Philip O'Sullivan's Market Musings

Financial analysis from Dublin, Ireland

Posts Tagged ‘DCC

Market Musings 4/9/2012

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Newsflow has been mercifully light today, which is a help as I’m working on a number of other projects at the moment. In this blog I look at this evening’s Irish Exchequer Returns data, results from Total Produce and a few other bits and pieces that caught my attention since my last update.

 

To kick off with the latest Irish Exchequer Returns data, covering the first 8 months of 2012, these show a big improvement in the reported deficit, which makes for great headlines, but, as I’ve previously cautioned around such releases, tells us little of value about the underlying picture. Total receipts (both current and capital) rose 12% relative to year-earlier levels, while total expenditure (on the same basis) was 14% lower. This produced an Exchequer deficit of €11.4bn versus €20.4bn in the same period last year. However, that deficit figure is meaningless unless you adjust for one-off items and timing issues. On the revenue side, the Exchequer coffers were swelled by €233m from the sale of Bank of Ireland stock last year, while there were no such one-off gains this time round. Recapitalising the listed financial institutions cost €7.6bn in the first 8 months of 2011, but only €1.3bn in the same period this year. So far in 2012 the State has injected €450m into the Insurance Compensation Fund (2011: nil), while Promissory Notes (at least on a reported basis) have cost €25m in the ytd versus €3.1bn last year. Summing these items means that to get the underlying deficit for the first 8 months of 2011 you have to reduce revenues by €0.2bn and lower spending by €10.7bn. This produces a ‘underling’ deficit of €9.5bn in the first 8 months of 2011. The same exercise for the year to date involves lowering total expenditure by €1.8bn, which produces an underlying deficit of €9.6bn between January and August 2012. So, while the headlines suggest the deficit has significantly improved, in reality the underlying fiscal position is in fact little changed. While total revenues have increased (by €2.7bn on a reported basis), this has been eaten up by items such as a €1.6bn increase in interest costs on the national debt, while voted (i.e. day-to-day, nothing to do with bank recaps or interest on the national debt) spending is €0.4bn above year-earlier levels, in contrast to claims that extraordinary levels of fiscal austerity are being imposed on the economy. So, a case of ‘a lot done, more to do’.

 

One potential positive for Ireland Inc, however, is news that at least two European insurance IPOs are planned for later this year – Direct Line and Talanx. Assuming they get off OK it will bode well for the prospects of a sale of the State-owned Irish Life and, in time, (State-owned) IBRC’s 49% shareholding in the old Quinn Insurance business.

 

(Disclaimer: I am a shareholder in Total Produce plc) Total Produce released its interim results this morning. These revealed a 6.7% increase in earnings, while management hiked the dividend by +5% and raised the full-year guided earnings to the “upper end” of the previous 7-8c range.  This is all good stuff, and I suspect the risks for Total Produce lie to the upside as we move towards the end of the financial year. I remain a very happy holder of the stock, and given that it trades on only about 5.5x earnings and has a bulletproof business model, I would consider adding to my position.

 

Staying with the food and beverage sector, UK pub group Greene King said that the Olympics made no difference to its performance. While its overall reported like-for-like sales growth, at 5.1%, is commendable, its comments on the games strengthens my conviction around my recent disposal of shares in one of its peers, Marston’s, after the last of the three clearly identifiable potential catalysts for the sector (Euro 2012, Olympics, Jubilee) had played out.

 

Botswana Diamonds, which I recently profiled, issued an upbeat prospecting update this morning. The shares closed +17.7% in London, so clearly the market liked the look of them. It’s one of the stocks I have on the watchlist at this time.

 

Switching to the support services sector, the venerable Paul Scott profiled UK staffer Staffline. You can read my profile of one of its peers, Harvey Nash, here.

 

Another support services company, albeit a rather different beast, DCC, announced the acquisition of Statoil’s industrial LPG business in Sweden and Norway. This is a sensible bolt-on deal that strengthens DCC’s position in the Scandinavian region.

Market Musings 9/8/2012

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Blogging has been interrupted this week by coursework and the Olympics, which have seen some amazing performances from Team Ireland. We’ve also seen an amazing performance from Kerry Group, as detailed in this morning’s H1 results.

 

To kick things off, as noted above Kerry released strong interim results this morning. Despite the disruption and costs of its ‘1 Kerry’ business transformation and ‘Kerryconnect’ IT programmes, the group managed to lift trading margins to 8.25% in H12012 versus 8.06% in the same period last year. Ingredients delivered this improvement, with Consumer Foods holding its margin steady despite the consumer headwinds. Kerry now expects earnings to rise 8-12% this year, an improvement from previous guidance of 7-10% growth. Other items of note in the release include an improvement in operating cashflow (€116.7m in H112 versus €104.6m in H111), while the group completed a €20m ingredients acquisition in Malaysia in H1 and since the period end has also agreed to acquire other ingredients businesses in China and Australia, which highlights the growing importance of Asia-Pacific (now 16.5% of total ingredients revenue) to the group. While this is all positive stuff, my main concern around Kerry is its rating – taking the mid-point of its earnings guidance it is trading on circa 17x earnings, which is pretty punchy for a stock carrying €1.3bn in net debt. Kerry is not one for me at that sort of a multiple.

 

In the pharma space Elan Corporation announced a big setback for its Alzheimer’s drug, which will see it take a $117m charge against it. This could have profound consequences for the stock, with some analysts reckoning that Elan could be taken over.

