Due to the close relationship between share price valuations and stockbroker ratings, it should be no surprise that as the local share market continues to power on, more downgrades than upgrades colour the overall activity among sell-side analysts.
For the week ending Friday 14 June 2019, FNArena registered three upgrades for individual ASX-listed entities (of which two moved to Buy) against six downgrades.
As the background of the Australian share market’s continued push higher is also coloured with profit warnings by operationally-challenged domestic businesses, it should also not surprise the week’s overview for amendments to valuations and price targets, and to earnings forecasts are equally skewed towards negative adjustments.
Some big moves in earnings forecasts occurred during the week on the back of a profit warning by Dacian Gold, followed by perennial disappointer Syrah Resources and a challenged AGL Energy. With Wesfarmers (profit warning), Star Entertainment equally receiving large negative reductions, followed by Orocobre, Aveo Group, and Village Roadshow.
Herein lays the dilemma for investors in Australian shares: are earnings estimates about to pick up soon, or will this rally remain in the hands of the RBA, and little else?
In the good books
1. BLUESCOPE STEEL LIMITED (BSL) was upgraded to Buy from Neutral by Citi B/H/S: 3/3/1
Citi notes the stock has pulled back substantially and sector sentiment remains weak amid falling steel/scrap prices and minimal buying interest. Still, the broker suspects a market nadir may be close. Consensus downgrades are now largely priced in, and the broker points out the company’s free cash flow yield remains over 10%, enabling a continuation of the $500m per annum share buyback. Citi upgrades to Buy from Neutral and maintains its target of $14.
2. SIMS METAL MANAGEMENT LIMITED (SGM) was upgraded to Buy from Neutral by Citi B/H/S: 4/2/1
Citi notes the stock has pulled back substantially and sector sentiment remains weak amid falling steel/scrap prices and minimal buying interest. Still, the broker suspects a market nadir may be close. Given recent volatility and the sharp fall in scrap prices in the US, Citi reduces FY19 estimates by -5% and FY20-21 by -1%. A rising capital expenditure outlook reduces free cash flow but the company should be a beneficiary of improving scrap demand from expanded electric furnace capacity in the US. Given a favourable risk/reward the rating is upgraded to Buy from Neutral. Target is steady at $11.50.
In the not-so-good books
1. AMP LIMITED (AMP) was downgraded to Underweight from Equal-weight by Morgan Stanley B/H/S: 0/5/2
While the stock has de-rated, Morgan Stanley believes the risk/reward indicates the valuation is not compelling and downgrades to Underweight from Equal-weight. The broker believes it will take more than three years to re-model advice and the reshaping and strategic overhaul will consume capital released from the sale of the life business. The broker suspects investors expecting a capital return will be disappointed. Target is reduced to $1.80 from $2.15. Industry view is In-Line.
2. HEALIUS LIMITED (HLS) was downgraded to Hold from Buy by Deutsche Bank B/H/S: 2/4/0
Healius has made progress, Deutsche Bank observes, with some expansion in margins, increased GP billings and a high number of GP additions in the first half. Still, the transformation program is in the early stages and the broker observes substantial work remains to be done on rolling out a new pathology LIS platform and refurbishing medical centres. Deutsche Bank downgrades to Hold from Buy as the stock has moved above fundamental valuation. Target is $3.01.
3. MICHAEL HILL INTERNATIONAL LIMITED (MHJ) was downgraded to Hold from Add by Morgans B/H/S: 3/1/0
A review of domestic fine jewellery store footprints has indicated heightened clearance activity. Morgans expects this to lead to further gross margin pressure in the near term. Cost reductions remain on track and this should provide earnings support. Nevertheless, given the current industry conditions, Morgans downgrades to Hold from Add and reduces the target to $0.60 from $0.78. The broker assesses competitor store closures can affect sales/margins meaningfully, albeit a longer-term revenue opportunity exists.
4. VILLAGE ROADSHOW LIMITED (VRL) was downgraded to Neutral from Outperform by Macquarie B/H/S: 1/3/0
Village Roadshow has provided a trading and strategy update and Macquarie has downgraded to Neutral in response. Turnaround momentum is evident but theme park and cinema earnings are expected to be similar to FY18 and FY20 looks like being a year of consolidation. Target falls to $3.10 from $3.80.
5. WESFARMERS LIMITED (WES) was downgraded to Sell from Hold by Deutsche Bank B/H/S: 0/3/3
Deutsche Bank observes, while the outlook has deteriorated for the company’s discount department store earnings, the stock has still outperformed. Some improvement may have occurred after the federal election, but the broker also believes weaker demand in housing categories is affecting Bunnings, compounded by cycling the past success of this key division. Recent M&A activity also signals the portfolio is pivoting towards riskier assets with longer-dated return profiles. Hence, Deutsche Bank believes the current multiple is too high and downgrades to Sell from Hold. Target is reduced to $31 from $32.
Earnings forecast
Listed below are the companies that have had their forecast current year earnings raised or lowered by the brokers last week. The qualification is that the stock must be covered by at least two brokers. The table shows the previous forecast on an earnings per share basis, the new forecast, and the percentage change.
The above was compiled from reports on FN Arena. The FNArena database tabulates the views of eight major Australian and international stock brokers: Citi, Credit Suisse, Deutsche Bank, Macquarie, Morgan Stanley, Morgans, Ord Minnett and UBS.Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regard to your circumstances.