White House deal to exempt the 300,000 tonnes of steel it ships to the US annually from Australia, while also benefiting from a dramatic lift in profits at its US operations as the tariffs sent the price of US-made steel surging to seven-year highs (in July 2018).

But US steel prices have retreated to where they were before the tariffs were announced, as slumping demand, including from China, rising US steel-making-capacity and pressure on steel customers in the US – including the big carmakers, General Motors and Ford – have weighed on them. Hints of a slight cooling in the Trump administration’s trade war with China have also affected steel prices. On the back of the slide in steel, BlueScope shares have lost 34%.

BlueScope said that President Trump’s tariffs and corporate tax cuts hugely benefited the company’s wholly owned North Star steel mill in the US state of Ohio, which makes 2 million tonnes of steel a year and employs about 400 American workers. BlueScope announced it was considering a $960 million expansion of the plant, to add up to 900,000 metric tonnes of steel-making capacity.

BlueScope has not made a price-sensitive announcement this year: in November, it forecast that H1 FY19 underlying earnings before interest and tax (EBIT) to come in around 10% higher than the $745 million delivered for the six-month period ending 31 December 2018. At that stage, BlueScope said it was seeing continued strength in demand in its major markets – the US, Australia and New Zealand – with “buoyant business conditions in key product end-use segments.”

Also, in December, BlueScope announced plans to buy back up to $250 million worth of shares as part of its FY 2019 “capital management program” that includes maintaining $200 million to $400 million of net cash on its balance sheet.

Ahead of – or as part of – the interim results, analysts are waiting for an announcement on whether the North Star expansion would proceed. Given that the US remains the most profitable steel market globally, that expectation would appear likely to hold up – which could prove a catalyst for the share price to head north again.

3. Nine Entertainment (NEC:ASX)

Market capitalisation: $2.6 billion
Estimated FY19 price/earnings (P/E) ratio: 8.9 times earnings
Estimated FY19 dividend yield: 6.7% fully franked
Analysts’ consensus target price: $2.18

Nine Entertainment has lost 40% of its value since July, as it moved toward its $4.2 billion merger with fellow media business Fairfax, completed in December. Nine now owns the Sydney Morning Herald and The Age newspapers, 59% of real estate listings platform Domain, a 54.5% stake in radio business Macquarie Media – of which it is moving to buy the balance, mostly from advertising businessman John Singleton – and the remaining half of subscription video platform Stan. It is selling off the events business, best known for running the City2Surf fun-run, and then the regional publications (including The Canberra Times) and New Zealand publishing division Stuff.

After that the strategy is to run heavily on cross-platform growth, for example using Nine’s television channels to promote Domain, or offering deals for advertisers to book cross-media campaigns for newspapers and television.

Analysts don’t see the traditional media sector shooting the lights out in terms of business growth this year, but Nine’s valuation fall appears to have pushed it squarely into value territory.
 

4. Ruralco Holdings (RHL:ASX)

Market capitalisation: $317 million
Estimated FY19 price/earnings (P/E) ratio: 10.1 times earnings
Estimated FY19 dividend yield: 5.3% fully franked
Analysts’ consensus target price: $3.60

Agribusiness Ruralco is – along with the listed Elders, and the foreign-owned Landmark – one of the three main players in the rural merchandising sector, which sells supplies to farmers, acts as livestock agents, provides real estate, grain marketing, insurance and auction services, and similar businesses.

Ruralco also has a large water broking, trading and water management business in Queensland, New South Wales, Victoria and South Australia, and a live cattle export joint venture with Frontier..

Despite the east coast drought, Ruralco reported a cracking FY18, lifting net profit by 12% to $25.2 million for the year to September, driven by growth in its rural supplies and water services businesses. The company has done an excellent job in recent years in diversifying its earnings base across virtually all Australian agricultural areas and complementary activities, in particular the Water Services division, which now contributes 22% of the company’s gross profit, and is starting to lessen the reliance on the core Rural Services division. The major worry is the live export division, currently making a loss, and the persistent drought. Ruralco is a big advocate of and investor in agricultural technology, and is digitally transforming its own business.

Given reasonable conditions, Ruralco should continue to benefit from consolidation in the rural services sector, as it continues to acquire smaller players. At just over 10 times expected earnings and a very attractive fully franked yield, Ruralco looks to be good value.