 

(Disclaimer: I am a shareholder in BP plc) The ‘Value Perspective’ team at Schroders posted an interesting piece about BP that shows how a contrarian approach can often reap serious rewards. I have gradually built up my stake in BP over a number of years, and used the Macondo weakness as an opportunity to ‘average down’ on my in costs as part of that. My rationale back then was that the dip in BP’s market cap between its pre-Macondo highs and post-Macondo lows was far in excess than the ‘worst case’ scenarios being sketched about how much the Gulf of Mexico spill would cost the group, coupled with research that showed previous large spills (such as Exxon Valdez) ultimately cost a lot less than what had been feared. Clearly not a ‘risk free’ punt, but it shows that straying from the investor herd can be a very profitable strategy. It’s a similar logic to what led me into Trinity Mirror (see below) at a time when the received wisdom was that ‘all newspapers are doomed’, hence you could pick up its stock for half-nothing.

 

Staying with matters BP-related, DCC made another sensible bolt-on acquisition, acquiring the former’s LPG distribution business in Britain. It perfectly complements DCC’s existing operations in that market, adding 87k tonnes of bulk and cylinder LPG to the existing network of 190k tonnes, giving DCC 25% of the UK LPG distribution market according to analysis by Davy.

 

(Disclaimer: I am a shareholder in CRH plc) CRH confirmed that it is in talks that could lead to it significantly increasing its presence in the Indian cement market. CRH expanding in India makes perfect sense, given that its cement consumption per capita, at 178kg, is the lowest of the BRICS (Brazil: 311kg, Russia: 350kg, China: 1380kg, South Africa: 217kg). I noted some commentary to the effect that CRH has no BRICS experience, but this is absolute nonsense given that the group already has a presence in three of them – China, Russia and India.

 

In the transport sector Aer Lingus released weak traffic stats for July, bringing to an end a run of strong data. It will be interesting to see if this is just a blip or the start of a new trend. Elsewhere African LCC FastJet is making some impressive progress, as this piece shows (I strongly recommend you view the video accompanying it).

 

(Disclaimer: I am a shareholder in Trinity Mirror plc) In the blogosphere Lewis has turned bullish on Trinity Mirror following last week’s strong interim results. Regular readers of this blog know I’ve been a bull on the stock for months, and it’s nice to see the thesis finally playing out – there’s a lesson there in terms of sticking to your guns in the absence of any ‘new’ information that might challenge a conviction.

 

To finish up, here are two good pieces that grabbed my attention this week – the first challenges the received wisdom about Thatcher’s policies towards Britain’s coal mines, the second explores Ireland’s craft beer revolution.

Written by Philip O'Sullivan

August 9, 2012 at 3:30 pm

Market Musings 21/7/2012

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Since my last update the latest corporate developments have been mostly about Irish companies looking to either move in or move out of other countries. Let’s examine what’s been going on.

 

(Disclaimer: I am a shareholder in Independent News & Media plc) INM confirmed that it has received “informal and unsolicited expressions of interest” for its South African business. With the group’s main lender having reportedly categorised INM as one of its “most challenged corporate relationships“, divestments to strengthen its balance sheet appear to be a must. At the end of 2011 INM had net debt of €427m. If INM were to offload South Africa and its APN stake for €350m (based on media reports on South Africa could fetch and the current market value of APN), this would cut net debt to circa €75m. Add in the €125m current market cap INM is on and it would have an enterprise value of €200m against which the firm would have All-Ireland assets which produced sales and operating profits of €363m and €46m respectively in 2011, which was clearly a tough year for the media sector here. While you would have to adjust the above profits for INM’s group overhead costs, it seems to me that the market is applying a very low multiple to its Island of Ireland division. Divesting its overseas units should draw attention to this and potentially lead to a dramatic re-rating for INM.

 

DCC issued a solid trading update on Friday, which revealed that its Q1 performance was “ahead of budget”. However, management is sticking to its previous full-year earnings guidance, which is reasonable given how heavily skewed its profits are towards the second half of its financial year. To me there was little in the release to change the narrative around the company – DCC’s proposition to investors is a strong balance sheet and a good mix of assets, yielding consistently high returns, trading on an undemanding multiple.

 

(Disclaimer: I am a shareholder in CRH plc) Press reports suggest that CRH may be considering a €1bn+ deal in India. The cement assets in question have a combined capacity of 9.8m tonnes and they would more than treble CRH’s presence in the market if acquired. We’ll have to wait and see if there’s more to this story.

 

(Disclaimer: I am a shareholder in Marston’s plc) TMF’s Tony Luckett wrote an interesting piece on the UK pub sector – only the strong will survive. In it he cites research from CAMRA,  suggesting that the pace of pub closures in the UK may be leveling off. This is an encouraging claim, and it’s something that I’ll keep an eye on to see if the trend continues to improve.

