Commentators often describe profit-reporting season in black and white terms – the season was a winner or loser for investors. Often, the best reporting seasons are just a touch better than expected, but they justify valuations and set the market up for further steady gains.
That is how I would characterise the latest reporting season, now winding down. It was a solid, rather than spectacular set of results and a reasonable performance, given rising energy costs, drought, political uncertainty, consumer nervousness and other risks.
About 47% of results beat market expectation, noted AMP Capital Investors. That was just ahead of last year and up on the 44% average. Almost four in five companies reported higher profits than a year ago, well up on the norm of 66%.
Averages, of course, can deceive. Analysts have downgraded FY19 earnings growth forecasts by more than 1% since the start of the reporting season, according to Macquarie Group. And gains in the resources sector are inflating collective earnings-per-share growth elsewhere.
Reporting season had little impact on the market – the S&P/ASX 200 index is up 2.5% this quarter (on a total return basis) and about 7% so far this calendar year.
But there are always outperformers within that, particularly among small and mid-cap companies that continue to be a strong source of alpha (a return greater than the market return). Several small-cap results impressed this season.
I commented on three last week for this Report: Breville Group, Nick Scali and Navitas. Here are five others that have caught my eye.
Some are included because they beat market expectation, others because their result reinforced my argument on the stock and I wanted to update that commentary, or they look undervalued relative to the quality of their result and outlook.
As small- or mid-cap stocks, they suit experienced investors who can tolerate higher risk.
- Cleanaway Waste Management (CWY)
I outlined a bullish view on listed waste companies for this Report in July last year, singling out Bingo Industries, which has rallied this year and recently delivered a good full-year result.
The waste industry is leveraged to long-term population growth in Australia. More people equals more construction and infrastructure building, and thus more waste that needs to be collected, recycled and disposed. Industrial waste, in particular, has good prospects.
I was mistakenly bearish on Cleanaway, on valuation grounds, in that Report. Cleanaway has rallied from $1.31 in July to $1.92. Its FY18 result, just ahead of market expectation, delivered 16% growth in net revenue to $1.56 billion and Cleanaway was confident about FY19.
My view on Cleanaway changed after its acquisition this year of Tox Free Solutions, a terrific small-cap waste disposal provider that I followed for many years. Cleanaway is making good progress on integrating Tox and delivering synergies, and the acquisition should drive faster earnings growth.
Macquarie has a $2.40 price target for Cleanaway and the consensus target, based on six broking firms, is $2.06. I’ll join with the bulls on this one, given the upside from Tox and stronger growth in waste industry revenue in the next few years.
- Southern Cross Media Group (SXL)
My story on radio stocks for the Switzer Report early in August was timely. Southern Cross Media and HT&E posted solid full-year and interim results respectively and their share prices rallied after losses in 2017.
Southern Cross’s FY18 result broadly met market expectation, and FY19 appears to have started well, according to the result commentary. Ratings are improving, especially for Hit FM, and Southern Cross seems to have more momentum than it has for some time.
Longer term, I like the radio industry’s prospects as population growth leads to more people on the road, longer commute times and a larger radio audience. Growth in podcasting, an area in which Southern Cross is building its presence, is another positive.
Short term, Southern Cross could be a takeover target for a larger media company that wants a bolt-on radio acquisition. With or without takeover, Southern Cross has improving prospects and looks modestly undervalued after recent share price gains.
Southern Cross Media Group (SXL)
- Auckland International Airport (AIA)
I wrote favourably on the New Zealand airport operator for this Report in November 2017, describing AIA as one of the top tourism-related stocks on the ASX.
AIA has rallied from $5.55 to $6.54 since then and its FY18 result impressed. After-tax net profit of NZ$263 million was 6% up on a year earlier and ahead of guidance. The airport’s retail operations stood out, thanks to the redevelopment of its international terminal, with more growth to come in FY19 from an expanded retail offering.
My long-term interest in AIA remains unchanged: New Zealand, like Australia, is benefiting from a boom in inbound Asian tourism.
Like Sydney Airport, AIA has plenty of redevelopment and expansion potential, as more visitors spend more time in airports and the larger ones start to resemble upmarket shopping centres.
AIA has regulatory risk as the NZ Commerce Commission decides on aeronautical pricing charges late this year – a headwind that could constrain its price rally.
Nevertheless, AIA looked oversold this year and its recovery has further to run in the next few years.
Auckland International Airport (AIA)
- Reliance Worldwide Corporation (RWC)
Readers will recall that the plumbing products group was one of my favoured small-caps after its 2016 IPO. And that I went cold on it, largely on valuation grounds earlier this year, after the stock soared to $5.34. Reliance then rallied to $6.21, but a disappointing result has it at $5.40.
The market was itching to take profits, and softer guidance than expected for FY19 gave investors an excuse to sell.
The FY18 result was solid and Reliance has already upgraded synergies from its $1.22-billion acquisition this year of John Guest in the UK. I was concerned about integration risks with John Guest – too many Australian companies have failed with major overseas acquisitions over the years. So far, so good, with this deal.
Still, market sentiment for now is against Reliance and further share price falls are a good bet. Reliance, a high-quality company, would look a lot more interesting below $5 and may get there in a hurry if the market star loses some of its shine.
- Autosports Group (ASG)
The owner of new and used luxury car dealerships has disappointed since is November 2016 float. Autosports raised $159 million through the issuance of $2.40 shares, now $1.61. Like other car dealerships, Autosports is battling a slowdown in sales.
Autosports grew FY18 revenue by 21% to $1.75 billion in a flat market. Much of this came from acquisitions, although there was a small amount of organic growth. Still, if Autosports can engineer growth in a tough market, it will do much better when its sector improves.
Autosports is doing a good job diversifying its revenue streams so that it relies less on new car sales, which it says will remain challenged in FY19. Autosports has scope to add more back-end services: maintenance, panel repair, finance, insurance and so on, and expand margins.
At $1.61, Autosport is trading on a forecast price-earnings (PE) multiple of just under 10 times, which is not overly demanding, given Autosports’ capacity to grow by acquisition in a fragmented sector (and presumably pay less for acquisitions in this market).
Investors have factored in too much bad news, but do not expect a quick recovery. The release of 94 million restricted shares from escrow on September 12 could weigh on the price if early investors decide to sell.
- Tony Featherstone is a former managing editor of BRW, Shares and Personal Investor magazines. All prices and analysis at 29 August 2018.
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