 

(Disclaimer: I am a shareholder in AIB, PTSB and RBS) The Irish banking sector was in focus in recent days. PTSB gave a non-update on its restructuring plans, which contained nothing that wasn’t already in the public domain. My view on PTSB remains that, unless it can heroically engineer a large-scale recapitalisation to pave the way for a step-up in its lending capacity, it is very likely to remain a marginal player in the Irish banking market. I struggle to see why it wasn’t shunted into AIB. Today’s press asks if RBS’ Ulster Bank is gearing up to leave Ireland – I would think this extremely unlikely given the difficulties that would be involved, particularly in terms of time and costs – the problems of moral hazard, deposit flight, extricating the bank out of lengthy contracts, redundancies and so on would make this a very messy process (think of the hassle Lloyds has had with BOSI). I suspect that while Ireland is going to be down the pecking order in terms of capital allocation from RBS’ head office over the coming years, the much lower competition relative to before in the banking sector here means that margins on new lending should be quite attractive whenever the domestic economy and the financial system are restored to vigour. As the third biggest bank in Ireland, RBS should find itself well placed to exploit this future opportunity.

 

In the insurance sector FBD Holdings appointed UK firm Shore Capital as its new joint broker following the sad demise of Bloxham. This is a curious move given that FBD’s core operations are all in Ireland – might FBD be considering a push into Britain?

 

And finally – I was interested to read that 48 tonnes of silver bullion were recovered from a shipwreck off the west coast of Ireland.

Written by Philip O'Sullivan

July 21, 2012 at 1:37 pm

Market Musings 18/7/2012

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One of the most interesting developments since my last update has been the number of European countries with negative bond yields. This has been explained as a flight to safety mixed with a currency play, but to me it represents more of a delusion of safety, given that many large European non-financial corporates, which are sitting on a mountain of cash, can offer investors the same currency exposure, a much higher yield and a stronger balance sheet than many sovereigns. Should there be any shift in sentiment away from ‘defensive’ assets such as European government bonds and towards equities, I think stock markets could push significantly higher from here as investors scramble to escape from what to me (and others) looks like a bubble in the bond market.

 

(Disclaimer: I am a shareholder in Allied Irish Banks plc) Following on from recent similar moves by its local peers, AIB announced that deposits gathered in the UK will no longer fall under the Irish government’s guarantee scheme. This is a welcome move for AIB as it will lower costs, but it is a less positive development for Ireland’s fiscal positionthe State raised €547m from ELG fees in the first 6 months of 2012.

 

(Disclaimer: I am a shareholder in Ryanair plc) There were a few developments in recent days around Ryanair’s takeover approach for Aer Lingus. Firstly, Europe’s largest LCC posted its offer document for the Irish flag carrier, which contained few surprises. Then the Irish Transport Minister said the government would review the bid based on four criteria, while this morning Aer Lingus rejected the offer, citing both competition and valuation grounds. With Aer Lingus this morning trading on an 18% discount to Ryanair’s bid price, the market continues to indicate a low probability of success for this approach.

 

(Disclaimer: I am a shareholder in France Telecom plc) There were some extraordinary developments in France yesterday, with the new government indicating that it is looking to block telecoms companies from laying off workers despite sliding revenues (Bouyges Telecom guides -10% this year, SFR expects revenues to weaken further after last year’s 3% decline, France Telecom sees average revenue -10% this year). Blocking companies from being able to right-size costs while allowing them be undercut by new entrants is a recipe for disaster.

 

The protracted takeover battle for Cove Energy appears to have reached the endpoint, with PTT winning out over Royal Dutch Shell.

 

In the blogosphere, Lewis has been furthering his knowledge of the UK motor retail sector, profiling Vertu.

 

And that’s about it in terms of what’s grabbed my attention since my last update! The main scheduled newsflow to watch out for here over the remainder of the week is DCC’s interim management statement on Friday, which I suspect should be pretty good due to the unusually poor weather we’ve been having in this part of the world.

Written by Philip O'Sullivan

July 18, 2012 at 8:48 am

Market Musings 2/7/2012

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(Disclaimer: I am a shareholder in RBS plc) Since my last update, there was a lot of talk about the likely fall-out from the Libor scandal. Cormac Leech at Liberum Capital sketched out a scenario showing that RBS could be on the hook for £6bn, which is roughly a quarter of its market capitalisation. Yesterday it was reported that the group could be facing a fine of £150m. Obviously time will tell what the ultimate costs of this will be, but it will likely prove a significant overhang on certain UK financial stocks (in particular, RBS and Barclays) for some while yet, which is why I see no reason to rush into buying more RBS shares (my existing position is only 40bps of my portfolio).

 

Speaking of UK equities, Schroders wrote a bearish piece on BSkyB – I was struck by this line:

 

[The] incredibly favourable dynamics it enjoyed until recently will not be the same going forward – potentially leaving investors who paid up for the high expectations of the past a little disappointed. Value investors will of course not need reminding of the reverse point – if you buy a business when expectations are low, the potential for nasty surprises of the kind BSkyB has encountered to permanently hurt your investment is greatly reduced.

 

Warren Buffett’s recommendation for investors to be fearful when others are greedy and greedy when others are fearful comes to mind!

 

Irish headquartered conglomerate made a €7m bolt-on acquisition in Sweden. Obviously this is small from a group context, but it does serve to remind one of DCC’s impressive track record when it comes to both buying and (in particular) selling businesses. It’s a stock I really have to find the time to look at in more detail.

 

(Disclaimer: I am a shareholder in Irish Continental Group plc) Last week saw the release of 2011 port tonnage data from Ireland’s Central Statistics Office. While there wasn’t anything particularly surprising in the overall data (remember, a lot of the results are inferred in other data releases such as external trade throughout the year), there are a number of points of note for listed marine transport firm Irish Continental Group. For starters, from an Ireland Inc perspective, total tonnage handled at Irish ports in 2011 was 45.1m tonnes, which is 17% below the all-time high of 54.1m in 2007. However, within that we see exports set a new all-time high in 2011 (15.24m tonnes), and are now 0.1% above the previous peak (coincidentally, also in 2007). Imports, which are an indication (to a certain extent) of domestic activity, at 29.8m tonnes in 2011 are 23% below peak (2007) levels. Within the Republic of Ireland freight market ICG operates in the Ro-Ro (Roll On – Roll Off, i.e. trucks) and Lo-Lo (Load On – Load Off, i.e. containers) segments at both Dublin and Rosslare ports. Those two ports handled 99% (Dublin 81%, Rosslare 18%) of all Ro-Ro freight and 69% (all Dublin) of all Lo-Lo freight in Ireland in 2011 and are poised to be the main beneficiaries of any future improvement in trade volumes. On the passenger side, some 2.9m passengers (excluding cruise ship passengers) used port facilities here in 2011, 132k of which passed through Cork. Many of those passengers would have traveled on the now-closed Swansea-Cork service operated by Fastnet Line, and some of this traffic will presumably transfer to the Rosslare-Pembroke (operated by ICG) and Rosslare-Fishguard (Stena) routes. Given that ICG has been estimated to have operating leverage of 75% (i.e. for every €1 of incremental revenue it receives, €0.75 drops to the bottom line), any pick-up in activity would have a dramatic effect on its profitability.

 

Penny stock investors may be interested in Prime Active Capital’s results, released late on Friday afternoon. Conditions are pretty tough for the group, which says: “This has become a tough business and is likely to remain that way for the foreseeable future even as we continue to reduce costs”.

 

(Disclaimer: I am a shareholder in Allied Irish Banks plc) Speaking of penny stocks, yesterday’s Sunday Independent ran a piece saying that AIB has “held meetings with potential US and Asian investors about the sale of a stake in the bank”.  I imagine that any discussions would be highly preliminary in nature, given the number of ‘known unknowns’ the group faces, not least on the impairments front.

 

In the blogosphere, Calum did an excellent analysis of the key metrics in the UK pub sector that’s worth checking out.

Written by Philip O'Sullivan

July 2, 2012 at 8:22 am

Market Musings 15/5/2012

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Turmoil in Euroland and elsewhere continues to overshadow the markets, which is a pity given that today has brought some encouraging updates from a number of plcs who presumably now wish they’d brought forward or delayed their results date!

 

Distribution and business support services group DCC issued its FY2012 results earlier today. The results contained few surprises, with  operating profits of €185m coming in towards the higher end of the guided range of €175-190m. Free cash flow, which DCC defines as operating cash flow after net capex, interest and tax, came in at €146.0m, well ahead of the €123.3m out-turn in the previous year. After taking acquisition spend of €168.1m and dividend payments of €63.2m into account, net debt rose from €45m to €128m. Despite this increase DCC’s net debt is still only 0.5x EBITDA, which highlights the financial strength of the group. Across its business units the performance was mixed, as can be seen here:

 

  • Energy (45% of group profits in FY12) – operating profits fell 38% yoy as a mild winter resulted in abnormally low demand for heating oil (DCC is the biggest distributor of home heating oil in the UK and Ireland). Total heating related volumes declined by circa 15% on a like for like basis compared to the prior year (which had an abnormally cold winter, thus exacerbating the base effects).
  • SerCom (29% of group profits) – operating profits rose 17% due to a combination of organic growth and the contribution from acquisitions.
  • Healthcare (13% of group profits) – underlying operating profits rose 5%, helped by what appears to be strong growth in sales into UK hospitals.
  • Environmental (8% of group profits) – profits rose 25% due to contributions from acquisitions.
  • Food (5% of group profits) – profits fell 7% due to the loss of a chilled distribution contract.

 

In terms of the outlook, DCC expects growth of 20% in both operating profit and EPS in the current financial year, with the main driver of this being an assumption of ‘normal’ winter weather. Based on the share price at the time of writing (€19.74) this puts the group trading on just under 10.1x forward earnings – which to me appears too cheap for a group with: (i) leading market positions in its key segments; (ii) a very strong balance sheet with ample scope to support earnings-enhancing acquisitions; (iii) a track record of generating consistently high returns; (iv) relatively low risk due to its diversification both by geography and industry into what are mostly defensive areas.

 

Elsewhere, Irish investment vehicle TVC Holdings also released its full-year results today. The results themselves were good, but updating the valuation to reflect the current situation underlines the value in this stock here. Based on where the shares closed at this evening (85c), this means the group is capitalised at €85.9m. Stripping out TVC’s cash and German bonds (€72.6m) gives a residual enterprise value for the group of €13.3m. For this you get: (i) unquoted equity investments valued at €11.7m; and (ii) an 18% shareholding in UTV Media plc which based on the current share price (£1.32) and exchange rates is worth €28.5m. Put another way, TVC’s NAV per share of €1.14 is significantly above its current market price.  What I would say is that while the ‘quantitative value’ in TVC is quite clear, given the discount it trades at relative to its ‘book value’, this makes no allowance for the ‘qualitative value’ of its excellent management team, which has a phenomenal track record when it comes to picking winners (TVC has previously sold significant stakes in Norkom, Changingworlds and Havok, to name but three successful exits, for many multiples of what it paid for them).

 

In the UK pub sector, Enterprise Inns released its interim results today. The group, which operates 6,143 pubs, said that average income per pub rose 3.2% in the first 6 months of its financial year, with like-for-like revenues in the substantive estate +1.5%. In terms of the outlook, like many of its quoted peers it sees Euro 2012, The Royal Jubilee and the Olympics as potentially supportive for trading. So, pretty comforting read-through for the wider sector.

 

From a macro perspective, PIMCO sees China’s growth rate at a 13 year low, Moody’s turned more negative on Italian banks, while as one wag puts it, having founded democracy, Greece likes it so much that it’s going to run its second set of elections in a month. I imagine that central bankers this evening are thinking about launching another bout of quantitative easing to hide these problems for a while!

 

And finally, did you know that Somali pirates cost the global economy almost $7bn last year?

Written by Philip O'Sullivan

May 15, 2012 at 5:23 pm

Market Musings 4/4/2012

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It’s been a busy couple of days in college, so I’ve been rather neglecting this blog. Let’s round up on what’s been happening.

 

(Disclaimer: I have an indirect shareholding in DCC plc) DCC demonstrated its commitment to good portfolio management once more through the sale of its enterprise distribution business for €48.1m. While the group has earned well-deserved plaudits over the years for its successful acquisition strategy, it has not been averse to selling assets from time-to-time to maximise returns on capital employed – the sale of its mobility and rehabilitation business for €37m around 18 months ago and the brilliantly timed exiting of its Irish housebuilding jv come immediately to mind in this regard. As an aside, we’ve seen some unusually cold weather in the British Isles in recent days, with snow in parts of Ireland and Scotland. Given that DCC is the leading home heating fuel provider in those areas, I assume the cold snap hasn’t done the business any harm.

 

(Disclaimer: I am a shareholder in Marston’s plc) I’ve been doing some more work on Marston’s, the UK pub group I hold in my portfolio, to help deepen my understanding of the business. I am indebted to one of the posters on ADVFN for making a report known to me, which shows the 50 top selling beers in the UK off trade. Marston’s ‘Hobgoblin’ is the 8th most popular brand in the Ale category, while Marston’s ‘Pedigree’ is #15 in the same category. While most of the top selling beers are owned by significant global concerns, I was interested to see that there are several independents represented in the top 50. I don’t see Marston’s going on the acquisition trail anytime soon, given the state of its balance sheet, but on paper some of those independents offer a similar profile of integrated beer producer and pub operator to that which Marston’s offers.  Who knows what the future could hold?

 

In the energy space, Kentz’s share price got thumped today (it’s down nearly 9% at the time of writing). The reason for this is a placing of stock by directors. Originally the firm guided that 12m shares – 10% or so of the shares in issue, would be sold, but in the event the size of the placing was increased due to strong institutional demand to 15m shares. The vendors have undertaken not to sell any more shares for another 6 months. I wonder if the indigestion from this sizable placing could lead to some near-term price weakness.  In the event that it does, I am very likely to call my broker (!) – as regular readers of this blog are aware, Kentz is a stock I sold out of at 403p/share last year and have regretted doing so ever since, and if the price gets down towards the level I sold it at again it will offer outstanding value given the clear progress made in the past 18 months.

 

(Disclaimer: I am a shareholder in Irish Continental Group plc) Merrion Capital issued its Q2 2012 preview earlier this week. It’s main stock picks for this quarter are: Sandisk, Nuance Communications, Pearson, Anglo American, Deere, Alstom, Anadarko, Unilever, Weir and ICG.

 

(Disclaimer: I am a shareholder in Ryanair plc) Speaking of transport stocks, I was interested to hear Irish Transport Minister Leo Varadkar lend his voice to calls for 25% State-owned Aer Lingus to pay a dividend. This follows similar calls from Aer Lingus’ 29% shareholder Ryanair, so with a majority of the share register leaning that way, might we see an announcement of a pay-out later in 2012?

 

Switching to macro news, we received Q1 Exchequer Returns data from the Irish Department of Finance yesterday evening. While a lot of the media headlines hailed the deficit closing to €4.3bn from €7.1bn in the first 3 months of 2011, as ever, the devil is in the detail. The deficit for Q1 2011 included a €3.06bn promissory note payment, while the deficit for this year includes a €250m loan to the insurance compensation fund. Also, the ELG contributed €283m of revenue to the Exchequer in Q1 of this year (Q12011: nil). So, adjusting for these factors, it looks to me like the troubling underlying fiscal position, despite all the talk of austerity, is little changed.

 

Regular readers of this website will guess correctly that I was unsurprised to see the EU, US and others complain about Argentina’s restrictive trade policies to the WTO.

Written by Philip O'Sullivan

April 4, 2012 at 4:23 pm

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Market Musings 19/1/2012

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The past few days have been pretty hectic as I’ve started a full slate of new subjects as part of my MBA at the Smurfit Business School. So, this blog is really more of a catch up of what’s been going on.

 

The main news, for Irish retail investors, has been that two of the microcap plcs in Dublin look like they’ll soon be delisted. Siteserv responded to media reports that it was putting itself up for sale, and given the mountain of debt attached to it I expect that shareholders will be left more or less empty-handed. Like Siteserv, Readymix has been through the wars in recent years due to the difficult macro backdrop here, but its shareholders must be pleasantly surprised to have woken up this morning to news that majority shareholder Cemex has made a preliminary 22c/share offer for it. My advice would be to take the money and run – the share price was only 3c/share before today and the outlook for the Irish construction industry is unlikely to get significantly better for a long time to come.

 

(Disclaimer: I have an indirect shareholding in DCC plc) DCC cut full-year earnings guidance again due to better than expected weather. I have to admit to feeling like I’d egg on my face given my unequivocal endorsement of the company just before this warning, but with the shares currently trading above where they were at before I expressed my bullish sentiments it’s clear that the market is, like myself, taking the view that it would be unfair to blame a company for a very mild winter.

 

(Disclaimer: I am a shareholder in Marston’s plc) C&C issued a solid trading statement in which it said that operating profits for the full year would be in-line with previous guidance at €110m. Elsewhere in the broader alcoholic drinks space, UK pub groups Greene King and JD Wetherspoon both issued strong Christmas trading updates, buoyed by easy comparatives. This gives me optimism that the most recent addition to my portfolio, pub group Marston’s, has seen a similar performance.

 

(Disclaimer: I am a shareholder in Smurfit Kappa Group plc) There was significant M&A activity in the European packaging space, with DS Smith bidding €1.6bn for SCA’s packaging business. As Davy’s Barry Dixon notes, if you apply the 6.3x EV/EBITDA SCA bid multiple to Smurfit you get an equity value of over €15 (yesterday’s closing SKG price: €5.58). Assuming it goes through, the deal would give a combined DS Smith – SCA 18-19% market share in Europe, just behind Smurfit Kappa Group’s 20%. In my view, this deal is a clear positive for the packaging sector, which is notoriously undisciplined when it comes to pricing. The more consolidation there is, the better, as the larger players will presumably encourage more rational pricing strategies.

 

SmI’ve expressed my admiration for fund manager Hugh Hendry before. I’ve also expressed my fears about the Chinese economy before. If you put the two of them together you see how Hugh Hendry’s fund, Eclectica, made 46% last year by betting against the Chinese economy. Oh, and speaking of the Chinese economy

 

Motorists – have you ever wondered about where the money you pay for petrol goes?

 

Speaking of taxes, the Irish government is planning to introduce a new broadcasting tax. In my view this is a blatant pitch by The Labour Party to cosy up to the State broadcaster, despite this being: (i) The 21st century, in which people can access information and content from all over the world at the click of a button; (ii) A model that sustains a State broadcaster that in addition to snaffling most of the taxes raised in this space also hoovers up private advertising revenue thus keeping Ireland’s privately owned media on life support; (iii) an era where the very notion of State-owned broadcasting agencies seems horribly antiquated – at best, and a possible threat to democracy – at worst; and (iv) an age in which people are consuming ever smaller amounts of traditional media. Presumably whenever the Minister goes on jollies to foreign countries he tells their political and business elite that Ireland is aiming to be a leader in digital media, while at the same time hitting Ireland’s YouTube generation with a tax to pay for inflated salaries at RTE.

 

In the blogosphere, Wexboy has commenced an interesting valuation project in which he looks at the stocks listed in Dublin. Well worth checking out.

Written by Philip O'Sullivan

January 19, 2012 at 9:14 am

Market Musings 14/1/2012

with 6 comments

From  a macro perspective, a few things have caught my attention in recent days. The British government published details of the 16 million square metres of property and land it owns across the UK – six times the area of the City of London. With significant excess capacity (550 of the 13,900 properties are vacant – while reading the article it’s clear that many of the ‘occupied’ ones are far from fully utilised) I assume that this will be an area of focus for generating new revenues / saving money for the Exchequer.

 

Now here’s something worth looking at – UK hedge fund Toscafund believes that a Greek exit from the eurozone would result in European social unrest, hyperinflation and a military coup.

 

Switching to equities, the UK retail sector is something that I’ve written extensively about in the past. Following this week’s sharp share price fall by Tesco, a lot of people are asking whether now is the time to pull the trigger and buy into the sector. Here are some perspectives from John Kingham, who asks: Are Marks & Spencer Shares Good Value? and John McElligott, who writes about many of the UK’s biggest listed companies in that space. I should add that I added some UK consumer exposure into my portfolio recently, having acquired a stake in pub group Marston’s, which I’ve written about before here.

 

Staying with UK equities, Calum has written a good piece on the listed housebuilders, that’s worth a read.

 

(Disclaimer: I am a shareholder in RBS plc) RBS has been in the spotlight in recent days. It announced 3,500 redundancies, with 950 jobs going at its Irish operation, Ulster Bank. While obviously these job losses are a tragedy for those involved, they are far from unexpected given the well-documented macro challenges facing the group. With almost indecent haste some brokers, including Seymour Pierce, have been rushing to give the shares a push on the back of the restructuring, and the price motored ahead on the back of this, closing at 24.1p on Friday having finished the previous week at 20.5p. I have a well-below-water legacy position in RBS but I won’t be rushing to add to it (or ‘average down’!) just yet – I would want to see a much brighter macro outlook before I’d consider doing that.

 

(Disclaimer: I am a shareholder in Ryanair plc) Ryanair announced a 25c per passenger charge to cover what it describes as a “new EU eco-looney tax“. Based on its current run-rate of 76m passengers a year this will raise at least €19m per annum. What’s significant about it is that it serves as a reminder that even an extra 25c in revenue per passenger can produce a chunky bit of change for Europe’s largest low cost carrier. I should also point out that Ryanair’s ‘fill the plane’ pricing model and its young fleet of aircraft means that it will always have a lower per passenger charge than its European competitors where green taxes like this are concerned, which underlines its competitive advantage. Staying with airlines, I was interested to read in Friday’s FT that of the 1.2bn people in India, only 55m flew in an airplane last year. Now that’s what I call a growth opportunity!

 

In the energy sector, Dragon Oil announced that it exited 2011 producing 71,751 barrels of oil per day, which is slightly ahead of its 70k target. Elsewhere, I found two pieces of interest in this oil sector note by Edison. The first is the chart on page 3 which rates oil stocks on an EV/BOE basis – this shows that some companies’ oil reserves are being valued at close to nothing (or in some cases less than nothing). The obvious health warning on that chart being that investors need to look at the companies’ ability to bring those reserves into production in a shareholder friendly way before rushing into all of those names. The second thing of note in the report is the question the analysts pose about the potential for consolidation in the sector, which echoes Paul Curtis’ views from two weeks ago.

 

(Disclaimer: I am an indirect shareholder in DCC) In the support services space, NCB published a research note on DCC. While they have trimmed their price target, they are retaining their buy recommendation, which I agree with – DCC is very cheap given its undoubted quality, stable business model and proven track record of creating shareholder value.

Written by Philip O'Sullivan

January 14, 2012 at 4:15 pm

Twelve for 2012 – Part 1

with 15 comments

In a recent email exchange with some of the leading share bloggers in the UK and Ireland I proposed that we each sit down and draft our thoughts for how the markets will behave in 2012, and what stocks we’d like to own to play some of those themes. Given resource limitations (I don’t know of any blogger who has a team of analysts working for them!), there will, I’m sure, be quite a bit of selection bias in the names we highlight – generally speaking, people invest in what they know! I illustrate that perfectly by choosing 5 Irish listed names in my core picks, although all of them are firms with a distinct international dimension (none of them could be described as plays on the Irish domestic economy). But despite the selection bias I do think that this is a worthwhile exercise, and one that will no doubt contribute to idea generation. As ever, readers are strongly advised to do their own research and consult a professional financial adviser if they want to invest their own money.

 

2012: The Macro Call

 

Looking ahead to next year, I see no grounds to assume that the macro situation will be materially different to that which we saw in 2011. Sclerotic growth across the leading Western economies, limited credit availability, rising unemployment, political uncertainty and austerity are all likely to be key themes over the coming 12 months. Added to the mix is likely to be a pronounced deterioration in the Chinese economy. I am gravely concerned at the rise in economic nationalism and see further policy incoherence at a European level as countries pull in different directions. However, my sense is that the euro will survive, given that its failure would lead to a deep and prolonged depression on a scale not seen for close to a century. That said, its survival will come at the expense of a weaker euro as monetary policy here is loosened to ensure its survival (given the lack of political consensus on how to fix the issue, I don’t see a solution that doesn’t involve some form of quantitative easing).

 

For me there are five key tactics to mitigate against this pressure:

 

  1. Choose firms with strong balance sheets
  2. Choose defensives over cyclicals
  3. Choose firms with significant exposure to markets outside of the Eurozone
  4. Hedge against inflationary pressures / political risk
  5. Choose firms with attractive and well-covered dividends.

 

This screen leads me to highlight 6 ‘core’ conviction investments as being particularly interesting at this time. I’ve also looked at 6 more speculative plays for people with an appetite for risk. In today’s blog I outline my six conviction picks for 2012. In the next one, I will outline my six speculative plays – PetroNeft, Marston’s, Bank of Ireland, Petroceltic, Ladbrokes and Aer Lingus. Some of my readers suggested a number of other names that didn’t make the cut for a variety of reasons (French Connection, LoQ, Software Radio Technology, Sportingbet, Orosur Mining, Soco International, C&C, St. Ives, De La Rue, M&S, Tullett Prebon, Antofagasta, Morgan Sindall, ICON, CRH, élan, Ocado), which I hope to tackle in other blogs over the coming year.

 

Six Conviction Picks for 2012

 

Origin Enterprises (Current Price €3.05, Market Cap €406m)

 

Origin has successfully repositioned its business model over the past few years, merging its fishmeal and food operations (both of which are now treated as associates) and focusing on its core agri-services business. Its recent trading update revealed a positive start to the FY12 financial year (to end-July). Origin will also benefit from a full-year contribution from the businesses acquired last year (UAP and Rigby Taylor) and the integration benefits they provide. The firm has significant firepower to expand its businesses over the coming year, helped by a strong balance sheet, while it also has the option to raise extra capital through selling off one or more of its JVs. Trading on less than 6.5x forward earnings and with a net debt / EBITDA of less than 1x, this stock is overdue a re-rating.

 

Balance sheet strength: High, with net debt of less than 1x EBITDA.

Defensive/Cyclical: Defensive.

Non-EZ exposure: Just under 60% of Origin’s FY11 revenue came from the UK. Most of the 17.5% Origin says came from the “rest of the world” (i.e. outside of the UK and Ireland) comes from Norway, Poland and the Ukraine.

Dividend yield and cover: Origin yields 3.6% covered just over 4x.

 

DCC (Current Price €18.53, Market Cap €1.6bn)

 

(Disclaimer: I have an indirect shareholding in DCC). “Consistency” is a word that comes to mind whenever I think of DCC. The company has delivered growth in EPS every year since its IPO in 1994. In this financial year (to end-March 2012) that record looks like it will draw to an end, with unusually mild weather putting pressure on earnings in its core energy division (60% of group profits).  The shares have struggled in recent times after management lowered guidance due to this weather effect, but as I’ve previously argued, this looks overdone. Profits in its four other divisions (IT, Food, Healthcare and Environmental) are all rising. The company has a consistent record of generating high ROCE (19.9% in 2010, 18.4% in 2009), helped by a solid track record of making astute investments across its business areas. While this financial year looks like a ‘blip’ due to abnormal weather, the next financial year should see a strong rebound in earnings, assuming a more ‘normal’ winter and the benefits from this year’s acquisitions.

 

Balance sheet strength: Very high. Net debt / EBITDA for the current year is likely to come in around 0.6x.

Defensive/Cyclical: The vast majority of DCC’s businesses are defensive.

Non-EZ exposure: 72% of DCC’s revenue comes from the UK, of the balance, while most of this is euro DCC has a presence in several non-EZ countries such as Sweden and Denmark, while it also has a small US business.

Dividend yield and cover: The shares currently yield 4.0% and are covered 2.7x.

 

Total Produce (Current Price €0.38, Market Cap €127m)

 

(Disclaimer: I am a shareholder in Total Produce plc) It’s hard to imagine a more defensive business than the one that distributes fruit and vegetables. Total Produce moves 250m cartons of the stuff around Europe each year, making it the largest player in the sector. Its strategy is simple – it aims to consolidate a highly fragmented industry (despite being the biggest player, it commands only about a 5% market share) and squeeze out higher margins through achieving synergies in a mature market. Trading on just over 5x next year’s earnings and yielding around 5%, its valuation is an anomaly. I see scope for a considerable step-up in M&A activity over the coming year that could lead to earnings upgrades, while further share buybacks (which would also be EPS enhancing) cannot be ruled out.

 

Balance sheet strength: I estimate that Total Produce will exit 2011 with net debt of around €70m, or 1.2x EBITDA.

Defensive/Cyclical: Very defensive

Non-EZ exposure: Roughly 50% of its H1 revenue was to the UK and “Scandinavia”, which in TOT’s case is mainly Sweden.

Dividend yield and cover: Currently yielding 5%, the dividend is 4x covered.

 

Irish Continental Group (Current Price €14.71, Market Cap €366m)

 

(Disclaimer: I am a shareholder in Irish Continental Group plc) It’s relatively plain sailing for marine transport operator ICG. While market conditions remain tough, competitors are exiting the market, which is helping ICG to gain market share. In the first 9 months of 2011 revenues in the Ferry division were flat, while Container & Terminal revenues were up just under 10%. A higher oil price hasn’t helped the bottom line, but the firm should still do about €50m of EBITDA this year (it did €40m in the first 9 months of 2011). I estimate that it’ll finish the year with net debt of only €5m or so, which highlights its balance sheet strength. At the rate at which it’s throwing off cash, I wouldn’t be surprised to see talk of a special dividend (or a rise in what’s already the 2nd highest yield on the ISEQ at 6.8%) over the next year or two.

 

Balance sheet strength: ICG is virtually debt free

Defensive/Cyclical: Like Ryanair, I would argue that it’s at the defensive end of what is a cyclical industry.

Non-EZ exposure: 23% of its 2010 revenue came from the UK

Dividend yield and cover: 6.8% yield covered about 1.7x by free cashflow. This cover will rise sharply once volumes pick up.

 

Ryanair (Current Price €3.75, Market Cap €5.5bn)

 

(Disclaimer: I am a shareholder in Ryanair) With consumers watching every penny, this is music to the ears of cut price airlines like Ryanair. Last month the carrier raised its full-year earnings guidance by 10% as passenger numbers and yields (helped by a better mix of airports) continue to rise. The big catalyst for 2012 is likely to be  a special dividend worth as much as €500m. That’s equivalent to circa 9% of RYA’s current market cap.

 

Balance sheet strength: Very strong. Depending on the timing of the special dividend, the company could be in a net cash position as early as the middle of the 2012 calendar year.

Defensive/Cyclical: Probably the most defensive stock in a cyclical industry!

Non-EZ exposure:33% of Ryanair’s FY11 revenues were non-euro (primarily sterling)

Dividend yield and cover: Special dividend equivalent to a 9% yield likely in the next financial year.

 

Gold (Current Price $1,608/ounce)

 

With central banks busily debasing currencies across the West, a strategy that will only result in more inflation, that would normally be reason enough to hold gold, given its proven qualities as a hedge against rising prices. In these testing times another reason to hold it is as an ‘insurance’ against the really ugly political and economic risks we face – including the possibility of an all-out collapse of the euro. And if that happens – what would you rather own? Something that has been a store of value for thousands of years, or a new Irish currency? This video provides an excellent overview of the merits of owning gold as part of a diversified investment strategy.

 

* All share prices and market cap details taken from the Irish Stock Exchange website. Gold price from here.

Written by Philip O'Sullivan

December 23, 2011 at 10:58 am

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